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Gap funding rips down barriers

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CASH & COOPERATION: Gap funding rips down barriers

May 19, 2004

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Developer Joel Landy looks over the old James Scott mansion at the corner of Peterboro and Park on Tuesday. He says financing to renovate Detroit properties is very complex and 80- to 100-page limited partnership agreements aren't uncommon.

BY JOHN GALLAGHER

FREE PRESS BUSINESS WRITER

If Detroit's redevelopment seems to be picking up these days, it's partly because developers and civic leaders finally are figuring out how to close a financing gap that long stymied deal-making in the city.

Consider the Kales Building, a 1914 skyscraper designed by Albert Kahn that was the headquarters of the Kresge Co. For years investors wanted to turn the vacant high-rise at Grand Circus Park into apartments. But first they had to bridge a gap between costs estimated at $17.4 million and what bankers would lend.

Today, thanks to a range of financial tools that include tax credits, help from the Downtown Development Authority and loans from two innovative gap-lending funds, construction crews are remaking the Kales Building into a residential structure with 119 rental apartments. It's expected to be ready for occupancy later this year.

Chip Miller, vice chairman of the Detroit Investment Fund, a gap fund that loaned $1.25 million to the Kales project, says the deal represents good, old-fashioned pump-priming.

"The hope is that this is really successful, that we fill it up and it leads to places around it coming on line. Then you've created a community that will support actual unsubsidized development," he said.

Gap assistance is needed because, to speak a blunt truth, virtually no deal in the city of Detroit aside from casinos can be financed solely on the strength of its own economics. "Almost all of them need some degree of assistance," Miller says, "and it'll vary from a significant amount on some of the bigger projects to a much more modest amount on smaller projects."

Suburban deals rarely face similar challenges, because if a deal doesn't make financial sense in suburbia it usually doesn't get done. But in the financially strapped city, which has lost more than half its population and hundreds of thousands of jobs over several decades, civic and corporate leaders are willing to commit public and private resources to underwrite residential, retail and commercial development.

For that reason, companies like General Motors Corp., Ford Motor Co., DTE Energy, Masco and others have underwritten the Detroit Investment Fund and a similar entity known as the Lower Woodward Housing Fund.

The concept of gap funding isn't new. For decades, city leaders have used tax abatements and low-interest loans to nurture some deals, such as new waterfront housing in the 1980s. But in recent years, following the example of successful gap funds in Pittsburgh, Cleveland, Philadelphia and other cities, the creation of the Detroit Investment Fund and the Lower Woodward Housing Fund added more flexibility to the arrangements, especially for smaller residential projects that involved renovating historic buildings.

David Blaszkiewicz, president of the Detroit Investment Fund, calls it a "but-for tool."

"But for the help of this fund, these commercial or real estate projects would not be completed," he said.

Perhaps it's a measure of how much the gap funds were needed that, even with them in place, developers struggle to make the numbers work.

Joel Landy, a Detroit developer who has renovated several older buildings in the city's Midtown area just north of downtown, says the deals are very complex, with 80- to 100-page limited partnership agreements and annual audit fees of $8,000 to $10,000, several times what a simpler suburban project might require.

"They get to be rather complex deals, because you have four or five different sources of financing," Landy says.

Among Landy's deals are the Addison Apartments on Woodward near Brush Park, a renovated building that houses a popular new restaurant, Atlas Global Bistro, on its ground floor.

A project like the Kales Building is a financial jigsaw puzzle. In addition to a traditional mortgage and investor equity, the project required loans from both gap funds, historic tax credits, brownfield tax credits and aid from the city's Downtown Development Authority. "The list goes on and on these days to help people close that gap," said Eliot Stark, a real estate consultant and managing director of Mackinac Partners, a Bloomfield Hills financial advisory firm.

Miller estimates the gap funding can run as much as 50 percent of total project costs on some deals.

"All of these tools are required," Blaszkiewicz said. "If you pull out any one of these elements in any one of these deals, you don't have a deal that's going to make it through to completion."

Some high-profile retail projects, meanwhile, benefit from another type of gap funding. Major landlords such as General Motors and Compuware Corp. sometimes offer lucrative terms to desirable tenants to draw them in.

Matt Prentice, president and CEO of Bingham Farms-based Unique Restaurant Corp., soon will open his Coach Insignia restaurant high atop the Detroit Marriott Renaissance Center hotel. Prentice said he balked at first when GM, which owns the RenCen and the hotel, tried to recruit him to open a fine-dining site there. Encouraged by the improving environment downtown, Prentice says he agreed to go ahead only after GM agreed to underwrite any unusual costs that came from operating an upper-story restaurant.

Meanwhile, at the new Compuware headquarters downtown, the new Borders bookstore opened only after years of trying to win over the skeptical Ann Arbor-based retailer.

John Sappington, Borders' director of Midwest real estate, said Detroit's weak commercial market left executives unconvinced there was a market for one of its stores. But as Compuware Chairman and CEO Peter Karmanos Jr. moved into software company's new headquarters last year, he pushed his aides to negotiate deals with Borders and Hard Rock Cafe.

Among concessions, Borders gets to walk away from its 12-year lease if sales don't match hopes. The bookseller hedged its bets by opening an 8,000-square-foot store instead of the usual 20,000-square-foot design. Happily, the company has found store sales doing well, Sappington said.

Like so much of Detroit development, getting major retailers downtown would not happen without diligent, sustained interest on the part of people who really want to make it happen.

"Downtown is going to be a sporadic environment, but in order to turn it around, you're going to need commitments from people like GM and Compuware," Prentice said. "I applaud their guts."

Contact JOHN GALLAGHER at 313-222-5173 or [email protected]

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