“One in 4 jobs are retail related. If you want to save the U.S. economy, you need to focus on the retail industry,” said one analyst.
With hundreds of thousands of stores closed nationwide, the coronavirus pandemic is accelerating dramatic changes across the retail industry that had been underway well before the viral outbreak hit the U.S., according to analysts.
“Retail has been on life support,” said Ian Ross, principal of the commercial real estate investment firm Somera Road. “Dozens of these companies were on the verge of financial collapse, and I have a hard time believing they’re not going to collapse because of this.”
Over the last few weeks, dozens of retailers have announced furloughs. Macy’s put the majority of its roughly 130,000 workers on furlough. Kohl’s, JCPenney and Nordstrom temporarily closed all of their stores and put their workers on furlough, about 300,000 people.
Mall operators Simon Property Group, Westfield and Taubman Centers have announced temporary closures in response to state-mandated shutdowns of nonessential businesses.
Even digitally savvy companies have buckled. The online beauty shop Glossier closed its retail stores, Rent the Runway laid off all its retail employees and the fashion company Everlane laid off or furloughed about 200 of its workers.
“Nobody wants to cut people out of their company,” said Allen Questrom, the former CEO of Macy’s, Neiman Marcus, Barneys New York and JCPenney. “The key is to stay alive so the company can come back into business.”
However, in a highly competitive business with slim margins, the impact of the virus is broadening the gap between which companies may be viable after the pandemic is contained and which may not survive, said Linda Tsai, a real estate investment trust, or REIT, analyst who covers retail with Jefferies Financial Group.
Companies that have gone through bankruptcy proceedings, such as Sears, are clearly on the shakiest ground, while stores in higher-income areas and retailers with low debt will likely bounce back faster from the impact of the virus and any potential recession, Tsai said.
Over the last few years, the retail industry has been rocked by a wave of bankruptcies as retailers rush to right-size their businesses. Most recently, Forever 21 and Barneys New York filed for bankruptcy, along with retail chains like Payless ShoeSource and Modell’s Sporting Goods.
“Big companies with the ability to weather a storm like this can go on for a while without income and can come back strong,” said James Cook, director of retail research for the commercial real estate service firm JLL. “A lot of retailers who have gone through private equity and mergers or acquisitions that have saddled them with a lot of debt can’t coast for very long without some kind of restructuring.”
Mall operators that house the retailers are also scrambling to preserve cash. The mall owner Macerich cut its dividend by 33 percent. Westfield cut its dividend in half. Weingarten, which operates open-air shopping centers with mainly grocery and essentials tenants, drew down a $482 million line of credit, citing an immediate need for liquidity.
“It may take time for damage to unfold,” said Anna Lai, a REIT analyst with S&P Global Ratings.
Some mall operators and retailers had already been short on cash and high on debt before the pandemic hit, according to S&P Market Intelligence reports. Mall-based companies, including Belk, Neiman Marcus and J.Crew, are on the S&P’s watch list for default, with triple-C credit ratings. That could create major challenges for malls after the virus is contained, according to the company.
“I think the malls will face near-term pressure, but longer term, they could face pressure to lower rent but also occupancy pressure if some of these retailers do not survive,” Lai said.
At this moment of crisis, all options are on the table, said David French, senior vice president of government relations for the National Retail Federation. Retailers are discussing their lease terms with their landlords to find temporary relief on rent and are asking their lenders to ease their debts, he said.
The mall operator Taubman recently told its retail tenants that it expects all of its tenants to meet their lease obligations but that it is willing to discuss any financial challenges and help them with a type of payment plan.
“Liquidity is a massive issue, and there is no one silver bullet,” French said. “If you’re not making sales, you’re running out of cash.”
The retail and shopping mall industries have joined the melee of hamstrung sectors to plead for financial relief from the Trump administration as it rolls out a $2 trillion stimulus program.
The National Retail Federation asked the administration in a letter last month to consider offering retailers government-backed loans and relief from certain tax obligations. The International Council of Shopping Centers, a trade association representing malls, including Simon Property and Kimco Realty, argued in a letter to the Trump administration last month that shopping malls could crumble without business interruption coverage for retailers, restaurants and landlords. The organization argues that without ensuring the stability of its tenant base’s roughly $1 trillion in secured and unsecured debt, the shopping center industry will be at risk.
“One in 4 jobs are retail related,” said Tom McGee, CEO of the International Council of Shopping Centers. “If you want to save the U.S. economy, you need to focus on the retail industry. It’s foundational to the economy and foundational to the community.”
As retailers resort to furloughs and close stores to manage costs, retail workers are left without incomes.
Nayeli, a former JCPenney employee in Santa Ana, California, who asked that her last name not be used, has been unemployed for about a month. She considered a job at Costco to continue to help her parents make rent and buy groceries, but her dad said he’d rather pick up extra shifts at his job manufacturing airplane parts than risk her being exposed to the coronavirus.
“I was concerned because I helped my parents with rent and groceries, and I was like, ‘What am I going to do?'” she said. “Although JCPenney isn’t doing well as a company, they should offer some sort of pay. Imagine people who just rely on that paycheck. How are they going to pay the bills, you know?”
