Some of the biggest cities in the world are proposing the most ambitious real-estate projects in a generation, a sign of growing confidence in urban living even as the current financial landscape grows bleaker.
The list is long and expensive, with more than 15 ventures, some of which are expected to cost as much as $30 billion: Four in New York City, at least three in Dubai, two in London, Chicago and Milan, and one in Amsterdam, Los Angeles, Paris and Mumbai.
Reasons for the projects vary. One of the most expensive – South Korea’s $30 billion Songdo City – is positioning its 1,500 acres of offices, apartments, hotels, and parks near the Incheon International Airport as a hub for companies’ burgeoning Asian operations. Some projects, like a new entrance to Milan around the city’s Garibaldi train station, are designed to improve blighted areas and others are intended to correct earlier planning mistakes.
Most of them reflect the growing popularity of downtowns as places to live, shop and work. For example, developers say New York’s Hudson Yards project, to be built over a rail yard on Manhattan’s West Side, is needed because the city is running out of office space.
But these are inauspicious times for such plans. Banks are sharply cutting back on commercial real-estate loans. While some projects such as those in cash-rich countries like Dubai are somewhat insulated, developers are worried privately that many of these ambitious, city-changing endeavors – difficult to complete in good times – may be at risk.
”We think there will be a lot of projects that won’t get started because they can’t get financing,” says Jeff Blau, president of Related Cos., a private developer involved in several colossal ventures. He is, of course, upbeat about his own company’s projects. Related began construction earlier this month on the first phase of The Grand, a $3 billion project near the Walt Disney Concert Hall in downtown Los Angeles that will feature a 16-acre park and a Frank Gehry-designed tower that will include condos and a Mandarin Oriental hotel.
In an early sign of the pressure credit markets are putting on big projects, Goldman Sachs analysts on Dec. 14 downgraded the stock of one of the largest builders of urban projects nationwide, Forest City Enterprises. The downgrade said increased borrowing and construction costs are making its development projects less profitable. One of Forest City’s subsidiaries, Forest City Ratner Cos., a prolific New York City builder, delayed the expected completion of a basketball arena that is the centerpiece of its $10 billion project above a rail yard in Brooklyn. The Atlantic Yards project includes 16 residential and office skyscrapers along with large retail spaces. The first phase, which includes the arena, is now projected to open in 2010 instead of November 2009.
A company spokesman says the delay isn’t related to financial markets and that there is no connection between today’s credit market and long-term profitability. Still, the delay lengthens the time before Forest City can derive revenue from its up-front investment at the site, which includes moving the rail yard.
Mega projects typically get considered after years of solid real-estate markets. Ironically, this means developers begin shoveling dirt about the time the economic cycle turns downward. A looming recession – which many economists now see as a possibility, at least in the U.S. – would wreak havoc with real-estate demand because new jobs are the key driver for offices, stores and homes.
”A lot of these projects involve a major retail component that relies on consumer spending and high-end residential. In this kind of environment, those are problematic,” says Nicolas Retsinas, director of Harvard University’s Joint Center for Housing Studies.
The last commercial real-estate crash in the early 1990s stifled numerous big projects and took down developers along the way. The most notorious was London’s Canary Wharf. Though it eventually became a success, weak demand, overbuilding of office space, and the delay of a critical train extension to the area wiped out demand for several years. Canary’s developer, Olympia & York, failed and was later carved into several successor companies.
Often it is the second or third owners that make money on these projects. The sprawling Playa Vista development on the west side of Los Angeles near Marina del Ray was the subject of a political battle a decade ago, and the stalled negotiations led to lenders foreclosing on the original developer, a venture led by property tycoon Robert Maguire III. That meant the end of plans for a complex of office and residential towers. A decade later, after negotiations that led to a donation of hundreds of acres of green space to the state, Playa Vista is nearly finished with the first of three phases of a scaled-down version.
Big projects can cause developers to stumble even in the best of times. Mills Corp., a once high-flying real-estate investment trust, was forced to liquidate in 2006 after it failed to manage several mammoth projects, including a retail-and-entertainment center in New Jersey called Meadowlands Xanadu. Colony Capital now owns the Xanadu development, whose cost has gone to $2.3 billion from $1.2 billion.
But developers find such immense projects alluring, despite their patchy track record. If they succeed they promise to be a steady source of profits and fees for years. Reputations can also be made. Rouse Co. became a global leader in developing festival marketplaces thanks to the success of its developments at South Street Seaport in New York and Harborplace in Baltimore. (Rouse was acquired by General Growth Properties Inc. in 2004.)
The sheer size of these ventures, which all include acres of offices, residential, retail and transportation links, means they will take a decade or more to build. And that presents inherent challenges. A ton of cash is put at risk. For example, in Manhattan’s Hudson Yards project, close to $2 billion will be needed to build a deck over an active rail yard to support the buildings. That alone will take several years.
That extended time line creates significant risk. ”What you can predict with certainty is over the 10 to 15 years it will take to build these, we will have at least one recession if not two,” says Susan Fainstein, a Harvard University urban planner who has studied the economics of mega projects.
Delivering complex infrastructure is another hurdle. In that, Canary Wharf and Hudson Yards share a common thread. Both plans are or were predicated on the delivery of a new subway line to the remote neighborhoods. In the case of Canary Wharf, the Jubilee Line came late and over budget.
New York City has financed the $2 billion expansion of the No. 7 subway line to the area. Though a groundbreaking occurred this month, cost overruns and lack of bidders has already forced the project to scuttle one of two planned stations.
Of course, real estate is a local business that relies on the health of regional economies, not national or international ones. But real-estate finance is not local. For large projects where developers are required to inject billions of dollars up front without receiving payback for years, institutional financing and municipal subsidies are key.
The slowing economy puts that in jeopardy. Mr. Retsinas of Harvard predicts developers for big projects will approach local governments seeking more subsidies. But they may meet political resistance. ”As the economy struggles, it makes it more difficult to take on the added subsidy because tax revenues are falling,” he says.
That’s already showing up in the municipal bond market, where localities are having trouble raising funds. In November, Chicago delayed a $961 million offering to fund construction at O’Hare International Airport. Miami-Dade County delayed $539 million offering for its airport. Louisville, Ky., has had trouble raising funds to build a new arena.