Multi-Family's Rising Star in Mixed-Use Development

[ By Lisa Harbatkin ]

The Mixed-Use Roundtable Participants in Development magazine's mixed-use discussion were: Judd Bobilin, senior vice president for development, Novare Group; projects include Atlantic Station, Atlanta, Georgia. Past NAIOP chairman Steve Crosby, president of CSX Real Property, Inc. Douglas Eagon, president, Stiles Corporation; projects include Las Olas City Centre/Las Olas Place, Fort Lauderdale, Florida. Brad Hillgren, president of Lowe Enterprises Real Estate Group; projects include Suncadia in Roslyn, Washington. Jon Peterson, senior vice president of commercial development, The Peterson Companies; projects include Downtown Silver Spring, Silver Spring, Maryland. R. Damien Soffer, CEO, Soffer Organization; projects include SouthSide Works in Pittsburgh, Pennsylvania. Current NAIOP chairman Joseph Taylor, president and CEO, Matrix Development Group; projects include New Brunswick Plaza I and Plaza II, New Brunswick, New Jersey.

Peterson Companies' Washingtonian Center in Gaithersburg, Maryland, includes a 460,000-square-foot retail section plus an additional 21,000 square feet of retail across a pedestrian bridge over a lake.

Mixed-use is riskier and more demanding than single-component development. But it's one that allows developers, investors and lenders -- and the public sector -- to plan for the long term in changing the landscapes of cities and suburbs, and the ways they relate to each other.

Multi-family residential and pedestrian traffic are central elements in multi-function environments that incorporate varying combinations of condominiums, rental apartments, office, hotel, retail, professional services (e.g., doctors, lawyers) and entertainment components.

Development asked an experienced team of mixed-use specialists about some of the drivers, issues, positives and hurdles in mixed-use development today:

Soffer's intention in creating SouthSide Works in Pittsburgh was to build a neighborhood. Parking garages are hidden; every restaurant has outside dining; and there is fashion and entertainment within the neighborhood.

Mixed-use isn't a new concept, but there are new ways of thinking about it today. What goes into your planning?
TAYLOR: You need a 24/7 environment for urban centers to be successful in their redevelopment efforts. From a real estate perspective, that requires a mix of product types. Developers typically assess the needs of the community for the various product types -- commercial, industrial, retail, residential -- in considering the project.

PETERSON: You're building a live-work-play environment. Entertainment, retail, restaurants and hotels all kind of hold hands. Residential brings in verticality and brings more to the overall environment by providing curb appeal. You want to have all of them in there because there's a benefit from the different uses and the traffic.

SOFFER: This is a targeted need. You're creating a sense of place and trying to fill a truly great need. You originally had Mom and Pop living above the store here. We're bringing that back. We took it on to build a planned community, to build a city within a city and to fill a need for things that were missing here in Pittsburgh.

Multi-family has been strong, but is this a good time to add complicating factors like residential to your portfolio?
BOBILIN: The timing is right. We're seeing a huge demographic shift that goes to lifestyle choice. Sprawl has increased commuting times. People are choosing to live closer to where they work and where they go for cultural and social activities. That's making them less reliant on their automobiles and it should increase their use of mass transit. The other reason the timing is right is that institutional money, both equity and debt, has taken a strong interest in mixed-use, and it is taking the time to understand the complexities.

CROSBY: Residential development is outpacing industrial in virtually every market. In many areas you're seeing residential developers buying industrial land. This reflects the cycle we're in right now. Historically, residential provided lower returns on a piece of property, but currently residential is squeezing out industrial and maybe even offices. If I'm an office developer and I have a company and staff and I can figure out a way to combine what I know with residential and retail, that's a plus. At the same time, there are a lot of places where revitalization of old communities provides infill opportunity.

The Highlands at Plaza Square, part of a large redevelopment project in New Brunswick, New Jersey, by Matrix Development, features luxury residential apartments, retail and a large parking structure.

Ultimately, of course, the market should drive development decisions. But mixed-use involves multiple drivers, ranging from local needs, long-term societal shifts and demographic trends to what's good for a developer's bottom line. How do you sort out the key drivers?
HILLGREN: You have some interesting drivers related to local politics and land-use goals. Multi-family is what the market wants. Communities are calling for a broader mix of uses. They want to expand retail and commercial. From a developer's perspective, the greatest profit in today's market is generally in multi-family. It often subsidizes the rest.

CROSBY: Mixed-use is driven by a perception that multiple uses can be absorbed more quickly than a single use. There's also the notion of synergy. In order to make an office offering more appealing, you might want to add some retail and restaurants. Or you might want to add some residential. Or you might want to add a hotel. You're broadening the market so one use becomes an amenity for other uses. Mixed-use is in favor because it tends to maximize the uses, takes advantage of existing infrastructure and enhances convenience for users.

SOFFER: In our case, I got tired of hearing that young people were leaving Pittsburgh and I felt it was for lack of lifestyle. So we created that kind of place that would appeal to them, to the 25-35-year-olds, the "echo boomers." Parking garages are hidden. Every restaurant has outside dining. There's fashion, entertainment, other uses. I'm trying to build a neighborhood. You're creating a market that lives, walks and breathes in your development.

TAYLOR: Residential tends to be the primary real estate driver, then office, and, finally, retail. You need a critical mass for retail to be successful.

What does this mean for site configuration? What makes mixed-use work long-term?
EAGON: It's very site-specific. You would tend to find mixed-use with retail, say, in higher-density infill locations. You need enough density to support ground-floor retail. You're always looking for additional traffic.

BOBILIN: Vertical mixed-use is becoming the predominant configuration in the marketplace. Retail has to relate to the residential. We typically look at the retail as economics. If I have retail below 500 residential units, those 500 units are a lot of buying power. That buying power needs basic shopping, whether for food, staples, a salon, dry cleaning, entertainment.

