Some of Washington’s most accomplished real estate developers on Monday announced a new company
that one described as a “true powerhouse.” Valued at $8.4 billion, the
company, JBG Smith, will be the capital’s largest landlord to the
federal government and will dwarf any real estate venture the region has
seen.
To create it, the principles of two existing firms, the
JBG Cos. and Vornado/Charles E. Smith, merged their companies and took
what they considered the best 92 properties (including 50 office
complexes and 18 apartment buildings) from each. Everything else will be
sold. Although the properties are spread across the region, one
characteristic unites them. Almost every one — 98 percent — is within a
half-mile of a Metro station. That is, after all, where much of the most
valuable real estate in the region is.
Daily
Metro riders might be surprised that the proximity is prized,
considering the troubles they endure in their daily commutes. Delays,
maintenance shortfalls and security crises rack the system on a routine
basis. Its financial and managerial underpinning are in such poor shape
that the day after JBG Smith was announced, The Washington Post
editorial board wrote that Metro was mired in “what looks increasingly like a death spiral” and argued for a federal takeover of the entire system.
A day later, Metro’s board chairman, Jack Evans, said he had reached the same conclusion, saying “extraordinary powers” were needed to overhaul Metro’s finances, workforce and governance. But
for all Metro’s woes, smart real estate is betting on it more than
ever. All of that development leads to property, sales and income taxes
that fill local tax coffers. The extra revenue could eventually be
tapped to help put the transit system back on solid financial footing.
“I
believe JBG Smith has the potential to be the fastest-growing real
estate company in the country,” said Steve Roth, a New York real estate
magnate, on a call with investors to announce the new company. Roth is
founder and chairman of Vornado Realty Trust, an $18 billion real estate
empire, and will create JBG Smith by spinning off its Washington unit
and combining it with JBG Cos., which is based in Chevy Chase, Md.
Roth
said that they “very carefully selected which JBG properties would be
included,” ultimately deciding to keep 41 properties valued at $2.4
billion that he and other executives reminded investors again and again
were in “Metro-served” markets. That includes properties near downtown
D.C. stations as well as those in Bethesda, Silver Spring, Rockville,
Rosslyn, Court House and by Silver Line stations (some not yet opened)
in Reston and Tysons Corner.
Of
all the properties owned by the new $8.4 billion firm JBG Smith, 98
percent are near Metro. Dark blue indicates properties already built or
under construction. Light blue means construction beginning soon; orange
means future projects. (Via Vornado Realty Trust)
Michael
Kelly, a JBG managing partner who will be chief executive of the new
company, said on the call that his number one criteria for which
properties to keep was their location in “core and Metro-served
markets.” JBG will sell off another $3.3 billion in real estate, most of
which is not walkable to a Metro station.
Similarly, Vornado will contribute buildings in downtown D.C. and 26 buildings near the Crystal City Metro station but will sell off its Skyline City office complex on Leesburg Pike.
“We deliberately excluded assets that did not meet those criteria,” Kelly said.
Kelly
and other JBG managers could be rewarded handsomely for their choices,
as they will own 6 percent of the new company, which equates to $504
million.
Meanwhile, Metro imminently faces a $290 million operating deficit in its next fiscal year, which has prompted it to propose service cuts, fare increases and staff reductions.
That’s on top of an estimated $12 billion to $18 billion in capital
funds needed over the next 10 years for maintenance and upgrades. Since
2010, ridership is down 12 percent (100,000 fewer trips per day), and if
proposed fare increases go into effect, Metro estimates that it will
lose another 10 million trips next year.
And yet Metro has added 2,000 employees in recent years to help run things.
As
crazy as it sounds to invest so exclusively on such a transit system,
JBG Smith is far from alone in thinking that Metro stations, even in
their compromised state, are poised to be an extraordinary profit
center. They produce enormous gains for developers and tax revenue for
local jurisdictions.
In fact, the difference in value between
Metro-accessible offices and apartments and those that require driving
has probably never been greater.
“Regarding the importance of
Metro to our industry, it cannot be overstated,” said Gregory H. Leisch,
senior managing director at the commercial real estate firm Newmark
Grubb Knight Frank.
Take Tysons Corner, where all the cranes are
putting up towers near the four new Silver Line stations — many of them
to accommodate residents and companies that are moving from just a few miles away.
But
that distance, Leisch said, means everything. During the past five
years, companies have moved into 700,000 more square feet of space than
they have vacated near Silver Line stations. Everywhere else in Northern
Virginia it’s the opposite, as companies have vacated 5.5 million
square feet more space than they have leased.
Silver
Line development: Companies have leased 700,000 more square feet than
they’ve vacated near Tysons and Reston Silver Line stations during the
past five years. Elsewhere in Northern Virginia, buildings have emptied
to the tune of 5.5 million square feet. (Via NGKF)
Furthermore,
Leisch said that Metro is a national leader in attracting investment
near its stations when compared with other systems.
“The share of
office space in the District and Arlington, so well served by Metro, is
unparalleled when compared to other major metro areas,” Leisch said.
“It is 44 percent of our inventory. Cities like L.A., Phoenix and
Denver, without a subway, average 23 percent of their office inventory
in the center city.”
“Metro areas like Boston and Philly, with
successful subway systems, have an average of 36 percent. So the
vitality of the District of Columbia and inner suburbs is directly
dependent on Metro. And [that] does not even count close-in suburbs of
Tysons, Alexandria, Bethesda, Silver Spring, etc.”
There is
increasing agreement that Metro needs some type of dedicated revenue
stream beyond rider fares to return to solid financial footing.
D.C. Mayor Muriel E. Bowser (D) has endorsed a minimum of a 0.5 percent regional sales tax increase;
Maryland Gov. Larry Hogan (R) and Virginia Gov. Terry McAuliffe (D)
have not outright rejected the idea. They are also focused on
seeing improvements in safety and customer service before committing
more funds to Metro.
Another idea would be to try to capture some
of the value Metro is creating for others by imposing some type of tax
on commercial property near stations, a strategy the organization studied two years ago.
Building
near Metro stations also drives ridership. A tax would mean a
disincentive to builders. Could they afford it? (Via Metro)
A
tally last year found roughly $50 billion in real estate development
being actively built near Metro stations. That’s five times what it cost to build the original system,
so even correcting for inflation, Metro-proximate development has
created economic impact well beyond the system’s construction costs.
In
some instances, developers have already paid to extend Metro their way.
In NoMa, developers agreed to charge themselves to help fund the
construction of a new station in 2004.
More recently, the
Peterson Cos. agreed to provide $500,000 annually toward the creation of
a new Metro bus line serving its National Harbor project from
Alexandria.
“Now you’re seeing developers coming to Metro and
saying we want to invest in improving the system,” said Nina Albert,
Metro’s director of real estate and planning.
A concern with any
broader tax on Metro-proximate real estate, Albert said, is that it
could inhibit development around stations that have not experienced it
yet, further restraining ridership growth. Some balance would have to be
achieved.
“I don’t think people realize how important Metro is
to the economy of the region,” Albert said. But, she added, “every
developer I talk to acknowledges the importance of it.”