By Leticia Miranda
Leticia Miranda is a business reporter for NBC News.
We are excited to share that Somera Road was honored at last night’s Memphis Business Journal’s Best Real Estate Deals (BRED) 2020 Award Ceremony, for Best Deal of the Year – Office Category and Best Deal of the Year – Overall. The BRED awards acknowledge and celebrate the largest and most impactful commercial real estate transactions negotiated and closed by the Memphis area’s commercial real estate professionals, property owners, and lessees that occurred in 2019.
Somera Road’s winning deal was the signing of FedEx Logistics’ 15-year lease and Headquarters move to downtown Memphis’ former Gibson Guitar Factory.
When Gibson Brands, Inc. announced their intent to vacate the 140,000-square-foot building in 2017, Memphis was facing a large, unsightly vacancy in the heart of its Downtown. That is until early 2019, when Somera Road and FedEx Logistics announced plans to make the space the latter’s new headquarters. The move will fill the building, which is located across the street from the FedEx Forum and one block from Beale Street, with nearly 700 FedEx Logistics team members—a number that is expected to grow. More than 350 jobs were created within FedEx Logistics as a result of this business decision.
Per FedEx Logistics,
“This new FedEx Logistics HQ will be a landmark site within the FedEx family of notable company locations. By combining offices into a dynamic campus, the space became economically attractive to provide this fantastic environment for team members. It will be a great space for collaboration among the different aspects of our business and a true home as we attract new talent for the future of FedEx Logistics. Team members from around the world can take enormous pride in working in — and visiting — our global headquarters, which will combine elements of our company history and world-class office amenities. Immersing ourselves in the heart of Downtown Memphis will benefit the company and the city. With hundreds of team members commuting to work in Downtown Memphis, the benefit to area businesses, restaurants and the local economy will be astounding.”
Somera Road is proud of theoutcome achieved to date on the FedEx Logistics’ Headquarters deal and is honored to be recognized so publicly for its positive impacts on the Memphis area.
Thank you always for your support.
Celebrating Mid-South dealmakers at 2020 BRED Awards
FedEx Logistics HQ won Deal of the Year at the 2020 BRED Awards.
While the finished product often garners the accolades, the road to completion is both vital and under-appreciated.
Because of that, the Memphis Business Journal created the Best Real Estate Deals (BRED). The awards recognize the developers, landlords, real estate brokers, attorneys, bankers, government entities — all the people who come together to execute a plan for a commercial real estate asset to become something more.
MBJ celebrated those dealmakers and their projects at its second-annual BRED event Tuesday, March 3, at The Cadre Downtown.
“Three of my counterparts in other markets called in the past two weeks to say, ‘I am coming to Memphis. Where are some cool places to stay? Where are some cool places to eat? What should we do while we are there?’ That didn’t happen a decade ago,” Joanna Crangle, market president and publisher for the MBJ, said during Tuesday’s event. “That is really, really exciting.”
Finalists were recognized across Hotel, Industrial, Mixed-Use, Office, Residential, and Restaurants/Retail categories, and a winner was named in each. An overall Deal of the Year was also awarded. Finalists and winners were selected by MBJ’s editorial staff. The complexity of the deal as well as its potential for positive impact on the community were weighed in the decision process.
Doug McGowen, COO for the City of Memphis, congratulated the finalists for their vision and for investing not only in the core of Downtown but in some of the area’s most disinvested neighborhoods. He called the work happening in Frayser, Raleigh, Binghampton, South Memphis, and South City “catalytic.”
“I’d like to congratulate all the dealmakers, all the closers, all the risk-takers, and all the true believers who know that not only do we have momentum, not only are we investable — but, truly — Memphis is a city where anything can be made to happen,” McGowen said.
MBJ lead reporter Jacob Steimer, who covers commercial real estate and economic development, also took to the stage.
Steimer told attendees it was his goal to help the city grow by learning the things known by the few and disseminating that information to the many.
“A basic tenant of economic theory is that more value is created when there is perfect information,” Steimer said. “When both sides of a deal know what the other side knows. When information becomes too concentrated that can lead to things like monopolies, which raise inequality and slow down growth.”
That growth will be on full display in a special BRED edition of the MBJ out Friday, March 6.
2020 BRED awards winners:
Hotel – City gets Loews hotel
Industrial – Hyosung makes electric buy
Mixed-Use – Intrator hits Pinch with $1.1B plan
Office – FedEx Logistics ships HQ Downtown
Residential – City and partners appreciate Binghampton project
“[Screw] funds,” Somera Road principal and founder Ian Ross told Commercial Observer earlier this year when asked whether he’d ever want to start one. “I don’t want to have to fit these deals into a box. We might have a $1.8 million deal or a $108 million deal.”
“These deals” have turned his 3-year-old firm into a heralded, but rather inconspicuous, private equity real estate shop deploying what sources told CO is a “clean playbook of perfect execution” on off-market, distressed CMBS real estate opportunities across the country.
