Cushman’s Harmon: Partial-interest sales driving big deals

Billion-dollar transaction activity in New York City has risen sharply during the current real estate cycle, thanks to a form of investment activity that has picked up in recent years.

During the last real estate cycle, from 2005 to 2009, the number of commercial real estate deals in Manhattan valued at $1 billion or more was 17, according to Douglas Harmon, chairman of the capital markets group at Cushman & Wakefield. During the current cycle, from 2010 to 2016, the number more than doubled to 42.

“Why has that happened?” he said, speaking at a media event sponsored by the New York-based firm on Wednesday. “A lot of that is a component of the market that didn’t exist much pre-2010, and that is the partial interest market. The press doesn’t write enough about it; it’s less sexy. I think it’s more interesting, it’s more complicated; there’s a lot more issues to it. Roughly 50 percent of the transaction activity for big deals happens via partial-interest sales, and that’s really dominated by foreigners.”

Partial-interest sales have come to dominate the Manhattan market in the past year: in 2015, 58 percent of billion-dollar transactions were full-value deals, while 42 percent were partial interests, according to Cushman & Wakefield. In 2016, however, just 40 percent of billion-dollar transactions were full-value, while 60 percent were partial-interest.

In both years, partial-interest transactions primarily involved foreign buyers, according to the firm’s data. Overseas investors accounted for 60 percent of such deals in 2015 and 67 percent in 2016.

While partial-interest sales are partly driven by the Foreign Investment in Real Property Tax Act of 1980, which taxes foreign real estate investors upon the disposition of a US property, other factors come into play.

“It’s also owners not wanting to give up their properties because they don’t know what to do with the proceeds,” Harmon explained. “So this way, they bring in sometimes a strategic partner, [and] they sometimes get a higher valuation selling a 49 percent interest than they do selling the whole thing. You’ve got a partner that owns the asset and wants to stay with the asset and doesn’t want to sell 100 percent and knows that there’s upside in it. That feels very good for foreigners that want the operations, leasing and safety of an existing owner.”

Chinese investors accounted for the largest share of the foreign capital transactions in Manhattan, representing 31 percent of overseas transaction activity in terms of the number of deals and 29 percent in terms of dollar volume. While the dollar volume of Chinese investment in Manhattan fell 40 percent from $25.8 billion in 2015 to $15.4 billion in 2016, its share of both foreign investment activity and billion dollar transactions rose 11 percent and 22 percent, respectively, during the same period.

The dominance of foreign investors also contributed to an unusual paradox in the New York investment sales market in 2016: while dollar volume and the number of properties sold were down, pricing on the asset was up.

The dollar volume of investment sales in New York City was down 25 percent from $77.1 billion in 2015 to $57.86 billion in 2016, while the number of properties sold declined 16 percent during the period, according to Cushman & Wakefield. The price-per-square-foot, however, rose percent from $491 in 2015 to $534 last year.

“In other periods, when there’s falloff in volume, usually that translates pricing falling off as well,” said Harmon. “That has not been the case. Why is that? To me, it’s very simple. The supply of cash looking at Manhattan, particularly that investing in trophy properties, has far outpaced the supply of properties. So if you have a piece of property that’s even average, I’d get it to the market now, because it’s going to shine in a better light when it doesn’t have the competition of other properties.”

Overall, he expressed “cautious optimism” about the year ahead. “I think we are part and parcel of where we are in the transaction life cycle. We’ll be down a little bit more in 2017, but the second half will be a lot better than the first half. I think we’ll build to a new high from there.”