Karbank Blog 

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Shortly after my father started Karbank Real Estate Company in 1950, he was asked by a client to manage some apartments in a less than desirable part of town.  On Thanksgiving Day that year, he received a phone call from the police saying that there had been an explosion in one of the apartments.  Hat in hand, he explained apologetically to my mother and the other guests at the Thanksgiving dinner that he had to leave to respond to an emergency.

It turned out that a deadbeat tenant at the apartment had skipped-out on his lease in the middle of the night and took the stove with him.  Not bothering to turn off the gas, the tenant plugged the gas line with a potato.  The inevitable explosion, which fortunately injured no one, resulted in my father enduring endless ribbing from family and friends about new recipes for potato-based dishes (flaming potato soufflé, flash roasted potatoes, potatoes baked Alaskan, instant French fries, etc.).  It also convinced my father to get out and stay out of managing residential real estate.

Steven Karbank

A client of our company was looking for a piece of land on which to build a building.  After a windshield tour of various sites, the client decided to walk one of the sites a few days later.  While doing so he was terrified when he came across some bones that appeared to be human.  Deeply concerned, he photographed the bones and emailed copies of the photos to the police.  The police investigated and determined that the bones were---[insert scary organ chords from a Vincent Price horror movie]---probably from a small deer or a coyote.  Nevertheless, in any real estate deal, it’s better to do more due diligence than less. 

Our company was in the process of finalizing a long-term lease extension with a bank on one of our properties.  The deal required us to make a few hundred thousand dollars of tenant improvements to the premises.
  

During that time, it so happened that the plastic coin jar into which I put my spare change fell on the floor one evening.  I picked up the coins and put them into another container.  The next day, I took the coins to the coin counting machine at the bank.  While there, I ran into the banker with whom I’d been working on the real estate deal.  He seemed a bit amused that I was loading the coins into the counting machine.  We talked for a few minutes about the real estate deal.

When I returned to the office, I emailed him:  “Yes, I now have $290 cash to use for the TIs [tenant improvements]…!  I’m checking all my pockets and hope to come up soon with the other $199,710!”

Steven Karbank

There was a fascinating article recently in the Financial Times about the investment banker Siegmund Warburg, founder of SG Warburg & Co.   Naill Ferguson, the author of the article, quotes Warburg’s “important elements of a first-class private banking business”:

1. Moral standing

2. Reputation for efficiency and high quality brain work

3. Connections

4. Capital funds

5. Personnel and organization

Those elements should be important not only to an investment banking business, but also to a real estate business and, for that matter, to all businesses and organizations.  Sometimes values that are derided as quaint and old-school re-emerge as wholesome and timeless.  Hats off to the Warburg values...

Steven Karbank

Tell us about Karbank.
Karbank Real Estate Company is an industrial and office real estate brokerage and development company.  We focus on our particular area of expertise.  We don't try to cover all parts of the real estate business. We stay focused on our niche, but we're very good at that niche.  The brokers and staff at our company are top-notch. Olen Monsees, President of our brokerage company, has been with the company for 41 years.  Jim Wassberg, our CFO, for 30 years.  Our approach is long-term.  We understand what clients want and what clients need. 

2010 is a notable year for Karbank!
Yes, it's our 60th anniversary year. Our company was founded in 1950 by my father Barney Karbank. Our approach to the real estate business over those 60 years has been remarkably consistent: high-quality representation for our clients and high-quality buildings in our developments. 

Do you have any celebrations planned?
Yes, but they'll be low keyed. We had large celebrations for our 25th and for our 50th anniversaries with clients. We’ll celebrate our 60th with our brokers, our staff and our families.

What have the past 60 years taught you about real estate in Kansas City?
I've been with the company for 30 of the 60 years.  Between my father, Olen, and other folks at our company, I've had the opportunity to learn from the best.  Know the market, understand the client's needs and motivations, focus on the details and prevent mistakes rather than have to rectify them.  Over time one develops a sixth sense about the real estate market and about transactions, what makes sense and what doesn’t.  Part of that is the experience of doing a lot of transactions, but part is an enjoyment of the work and a fascination with the real estate business.  The right strategy, the right solutions aren’t necessarily obvious to the client.  The key is to help them understand the right solutions and then get the deals done in a professional and timely manner. 

Real estate in Kansas City? I have mixed feelings, particularly about Kansas City, MO. 
 

I was recently looking through our company scrap books, containing articles, photos and deal information going back 60 years.  One article that caught my attention was an interview that the Kansas City Star did with my father 35 years ago.  He talked about ill-conceived tax incentive policies of municipalities and counties in the Kansas City area, particularly In Kansas City, MO. Here we are 35 years later and the issue is still relevant, but in a much more insidious way than it has been in the past.  The problem is that Kansas City, Missouri is gutting its tax-base by incentivizing non-tax-paying development.