In the years since its first deal in the summer of 2016 — the purchase of the 3Y Building, an office tower just north of downtown Kansas City — Somera Road has sourced and executed on 66 distressed deals at a valuation of over $1.5 billion across 49 markets and nearly half of the continental United States.
Ross started the company out of his Manhattan apartment in the summer of 2016 and has since grown the team to 15 professionals, who punch above their weight and successfully execute and asset-manage across the firm’s unbelievably large footprint.
“Oh boy, do they know how to work a deal,” the managing partner of a global hedge fund exasperatedly told CO, on the condition of anonymity because the manager is in the process of raising a new fund.
Ross, a former financier, doesn’t take himself too seriously, which is somewhat of an antithesis to the way he runs his business. He’s a 33-year-old commercial real estate “junkie” from Los Angeles, who said he’s only as good as the sum of the parts of his company — he works within a climate of “radical transparency.”
“The amount of deals that he’s closed, executed — in terms of the business plan — sold, stabilized and refinanced, it’s nothing short of a miracle in the world we live in,” Tim Dunn, the chairman of Kansas City-based JE Dunn Construction, told CO. Dunn said they’ve worked on around 15 deals with Somera, including its first, the 3Y Building.
While Somera is headquartered in New York, you’ll find their footprint in places like Allentown, Pa.; Athens, Ga.; Huntsville, Ala.; Tulsa, Okla.; Memphis and Cleveland. Some of the firm’s most high-profile deals to date have been in Memphis, Kansas City, St. Louis and Pittsburgh.
The walls of Somera’s office at 130 West 42nd Street in the belly of Times Square are adorned with mementos and sports memorabilia his team has collected from their work in the secondary and tertiary markets where they target distressed real estate. In his conference room are framed news clippings from Memphis, Tenn.’s The Commercial Appeal that show him shaking hands with local and state officials as well as FedEx Logistics executives after sealing arguably his most high-profile deal to date: a lease with Memphis-based global enterprise FedEx Logistics at the Gibson Guitar Building, a former guitar manufacturing facility located a block south of Downtown Memphis. FedEx Logistics CEO Richard Smith is planning an adaptive reuse of the property into an office hub to serve as the global headquarters for the company, which decided to move to the area to attract young talent and help spur a revitalization of the city’s downtown.
Next to the framed Commercial Appeal news clips is a Gibson guitar that Ross was gifted by his team following the closing of the FedEx deal. Ross had gifted Smith the same guitar, donning FedEx purple and orange, at the ribbon cutting in February; it was the last one manufactured at the location.
Somera (Ross named his company after the road on which he grew up in Los Angeles) has perfected a strategy of finding distressed assets in special servicing via commercial mortgage-backed securities (CMBS) trusts. It trades in distressed CMBS credit, buying and using the rights of the controlling bondholder to pull out and work out deals. They buy, execute, stabilize, monetize and repeat, aiming at smaller deals that are typically bypassed by larger institutional firms.
“His approach to how he finds assets and the ways he’s gone about doing it has been a very overlooked strategy by most,” said Matthew Philip, the head of commercial lending at Bayview Asset Management. “Going into CMBS trusts, looking for things from special servicers and really understanding what’s going on in those legacy deals, is textbook. [They] find where the distress is and take advantage of the opportunity, while being smart about what’s presented to [them]. To some extent, the complexity of pulling assets out of the trust, seeing that the distress isn’t always related to the specific asset but to the structure that’s behind it, is the genius in the approach. I don’t think a lot of developers have seen that opportunity that exists, especially with the smaller assets.”
Ross seemingly amazes those who transact with him. He has found a happy medium living under the realm of a major institutional investor but above the fray of a single-family office. He “runs his team hot, with a shock-and-awe approach,” the global hedge fund manager said. “He always beats his base case and is conservative by design.”
The firm has found a sweet spot in being sub-institutional, but Ross and Somera have to make up for that in volume, which they’ve proved is no issue, according to sources who spoke to CO.
The global hedge fund manager, who’s invested in a handful of Somera’s deals in the last year or so, said, “[Ross] knows that if he goes above a $20 or $30 million equity check, he’s up against a Blackstone, and things get ugly quickly … a $5 or $10 million check size on his management fee [nets them] probably [$500,000] or a million bucks a year. It’s nothing, but he’s just doing so many of them. It’s hard to compete with him. You have to be able to get messy with him on $5 [million] to $20 million deals. For a lot of people, it’s just not worth it. For him, it’s because he is trying to compound at very high rates of return, not collect a management fee.”
Somera works unbelievably fast in all aspects of its business and has on numerous occasions found a buyer for a project before even closing on its purchase. Out of the deals he’s done, “[many of them] never even made it to market, because he had already done what he had to do before he equitized them; that’s the speed this guy works at. It’s crazy,” the hedge fund manager said. “He’s sourced extremely well.”
Ross frequently challenges his newest or youngest employees by giving them free reign to run transactions — sometimes overseeing entire regions of the country — just to instill a level of trust and to see how they react to executing his firm’s playbook. That strategy hasn’t always panned out for the younger, less experienced employees, some of whom have felt overwhelmed and even left the firm. But Ross doesn’t care; where some failed, many have succeeded, becoming key members of his team. (Somera was named as one of Inc. Magazine’s Best Workplaces 2019.)
