State selling properties to raise cash

Feb. 23, 2010


With the state of California selling off property to raise cash in the face of the $24 billion deficit, 11 office-building complexes are for sale, which will then be leased back to the state for 20 years. Higher profile properties also are for sale such as the Los Angeles Coliseum (now no longer for sale) and the Orange County Fairgrounds, but these will not be leased back by the state.

Last year, the Department of General Services (DGS) had its real estate forecasters provide estimations of value on 11 state-owned properties located in cities around California. The total estimated market value of the properties located in Sacramento, Los Angeles, San Francisco, Oakland and Santa Rosa is nearly $2 billion. Jeffrey Young, DGS Deputy Director of Public Affairs, explained that the state is planning to sell the properties for nearly $2 billion; the sales proceeds are estimated to be $660 million, after bond debt on the properties is retired.

The properties are office buildings and complexes – the Judge Joseph A. Rattigan Building in Santa Rosa, the Attorney General Building in Sacramento and the Franchise Tax Board Complex in Sacramento, to name a few.

With each of the properties guaranteed to be fully occupied by the state agencies currently located in them, the deal is even more attractive to buyers as none of the agencies are planning on moving, according to Eric Lamoureaux of the Department of General Services.

Lamoureaux explained that the state wants to pull equity out right now in order to retire debt, and cash in on the properties. “If the state had to borrow the $660 million, it would cost a lot more,” he said.

The DGS spreadsheet available on its Web site does not identify what the bond amounts are for the specific properties, but the difference between the $2 billion estimated market value and the $660 million revenue from the sales is $1.3 billion. Young said the bond amount it had been working with is $1.1 billion, but does not include fees, which may take it up to $1.3 billion.

Retiring the bond debt with the sale of the properties is good for several reasons: The state is not just retiring expensive debt, but the money previously spent on the bond debt now goes back into the general fund, the state can again borrow on it, and the state’s credit rating improves, according to the agency.

Under the current lease arrangements, the state agencies have little or no flexibility to sublease office space it does not need. Once the properties are sold to investors, the new leases will allow it to sublease unused space. The state also can vacate the property at the end of the lease should it no longer need the office space.

Long-term leases usually come with five-year options to renew according to industry experts, often renewing the option several times. Lamoureaux said that the unusually long leases are “not something we’ve done before,” but DGS believed they were needed to make the deals more attractive to buyers. Young added that offering the stability of rents to potential buyers made the properties more appealing in a difficult economic market.

Lamoureaux and Young explained that the state is selling the properties with long-term leases not only because of the immediate need for cash, but because the new owners will take over the maintenance of the properties, alleviating the state of the ongoing maintenance responsibility and cost.

This deal started last year when Gov. Arnold Schwarzenegger directed DGS to sell the properties in order to raise cash for the state. DGS prepared the property valuations and estimated sale prices, and awarded the contract to commercial real estate company CB Richard Ellis (CBRE). Randy Getz, the broker handling the sale, said he could not comment on the deal or how it will be handled and referred me to Gerald McLaughlin at DGS for specific information on the lease arrangements.

“Class A” properties are usually sold to investors or investor groups, and not to owners who want to manage the property and a typical lease arrangement is a triple net lease agreement where the lessee pays rent, taxes, insurance and maintenance costs, according to industry commercial real estate experts. When asked about what type of leases they were planning on, Gerald McLaughlin with DGS said there were no offers yet, therefore there are no lease agreements or details, but by selling the buildings they “get out from under the really large repair costs such as fixing a roof or structural repairs.” But Young said they were not planning to use the triple net lease option.

The properties will be formally announced for sale near the end of February, Young said. Once it has offers, the DGS will have a better idea of the sale prices, lease details and even of the revenue the state can expect.

The DGS says it will be obligated to pay $40 million more in rent annually, according to preliminary estimates. In 20 years, the total extra rent cost would be $800 million.

Jon Coupal, president of the Howard Jarvis Taxpayers Association (HJTA), said that the HJTA always advocates the state selling off unnecessary assets, but part of the point is to get out of long-term debt and obligations. “If the state is selling the properties and at the same time negotiating long term leases, they are definitely defeating the purpose,” said Coupal.

After weighing the maintenance obligations of the properties, the increase in rent, and inflexible leases against the savings to the state with the retirement of bond debt and the need for cash right now, the options California is faced with are limited. At the end of the 20-year leases, state agencies may have the option to move out of the properties if they no longer need the space, but the state also will not have equity positions in the properties either, after paying $800 million in additional rent.

Once the properties are officially announced for sale and there are offers on the table, we will weigh in again on the deals.

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