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A successful real estate development project is based on many factors: a good location, suitability of the site for the intended use, availability of utilities, traffic patterns, a logical site plan, a functional and attractive building design, permits,  a high quality contractor and sub-contractors, sensible financing, effective marketing, and many other factors.  Problems with any of these factors can negatively and severely impact a project.  Yet sometimes real estate projects are so ill conceived that a good real estate developer or broker can quickly spot a real estate development train wreck.

We recently reviewed a Request for Proposal for a build-to-suit development of a 100,000 sq.ft. office project for a large international pharmaceutical company (we’ll call it “Pharma” in this posting).  Pharma’s RFP, which was given to numerous developers and contractors, was unnecessarily complex and onerous and must have taken months to put together.  A quick glance at the RFP raised red flags: this project was a real estate development train wreck in the making. 

The RFP was clearly drafted by lawyers, in coordination with Pharma executives and engineers, who had little or no practical knowledge of real estate development, financing or construction.  The proposed deal structure was comically unrealistic.  The first red flag. 

The location was “C-” quality, at best.  Pharma owned the ground, which was part of a large manufacturing complex of oddly designed and inefficiently positioned buildings.  Though Pharma had invested hundreds of millions of dollars in buildings and equipment over the years to support its manufacturing at the complex, from a real estate point of view, the complex was a hodgepodge, a collection of peculiar decisions.  The second red flag.  

The RFP stated that Pharma would provide a 35-year ground lease to the developer for the portion of the property on which the developer was to build the building.  Even though the company was willing to lease the building for 15 years, the combination of the inferior location and the (relatively) short ground lease meant that financing would be difficult and unfavorable and the rent would need to be unnecessarily high.

Pharma, despite being very profitable, apparently wanted to avoid owning the building because the capital expenditure would have to show on its balance sheet and presumably limit its corporate borrowing capacity.  However, the deal structure stipulated by Pharma was based a false assumption that Pharma could classify the proposed building lease with the developer as an operating lease rather than a capital lease (the latter of which, according to accounting rules, must be shown on a company’s balance sheet).   A brief telephone conversation with a savvy real estate developer, a knowledgeable lender or an accountant could have cleared up that misconception.  Months and months and tens or hundreds of thousands of dollars were spent (and wasted) on preparing an ill-conceived RFP.

Another problem with the project was that Pharma had hired an architectural firm to draws plans and specs for the project, but the plans and specs were far from complete when the RFP was provided to the developers and contractors.  This was another red flag.  Architects may understand design and engineering, but not necessarily real estate development and construction.  Not having a developer and contractor involved from the beginning of the design and development process, when their knowledge and input matter most, usually results in higher costs, time delays, problems during construction and liability issues.

The project timetable outlined in the RFP indicated a fast-track project...yet another red flag.   Under the right circumstances (when the developer, contractor, architect and client are working cooperatively together), fast-track projects can have very good results.  Under the wrong circumstances, such as in Pharma’s project, with an ill-conceived deal structure and a disorderly development process, fast track projects compound problems.

With so many red flags in the project, one can only hope that Pharma’s decision-makers are not color-blind and mistake the red flags for green flags.  Pharma would be much better off to raise the white flag, throw away the dangerously flawed RFP and rethink the project with the help of an experienced developer, lender and contractor.  Otherwise, the real estate development train wreck is inevitable.

Steven Karbank

The underlying issues, of course, are liquidity (refinancing money is often not readily or adequately available) and falling property values (to less than the amount of the debt).  A convenient rule of thumb is the more out of whack the asking price is to the market value, the greater the likelihood that the borrower and lender are in the “extend and pretend” mode (i.e., the more unrealistic they are).

Interestingly, sometimes it is lenders who prefer to extend and pretend, sometimes it is borrowers, sometimes it is both.  Likewise, sometimes it is lenders who prefer a short sale transaction, sometimes borrowers, sometimes both.

Whether a lender and borrower pursue an extend and pretend approach or a short sale depends on a variety of factors: the particularities of the property; the extent of the gap between the property value and the debt; the local market conditions; the pressure on the lender by regulators; the likelihood, speed and contingencies of a sale transaction; the psychology of the parties, and many other factors.  What extend and pretend and short sales share in common is that someone is going to lose money, it’s just a question of who, when and how much.

In extend and pretend mode, lenders and borrowers tend to be a bit subdued.  They’re embarrassed at their mistakes, but can’t or won’t acknowledge the reality of property values.  In short sale transactions, lenders and borrowers tend to be emotional and pugnacious.  They’re ready to face reality, but want to get through the pain quickly.