“His guys hustle,” said the global hedge fund manager. “They won’t last in his culture very long if they don’t move at a very fast speed.”
The fund manager said that when he was introduced to Ross and Somera just under a year ago, he deployed a diligence team into Ross’ ecosystem and pool of existing investors “to fully understand what he was doing, because quite candidly, he’s such an outlier, I wanted to make sure it was real.”
Ross is a staunch opponent to the idea of overextending his firm, shooting higher or becoming a “fund,” because he considers it a headache and a hindrance to his investment philosophy. He said his team views itself as “disintermediating what is often times an archaic fund model,” and he said becoming a fund “is against everything we are about. We like to stay nimble and flexible, and we want to be able to do deals of any size, asset class, geography or risk profile without them having to fit into a specific box or mandate.”
Per the hedge fund manager who spoke to CO anonymously: “if [Ross] overstretches his [firm], he’ll shatter it … he’s self-aware.”
“Listen, if I had the cojones, I’d have done the same thing,” Bayview’s Philip said. “Once you develop relationships with those servicers and you’ve executed a couple times, they’ll come back to you to sell the assets. You can figure this [method] out if you’ve got a little bit of savvy and an understanding of individual markets. The smaller deals lie under a lot of people’s radars. The [firms] with the big staff don’t want to spend time on all these $3 [million] or $4 million purchases of these defaulted assets, even though you can hit a bunch of home runs with them; they want to deal with the bigger stuff.”
For Ross and his team, basis is everything. In a yield-starved world, he has no qualms with walking away from an attractive investment if he doesn’t feel it meets the parameters of his game plan; he’s done it several times before, to the surprise of some of his investors. “His deal standards are so high,” the global hedge fund manager said, highlighting that Ross aims for a 25 to 30 internal rate of return (IRR). “He’s buying A-grade assets at B- or C-grade prices, hunting in a patch that’s messy — $5 [million] to $20 million deals. His returns in a very short period of time are extraordinary.”
But, getting the idea of Somera’s model across to investors in the company’s early stages wasn’t easy.
“Raising the first $5 million on our first deal is the hardest thing I’ve ever done,” Ross said. “I don’t take that for granted; it was extraordinarily challenging. But, you get the first deal done, and you build from there. We did our first deal in the summer of 2016. We did our second and third deals that November and December. And then I think we did [around] 26 deals in 2017. It was really kind of a snowball effect.”
In December 2017, Ross made his move on Memphis.
That month, Somera purchased guitar manufacturer Gibson’s real estate in Memphis and Nashville for around $32 million. The Memphis location — at 145 Lt. George W. Lee Avenue in the middle of the city’s Downtown — included what is a 150,000-square-foot factory and showroom and a nearby 350-space parking lot, where Ross is planning to develop a separate 350,000-square-foot office building called “The Clipper.” (The project is under development, Ross said, but before they started, he said Somera leased the parking lot to an operator—triple-net—who would run it for use during events and basketball games at the adjacent FedExForum). Ross and his partners explored other uses for the Gibson space, such as retail — for a grocery store — office or even a potential brewery, according to a 2017 letter sent by a legal representative of the investor group to the Center City Revenue Finance Corporation.
A few months later in the spring, Ross was approached by Billy Orgel and his son Benjamin — Memphis natives and community staples — who wanted to get involved, eventually taking a minority stake in the property and injecting Downtown development expertise and much-needed local backing.
Billy Orgel is the CEO and president of Tower Ventures, which develops wireless communications structures, and he sits on the Shelby County School board. His son Benjamin works for Memphis-based Slovis and Associates, a full-service commercial real estate firm; he’s also on the board of the Downtown Memphis Commission. The month that Ross bought the Gibson facility, the Orgels were wrapping up a conversion of the historic 19th century Tennessee Brewery in the city’s South Bluffs neighborhood — located just Southwest of Downtown, overlooking the Mississippi River — into a $42 million, mixed-use complex complete with multifamily rentals, office and retail space and a parking garage.
Around the time the Orgels entered Somera’s Gibson project, the newly formed FedEx Logistics’ CEO, Richard Smith, felt like planting a flag in Downtown Memphis.
“Strategically, it made a lot of sense to me,” said Smith, a Memphis native and son of billionaire FedEx founder Fred Smith. “It was kind of bringing the mountain to Muhammad, so to speak, in terms of where the talent is, so I was very interested in this.”
Smith got in front of the Orgels and learned of Ross.
“[Ross] brought on some people that really were well connected, particularly in the downtown market, which I think was a very, very smart move,” Smith said. “What struck me about Ian, at first, was he’s very young. But, I’ll tell you, he is a very sharp and dynamic businessman for his years. He was extremely passionate about Memphis and about the community. That spoke to me.”