SOFFER: You need to match the architecture and the scale to the community. We worked with a master planner, and then used a separate architect for each building. There's individuality, but it all coordinates.

Stiles Corp.'s Sunrise Harbor in Ft. Lauderdale, completed in June 2000, consists of 850,000 square feet in two towers and a five-story parking garage, plus 7,000 square feet of retail and 2,500 linear feet of dock space.

Lenders and investors have tended to focus on a single product type, say residential or office. Is this changing? What are some of the financing concerns and how they do affect planning and what you can do?
HILLGREN: Cap rates clearly vary by product type, market, and project dynamics, whether it's Class A or Class B. Multi-family cap rates are generally below six percent. For office the range is seven or eight percent, and it's about the same for retail. So investors are paying a premium for multi-family. The question is what happens when you have a mix of product types. When you mix multi-family and commercial, there is a chance that overall cap rates will be negatively affected.

EAGON: You want to make sure you blend uses so that either independently or together, you have an economically feasible mix. Once you've determined the mix, you'll be able to determine what the value of that property will be based on current market cap rates.

BOBILIN: Institutional capital typically looks at cap rates in a single-use context and tends to extrapolate a premium on top of that. Institutional investors have come to realize that mixed-use projects have higher occupancy than single-use. But the key is that these uses have to be integrated properly. If they're not, the developer won't get that potential cap rate premium and the investor won't get as much as it wanted.

PETERSON: You're assigning different cap rates to different portions of the project. One might have a negative or positive impact on others because of adjacencies. You need to plan the overall project to have appropriate and complementary adjacent uses.

Novare Group completed this 21-story condominium building on a two-acre site in the Buckhead section of Atlanta in November 2004. Lower floors feature lobby, virtual art gallery and fitness center.

So how do you overcome the uncertainties? What do you have to factor into the planning process?
PETERSON: Multi-family above retail takes a lot of planning because of the stacked uses. From the planning standpoint, you have parking, noise, smells and utilities. It takes a lot of preparation to pull off any mixed-use in the same building footprint.

HILLGREN: The more you look ahead at operating issues, the smarter you'll be when developing your project. We engage management in the design process to help minimize challenges down the road. Mixed-use demands careful planning at the outset to make sure you minimize the potential negatives. Hours of operation, traffic, loading docks, noise, basically all the things that go into running businesses, including visitors to the commercial and retail centers, and the people who live in the neighborhood are just some of the considerations. You're thinking about how late the stores will be open. You're thinking about parking, about different points of access, different points of egress. And obviously the needs and issues vary with each specific site configuration and density.

TAYLOR: Some of the important criteria are having a defined and shared long-term master plan and a supportive and stable political leadership, as well as having a sustained and measurable market. Other factors also weigh in on our decisions to invest in a market. They include our ability to finance the phasing of our development plan, our ability to "afford" the parking component of a plan, as well as our ability to assimilate volatile construction pricing.

What kinds of hurdles should developers trying mixed-use for the first time be expecting? What problems are you likely to encounter?
CROSBY: Permitting of a mixed-use project is more complicated because of the interplay between uses. Staging is extremely hard to do. You have more flexibility in suburban than in urban mixed-use. At the same time, there are a lot of places where revitalization of old communities provides infill opportunity.

BOBILIN: Land assembly is an issue. In urban mixed-use, zoning has often been for separate uses. A lot of markets have not contemplated vertical mixed use -- apartments, retail, office. Many jurisdictions have started to make the changes needed, but it still takes a lot of education.

PETERSON: You need flexible zoning that will allow you to build out the project over a long period of time in response to the demands of the market. You should be able to re-plan as demand shifts. You need the timing within the market -- you need a good office market, a good residential market, a good retail market, a good theater market. You might have to hold off on the whole development or on parts of it.

TAYLOR: The most effective way to move through the redevelopment and approvals process is to create a public-private partnership with all stakeholders and develop a plan that the market needs, the city supports and that gives you a return on investment.

Lowe Enterprises' Howard Hughes Center in Los Angeles consists of four buildings totaling nearly one million square feet. The development was completed in 2002.

Residential is different, isn't it? Developers familiar with office and industrial tenants and purchasers might have some surprises in store when they sell to condominium buyers or try to rent apartments, to say nothing of coming up against a condominium association.
EAGON: As a commercial developer, our mindset revolved almost exclusively around developing for lease. In condos, you're developing a product that's for sale right out of the box and you're developing a product that's for sale in increments of 1,000 square feet. You could have 150 buyers for 150,000 square feet and that's a very different method of doing business than developing a 150,000-square-foot office building that you're leasing to some number of tenants. You're dealing with a different kind of marketing effort and with condo buyers who will want to customize their spaces. You need an architect and a general contractor and a broker who understand what it takes to make a condo work.

HILLGREN: One of the biggest issues in for-sale multi-family these days is the trailing liability of a potential suit by the homeowners association for latent defects which can add thousands of dollars to the initial project cost for related insurance coverage.

What decides whether you go condo or rental? Who's likely to buy and own the condos, the people living in them or investors?
EAGON: The multi-family market tends to be cyclical. Today, there's been greater emphasis on condos than on rental. People living in rentals have realized they could own for about the same monthly cash flow as rental. With interest rates at historical lows, people are buying rather than renting. Of course, as sales prices of condominiums accelerate, people will also look at rentals.

HILLGREN: In today's environment, what individuals will pay for a condo is much greater than what investors will pay for apartments so most development is in for-sale product. In some markets smaller investors are speculating by buying units but the primary buyers remain those who will ultimately occupy them.