This is a real estate market in which a broker must help clients understand reality and come to terms with it.  This is a market in which a real estate broker is part philosopher and part psychologist.

Steven Karbank

Beware of unscrupulous environmental testing companies that reflexively recommend expensive Phase II testing of properties under contract.  Frequently such recommendations are made even before the results are in from the Phase I report and without any apparent problems.    

Another scheme is for such companies to write Phase I reports that create just enough ambiguity by indicating a property might have an environmental problem (which can only be determined by expensive Phase II testing) without identifying anything specific.  In such cases buyers and lenders, rightfully risk averse and nervous about the report, insist that the seller order and pay for the Phase II.  The sellers are dismayed because they are unaware of any environmental problems and don’t think they should have to pay to find something that isn’t there.   

When environmental problems exist, they should be dealt with.  When they don’t, environmental testing companies shouldn’t unnecessarily raise red flags to generate work.  The best solution is to hire a reputable environmental testing company (and there are many) for real estate transactions.

Olen Monsees, Steve Karbank, and Jack Allen recently attended our commercial real estate network conference with CORFAC International Real Estate Alliance in Phoenix, Arizona.  The conference was attended by CORFAC brokers from about 50 major cities around the United States as well as representatives of our affiliate King Sturge, Inc. which has offices in the major cities throughout Europe.  The consensus from the conference was that real estate transactions are still significantly slower than previous years.  The office market continues to lag with a slight uptick seen in industrial real estate.  Investment sales are very limited because of difficulty in financing and above market price levels still being asked by owners.  The Kansas City market is somewhat better than the national market with office vacancies in the 16-17% range and industrial vacancies in the 7-8% range.  The consensus appeared to be that all markets would tend to pick up slightly later this year and continue to improve throughout next year.

Olen Monsees

Since the 1950’s, Kansas City’s commercial, industrial and office real estate market cycles, and the local economy in general, have been akin to low-amplitude waves: both growth periods and recessions tend to be moderate.  Property values and rental rates usually increase gradually in growth periods and decline only slightly in recessionary periods. 

By contrast, “go-go” real estate markets, such as Phoenix, Las Vegas and parts of Florida, California, Texas and Georgia, tend to have precipitous booms and devastating busts in high-amplitude waves or cycles.  Property values and rental rates in go-go markets tend to increase quickly in growth periods and plummet in recessionary periods. 

Low-amplitude wave markets are “cashflow” markets.  Real estate investments need to provide current income (cashflow) because appreciation, if does occur, will likely do so slowly over an extended period of time.  Patience and long-term orientation are virtues in low-amplitude wave, cashflow markets like Kansas City.

High-amplitude wave markets are appreciation oriented because investors rely on properties rapidly increasing in value.   When investors catch the big wave and values appreciate quickly, a lot of money can be made.  When the market wave turns down, investors can get wiped out just as quickly. 

Low-amplitude wave real estate markets are tortoises, high-amplitude real estate markets are hares.   

Steven Karbank

Today, March 1, 2010, is Karbank Real Estate Company’s 60^th Anniversary.  We thank our thousands of clients over the past 60 years for their confidence in us.  They (you!) are the reason for our success.

Read a brief history of our company's founding and the story of Karbank's first development project.

Steven Karbank

In 2003, my brother Neil, Karbank Real Estate Company’s General Counsel, and I met with some of Lehman Brothers real estate executives at the Lehman Park Avenue office in New York.  A friend of ours, a Kansas City native, worked at Lehman and suggested that we meet with his real estate colleagues at the firm to see if we might do business with them.

Those executives were in their early 30s and collectively seemed to have had less experience in the real estate business than Neil or I had individually.  They described Lehman’s real estate investments funds, geared to institutional investors and high net-worth individuals.  Their investment strategy was to acquire office, retail and industrial properties ranging from a minimum of $10,000,000 to portfolios of properties in the billions of dollars, hold the properties for 5-7 years, then sell them for a profit.  They typically financed those deals with CMBS (Collateralized Mortgage-Backed Securities) loans.  They also said that Lehman could provide debt financing for 3^rd party acquisitions, usually in the form of 2-5 year “mezzanine” loans with interest rates in the teens. 

It was clear that they knew all the real estate and financing lingo.  They were slick.  They were quick to answer questions on numbers, returns on investment and amortization, but unfocused and bored when asked about the nuts and bolts of real estate: ceiling heights, loading, parking, local market knowledge, vacancies, roofs, etc.   