Smith said Ross jumped at the idea to do Class A office space for a corporate headquarters. After some hesitation on the part of Smith to go forward with the plan, they picked it back up in December 2018 and haven’t looked back. The FedEx Logistics lease at the building will begin in April next year, the company has said. FedEx will expand the building from 154,000 square feet to just under 200,000 square feet.
Ross’ persistence and curiosity was bred from a young age.
Growing up, Ross’ parents instilled in him and his two brothers an unyielding ambition and an unwavering will to never stop learning, he said.
Ross’s father is an obstetrician, expert witness and a distinguished professor at UCLA medical school, and his mother is a counterterrorism consultant. His parents moved to Los Angeles from Boston when he was a kid, and he’s the middle brother of his two siblings. He’s married to a fellow entrepreneur: His wife started her own public relations business servicing the fashion industry.
“We use a twin desk at home,” Ross said. “She’s got hustle. I wouldn’t be here or have the motivation that I have without her.”
As an undergraduate, Ross attended Goizueta Business School at Emory University in Atlanta. He got his start in commercial real estate at Morgan Stanley in the summer of 2007, where he focused on originating and securitizing large, floating-rate CMBS loans, moving to an investment banking role at Jefferies & Company in December 2007.
In 2009, he saw an opportunity to join a newly formed family office called Triangle Capital.
“I came on and helped build that team, really, from day one,” Ross said. “It was myself and two senior partners — I was a junior partner and managing director [of acquisitions and asset management]. We built that team from three of us in a broom closet with a Bloomberg terminal into an 18-person operation.”
When Ross joined Triangle, they started focusing on buying distressed legacy CMBS credit at the bottom of the market.
“I always joke that when ‘The Big Short’ ends, we were the first scene of a sequel; we really came in at the bottom and started picking up the pieces,” Ross said. “From 2009 to 2013, there was a real arbitrage opportunity. CMBS is a more commoditized, yield-driven product; it was never supposed to be a credit product, because losses were never supposed to be severe. You have very few bricks-and-sticks guys in the CMBS space, and you had very few guys that understood CMBS in the real estate space, so if you could come in in 2009 and really understand the real estate, but also have access to the street, to buy CMBS CUSIP credit, there was a tremendous operational arbitrage.”
Ross identified his current investment philosophy at Triangle but was somewhat handcuffed by the institutional flavor of the shop. He wanted to asset manage and operate the real estate. (While at Triangle, he started his MBA at the Wharton School at the University of Pennsylvania, finishing it within six months after leaving in 2014.)
“You wouldn’t learn his kind of commercialism at a bank,” the global hedge fund manager said.
While a few of his investors said they were unsure of Somera’s ability to execute the same playbook in a downturn — “distressed assets in distress” — its track record will keep them interested.
“For lack of a better term, they’re shit kickers; they get shit done,” the global hedge fund manager added. “[Ross] is 33 and has the hallmarks of something pretty special. But, he’s just at the starting line.”
It’s a strategy that involves far more than one-note purchases, you could say about the business plan of New York-based Somera Road Inc. and it’s making some sweet music for its investors.
It was an approach that began with Somera Road focusing on distressed commercial building loans and properties from the 2008 recession, then expanded as the company discovered additional opportunities in midsized U.S. cities. Now the company is taking advantage of the 2017 changes to federal tax laws that have created economic opportunity zones as a method of spurring new investments in underserved areas across the U.S.
“At the outset we didn’t look at markets as much as we looked at assets first,” explains Somera Road General Counsel Michael Fralin. “We looked at hundreds of loans and then chose to invest in particular assets based on how the surrounding market was performing in the location.”
Long distance information, give me Memphis, Tennessee
Since 2015, Somera Road has bought more than 50 properties worth over $1.1 billion across 32 U.S. markets.
“Typically, we’re not buying buildings that are physically dilapidated or stressed,” Fralin, 44, says. “A lot were constructed during the real estate boom of the early 2000s, and the problem is they were saddled with too much debt, so they are financially distressed.”
In Memphis, where the heart of rock ‘n roll started beating, this approach took Somera Road to the Gibson Guitar Co. factory built in 1998 and within picking distance of Beale Street and B.B. King Boulevard. Beale Street is renowned as the center of the city’s blues scene and B.B. King Boulevard is named for the legendary blues guitarist. The low slung brick expanse of the building covers an entire city block, but its future hit some sour notes a few years ago when Gibson announced it would consolidate its manufacturing to a plant in Nashville.
Somera Road bought the building in 2017, and Fralin says there were five different business plans for its reuse before delivery giant Federal Express (which started in Memphis in 1973) was lured as a tenant for 150,000 square feet.
By 2020, FedEx will be leasing 200,000 square feet of the space for its logistics center headquarters, and Fralin says Somera and FedEx are in advanced negotiations to lease space in the office building next door.
From Memphis, Somera Road took the show to Music City, as the firm bought two of Gibson’s adjoining buildings in Nashville in 2017-18, converting them into mixed-use commercial and retail projects. One is now home to Pins Mechanical Company, a hipster bowling center combining strikes, songs and suds. The second acquisition will be converted to a large-scale, mixed use development that could approach 600,000 square feet of commercial and retail space.
The communal workspaces Somera Road favors are built in neighborhoods where other new development is spurring activities day and night. Somera Road may add amenities like a gym or rooftop deck, but the bigger lure is landing in markets that are heating up through buying undervalued properties.
“The first thing is cost basis,” Fralin says. “We’re sometimes buying properties at 20 percent of their replacement value; we’re coming in at very good levels.”
A whole new tax tune
Tennessee has been fruitful for the Somera Road model, but so are cities such as Cleveland, Detroit, and Louisville, Kentucky, with the advent of the opportunity zone program offering investors a method to defer, discount or abate capital gains taxes over periods of seven or 10 years.
“This is the next business phase,” Fralin says plainly of the opportunities coming in cities where Somera Road has already invested.
In the larger picture, Fralin handles all aspects of the deals–purchase and sales, office leases, financing agreements, third-party and vendor contracts. On the ground locally, he works with the officials and outside counsel and consultants to square away zoning and other local regulations that make or break deals.
“Once in the market, we get to know the local government, the interest holders and the other stakeholders. Other opportunities organically presented themselves from there.” says Fralin.
In Strongsville, Ohio, a horn’s blow from Cleveland, Somera Road bought a 125,000-square-foot vacant office building sitting on 20 acres. Somera Road and Fralin worked with local politicians and local community groups to rezone half of the site for ground-up retail development.
Fralin says the zoning change allowed the company to nearly 80 percent of the 75,000- square-foot center to tenants such as Homegoods, Panera Bread, Outback Steakhouse and City BBQ. In addition to the retail, the vacant office building was successfully sold by Somera Road to a local user.
His own tune
Real estate is such a passion for Fralin he is also a managing partner for Couzens Hall Advisors LLC in New York, where he offers consulting and legal services. A native of the Boston area, he credits his brother, a broker in northern California, with drawing his interest into the field.
Politics was also an early love for Fralin, who earned a Bachelor of the Arts from the University of Michigan in political science and government, and even served as a staffer of the later Sen. Ted Kennedy, D-Massachusetts, before entering law school at Boston College. He earned his Juris Doctor from BC in 2002 and began working in real estate law immediately thereafter.
Fifty properties later, the thrill of the chase has not waned for Fralin, and the change in strategies for acquisitions opens more avenues for Somera Road to grow. His first legal love has not changed, however.
“Complex real estate and structured financing is what I love most in my career, because it’s in this field that I cut my legal teeth,” Fralin says.
Since Ian Ross founded Somera Road Inc. in 2014, the New York commercial real estate investment firm has done over 50 deals, totaling more than $1 billion and representing about 11 million square feet of space across nearly 40 U.S. cities.
The firm’s most recent acquisition: PPL Plaza in downtown Allentown, a property Somera officially added to its portfolio after submitting the top bid of $16 million at a sheriff’s sale last month.
The office building at 835 W. Hamilton St. and accompanying parking garage at 940 W. Linden St., essentially stuck in neutral for two years while foreclosure proceedings played out, fit into Somera’s focus on distressed, value-add properties in secondary markets that are in need of a fresh start. While the building only has a few tenants, Ross attributed the low occupancy rate to the prior ownership group being overburdened with debt after buying the property for more than $90 million in 2006.
But now, he told The Morning Call on Monday, the property is owned at the right price, giving Somera the ability to offer prospective tenants compelling rent pricing and capitalize on the nationwide trend of suburban office tenants returning to urban cores. With a brighter financial outlook, Ross believes PPL Plaza — due for a rebranding soon — has features that speak for themselves, namely an LEED Gold certification, a rooftop garden space, and architecture that leads Ross to say, “They just don’t build buildings this way anymore.”
“It’s hands down the nicest architectural construction product that we own in our portfolio,” said Ross, Somera’s managing principal. “Going back to the value proposition, we’ll be able to provide what’s hands down the best office space in the market at a fraction of the cost of new construction. One thing we love about our position here is we can provide better product at a lower price than our competitors, and we’re excited to see that next big company come to Allentown and excited to compete to be a space provider for them.”
Ross spoke to The Morning Call about the building’s condition, the property’s tenant prospects — the building was in the running for ADP before the payroll processor selected Five City Centerlast year — and a Kansas City project that Somera carried out that has some similarities to PPL Plaza. Here are excerpts from the conversation:
Q: In court documents, the property’s receiver mentioned the Plaza received interest from Blue Cross and Buckeye Partners as potential tenants. Are those deals still alive or are there companies interested in the building now that the foreclosure is over?
A: We’re actively engaged with a handful of prospective tenants that are compelled by the live-work-play environment that can be created in downtown Allentown, especially with the parking ratio that we’re able to provide at our building. There’s a great value proposition here, I think especially as compared to the suburbs. A lot of these suburban users are saying, “Not only is this not the environment that I want to be in out in the suburbs for my newer generation workforce, but if I move down there into the downtown, I can have the right environment at a cheaper price.”