After their presentation, seemingly as an afterthought, they asked us about our company and portfolio.  We told them that our company specializes in brokerage and development of industrial and commercial property and that our approach to acquisitions and development projects is very simple: we make long term investments, build high quality buildings, avoid excessive leverage and require projects to be positive cash flow from day one.        

As we spoke, their body language changed, as if we were country bumpkins, wearing straw hats, who had just fallen off a turnip truck.  They began to fidget and look at their watches. 

After the meeting finished, as we got into the elevator Neil and I looked at one another and started laughing.  Either we were hayseeds who didn’t understand the complex, sophisticated deals those folks were hyping, or we could recognize fee-generating horseshit real estate deals and impractical financing that didn’t serve the interests of investors and clients.  It didn’t take us long to figure out which was correct.  The truth was, they knew a lot about packaging and buying and selling “deals”, but not very much about owning and operating real estate. 

The real estate landscape throughout the country is littered with struggling or bankrupt real estate projects put together by Wall Street folks.  They spent other people’s money overpaying for existing projects or developing projects that failed because they were poorly conceived, poorly managed or stupidly financed.  They had no monopoly on losing money in real estate.  Many people are expert at it, including big-name developers who regularly crash and burn in down cycles.  The downfall of the Wall Street real estate folks is that they believed that success in investment banking and financial engineering translated easily into real estate success.  They were expert in generating fees, but inexpert in investing for the long-term.  Moreover, they believed that brain power equals judgment.  It doesn’t.  It’s nice to have the former, but it’s necessary to have the latter.  

Steven Karbank

Recently we completed a complex multi-property transaction with a large national company.  Karbank represented the landlord and a veteran broker with a national real estate company “represented” the tenant.  The tenant’s broker spent a considerable time negotiating his own fee and virtually none representing his client’s interests.  His client deserved better.     

Steven Karbank

On January 25, 2010, Tishman Speyer Properties LP and BlackRock Inc. announced they were giving up their ownership interests in the Stuyvesant Town-Peter Cooper Village project in New York City.  Their ownership group purchased the property in 2006 for $5.4 billion plus a $900 million reserve fund (thus, a total of $6.3 billion).  The project is now worth an estimated $1.8 billion. Tishman Speyer, BlackRock and their investors, including Calpers (the California public employee’s pension fund), the Government of Singapore, the Church of England, a Florida pension fund and many other groups, will likely lose their entire equity investments totaling approximately $1.9 billion.  Most of the lender’s $4.4 billion of debt financing on the project will likely also be lost.

The quote below is from a December 21, 2009 Bloomberg article about Stuyvesant Town and the anticipated default on the debt by the ownership group and the potential loss of their investment:

Both Speyers [co-CEOs Jerry and Rob Speyer of Tishman-Speyer] said they don’t think the purchase will hinder their standing or ability to buy and sell buildings.

“It’s just unfortunate that we hit this boomerang on this deal,” co-CEO Jerry Speyer said in the interview. “But is this deal going to change the reputation of Tishman Speyer, or what people think of either Rob or myself? I don’t think so, honestly. I certainly would hope not.”

If they are right, either investors and lenders have short memories or losing  billions of dollars is too low a threshold to damage reputations.  Sadly, probably both...        

Steven Karbank

The following is from a January 11, 2010 Financial Times (London) article entitled “US Property Attracts Opportunistic Investment”:

A public sign of such activity [opportunistic investing] came on Friday when Colony Capital won a Federal Deposit Insurance Corporation auction for $1bn of commercial property loans formerly held by failed banks in states hit hard by the real estate downturn. The deal valued the loans at 44 cents on the dollar and was structured so the FDIC contributes $136m and holds 60 per cent of the equity, while Colony, a Los Angeles investment firm, puts in $90m for the remaining 40 per cent.

Tom Barrack, Colony founder, called the investment "an implicit bet that rates stay low" and warned: "If rates go up, everyone will be crushed."

Crushed, hmmm.  I hope Colony’s partners read the Financial Times…      

Steven Karbank

When analyzing a real estate development, investment, or transaction, always consider worst-case scenarios.  Examples may include prolonged vacancies, a significant rise in interest rates, changes in the business climate, changes in tax law, changes in location quality, casualties, construction problems, permitting or weather delays, legal entanglements, etc.  If you cannot afford, financially or emotionally, to handle multiple of these problems at once, don’t do the deal.        

Steven Karbank

Businesses often have a false sense of security in choosing to work with large, national, so-called “full-service” real estate companies.  The reality is that the quality of representation a client receives from a real estate company is dependent on the quality of the particular broker or brokers directly working with the client.  Mediocre or bad brokers will likely lead to mediocre or bad results for the client.  A good broker will likely produce good results for the client.  This applies both to national and local brokerage companies.       

Steven Karbank