With regard to potential tenants, there’s really no good reason that this building should be empty. I think it’s the worst-kept secret that ADP was strongly considering, and was actually at the finish line, of taking over this entire building. We weren’t really involved at that time, but I think the unfortunate truth there was tenants don’t like potential disruption. They were concerned that the prior ownership didn’t have the capital and the positioning, with regards to the capital structure, to be able to hold onto this asset long term. And I think there probably were concerns about an ongoing foreclosure battle, ongoing receivership, potential bankruptcy, and no tenant wanted to take that risk. But outside of those risks, which are clearly neutered at this point now that you have a sophisticated, low-capitalized owner that owns at the right basis, I think ADP absolutely loved the building.
Q: The Plaza was built in 2003. Are there certain parts you want to refresh?
A: When we look at our portfolio around the country, that’s a lot of times what we’re doing. We’re fixing distressed buildings. [Senior Associate] Basel [Bataineh] and I were in the market a couple days last week, and we were actively looking for ways to spend money improving the asset. The truth of the matter is: This building is in pristine, mint condition. The mechanical engineering, the plumbing, the building’s systems, everything is in perfect shape, even the rooftop garden still looks great. With regard to some of the aesthetic features in the lobby, we might do some upgrades there, but the design has stayed extremely well and the building shows great. For better or worse, there’s not a lot for us to do.
Q: How do you envision the property? Because when you look at development in downtown Allentown, a lot of the construction has been down the road closer to PPL Center. If the Plaza gets full, can it help that end of the district?
A: I think the PPL Tower is really the anchor of downtown, and I think our building is inside of that anchor. I think you’ll continue to see these four, five blocks infill inside of those anchors, and I think we’re on the right side of that building, if that makes sense.
Q: Do you think you’ll be hitting the market about the right time? Because City Center Investment Corp. has ADP taking 10 floors of the 13-story Five City Center being built at Eighth and Hamilton street, and then will need to build more office space.
A: Absolutely. With regards to our value proposition and our ability to provide space at highly compelling rates, I think we’re in a great position to attract the next large user to this building. There’s certainly no longer any noise around distressed ownership or anything of that sort. It’s an incredible asset, in great shape. I don’t want to knock any competition, but we can provide better space at a lower price. I think we’re certainly in the market at the right time, and we’re excited about seeing the next great company come to downtown Allentown.
Q: Is there a specific type of tenant you believe will be drawn to the building?
A: I think because of how well designed this building was, it offers itself up to a variety of tenants, whether that’s a single user that wants the entire building or whether that’s single-floor users. The building can be very easily multitenanted. Furthermore, because of the efficiencies of the floor plate, the floor also chops up really well, so if you wanted to look at two, three or four users per floor, we could certainly do that, as well. Again, we often have these problems in smaller floor-plate buildings or older vintage buildings — this is not that. This building was designed to perfectly fit a user, from 5,000 square feet to 250,000 square feet. I think it really leaves us very open to the kind of companies that can fit in here.
Q: When you look at your portfolio, is there a similar property that would serve as a good blueprint for what you plan to do to the Plaza?
A: There’s a building in Kansas City that we acquired in 2016 called the 3Y building, at 300 Wyandotte and the River Market. We bought that building, also architecturally significant, very similar in style, a lot smaller in scale. It’s about 100,000 square feet, all steel and glass, beautiful building that was only about 10 years old that was designed by HOK Architects, which actually occupied a majority of the building. In a similar situation, the building was overleveraged with too much debt and acquired by a tenant-in-common group at too high of a purchase price, where come renewal, HOK — the firm had renamed to Populous — Populous couldn’t get a compelling enough rate as compared to alternative options in the market.
We ended up acquiring that [mortgage] note, taking title of the property and, as of today, we are now 100% leased at the asset, fully occupied with multiple tenants and an average lease term of about eight years. It’s been a great success story taking that building from entirely vacant to entirely occupied.
PPL Plaza in downtown Allentown has posed something of a conundrum for its new owner, Somera Road.
The New York commercial real estate firm typically acquires distressed properties in need of some obvious renovations. While the PPL Plaza (or, its previous ownership group) has certainly faced financial distress, the 16-year-old LEED Gold-certified structure is already “hands-down the architectural gem” of Somera Road’s portfolio, founder and managing principal Ian Ross says.
“We’ve banged our heads against the wall trying to figure out how to make it a better space,” Ross said in the atrium of the building prior to a tour Wednesday.
He later said it might be the “nicest vacant office building in the country.”
Ross reiterated his conviction that the more than 200,000 square feet of office space is of superior quality to any other office building in the city, and he promised to lease it at cheaper rates than anywhere else downtown.
Prospective tenants like that value proposition, he said. A half dozen are actively looking at the seven full floors of office space, he said, and three are interested in the retail space on the southeastern corner of the ground floor. Somera Road hopes to begin announcing tenants in the next three to four months and have its first tenants move in this fall.
“The interest has been astounding,” Ross said. “We’ve barely gotten started.”
Somera Road, which owns 55 buildings with about 11 million square feet of space across nearly 40 cities, has hired original building architect Robert A.M. Stern to consult on some modest upgrades.
That includes a redesign of the lobby, including new furniture and removing security turnstiles; fresh foliage in “winter gardens” on the third and fifth floors; and some demo work on the top two floors to create more open spaces attractive to today’s tenants.
It also wants to bring food trucks to the outdoor plaza, as well as more events and seating, Ross said. (It will feature the main stage of the city’s Blues, Brews & Barbecue festival June 8).
“We want it to again be the focal point of downtown,” he said.
Somera Road officially added the office building and accompanying parking garage at 940 Linden St. to its portfolio after submitting the top bid of $16 million at a sheriff’s sale last month.
Liberty Property Trust built the $60 million project in 2003 for PPL Energy Supply, which later became Talen Energy after the parent company headquartered next door spun it off.
A firm led by investor Joshua Safrin bought the property for more than $90 million in 2006, taking out a $83 million mortgage. The debt proved too much, and it’s been mired in foreclosure proceedings the past two years following a mortgage default in late 2016.
The previous ownership group argued the financial distress was a result of an unfair playing field created by the city’s Neighborhood Improvement Zone, where developers can tap into certain state and local taxes to pay the debt service on their construction loans.
It filed numerous lawsuits against the city and the Allentown Neighborhood Improvement Zone Development Authority, including a claim that the tax subsidies offered competitors constitute a “de facto taking of the property for which just compensation must be paid.” Talen moved three blocks last year into City Center Investment Corp.’s Tower 6, where rent per square foot was up to 30 percent cheaper.
In April, Lehigh County Judge Doug Reichley ruled against the former owners.
Somera Road, the new owner, claims it too has been unfairly hurt by the NIZ. On May 9, it filed a notice of appeal before Commonwealth Court.
According to Lehigh County Court records, Somera Road took on Wells Fargo’s obligations in the mortgage foreclosure judgment. That amounts to about $56 million, Ross said. Somera Road bought Wells Fargo’s interests in the mortgage last year for roughly $18.4 million, according to Trepp, a New York firm that monitors commercial property mortgages that have been bundled into bonds.
Somera Road also was one of the investors that sustained a considerable loss on the JP Morgan Chase mortgage-backed security that included the PPL Plaza loan, Ross said.
“We think we have a viable claim,” Ross said. “There was an artificial supply created in this market that unjustly burdened this building.”
City spokesman Mike Moore declined to comment Wednesday on Somera Road’s claim.
The building still has a few tenants: PPL Gold Credit Union, a restaurant and a BB&T bank branch on the first floor, along with some PPL Electric Utilities employees on the third floor. Somera Road said the third floor will again be vacant in a few months.
While the firm is open to leasing all the office space to a single tenant, Ross said it’s leaning toward multiple tenants, with most taking one floor and a marquee player taking the top two floors, which features an outdoor garden.
TPG Real Estate Finance Trust has provided $60.2 million to Somera Road to finance the acquisition of 30-story office tower in Kansas City, Mo.’s financial district, according to HFF, which arranged the debt.
The floating-rate bridge debt helped facilitate Somera’s off-market acquisition of Kansas City’s City Center Square building, a 657,070-square-foot office tower at 1100 Main Street.
Leon McBroom and Mark Katz comprised the HFF debt placement team that represented Somera Road.
“This was a highly stressful closing that bridged the holidays and the new year – the teams were incredibly responsive and professional, working around the clock to get this deal over the finish line,” Ian Ross, a principal at Somera Road, said in a prepared statement. “We have been a long-time believer in continued growth of the downtown [Kansas City] market and we believe the timing and the supply and demand dynamics are just right to bring this asset back to Class A status.”
Specifically, the debt proceeds will finance renovation, rebranding and repositioning efforts aimed to make the asset the “premier downtown office tower” in the city, according to information from HFF. The additions will include a fitness center and tenant lounge, dining options, a renovated lobby, a hospitality center and a conferencing center. Somera will also add retail terraces and public seating to the property’s exterior.
A spokeswoman for TPG RE Finance Trust told Commercial Observer in a statement that while the firm typically targets larger loans in primary markets, it looks to provide this type of transitional financing in secondary markets to strong sponsors.
Built in 1979 and designed by , the building encompassing an entire city block and two-acre lot and has a Kansas City streetcar stop located outside the entrance to the property. The tower is home to the Kansas City Business Journal, law firm Dollar Burns & Becker, data advertising firm Pinsight Media, and marketing analytics firm Alight Analytics. There’s also a U.S. Post Office and a Country Club Bank on-site. Colliers International Senior Vice President Phil James handles leasing at the property.
In February 2018, Commercial Observer reported that City Center Square backed the second-largest loan ($32.5 million) in Värde Partners’ first ever collateralized loan obligation (CLO) transaction, known as VMC 2018-FL1. At the time of securitization, the asset was only 52 percent leased, with 70 tenants, making it one of the riskier assets in the $368 million pool.
In the deal, which was rated by Kroll Bond Rating Agency (KBRA), the CLO’s KLTV—a loan-to-value-like indicator derived from KBRA’s cash-flow analysis—was at 128.3 percent, which was riskier than any CLO transaction the agency had rated the previous year in 2017.