Developers reap bonanzas. Not always.

An item about the conversion of an office building on lower Fifth Avenue (illustrated in the photo at left) caught my eye last week.

The Wall Street Journal reported that the building at 141 Fifth Avenue has finally sold its last two condo units. It happens that an unidentified buyer paid $12.9 million for the apartments, according to the newspaper.

You might think, as I did, that the developer of the 34-unit building cleaned up, with the average price per square foot of $1,700 and sales said to total $112 million.

Think again.

According to the piece by Craig Karmin, the partnership that developed the building paid $54 million for it in 2005. Then they spent $40 million on renovations, bringing those costs to $94 million.

A 16 percent return looks mighty good, assuming the figures are correct. But, correct or not, they are incomplete.

Let’s add to the expenses three other major items: broker commissions, loan costs and marketing.

I can’t be certain what the commissions were for all of the apartments, though I did find one that had a 6 percent fee, half to the buyer’s broker and half to the seller’s. Let’s assume that many buyers were unrepresented and that the average commission paid was 4.5 percent. Such an amount would equal $5.04 million ($112 million times 4.5 percent).

Now assume a construction loan of $40 million at a modest 6 percent. Whether the developers put up the cash, foregoing other investments, or a lender did, there were significant expenses related to the renovation. So, 6 percent of $40 million adds another $2.4 million. Or not — it’s just a guess and probably amounted to much, much more.

Finally, what did the developers spend on marketing? Again, I have no way of knowing. Over three years, the costs of all those glossy booklets, the sales center, social media efforts and advertisements had to mount up. Feeling uncharacteristically charitable, I’ll put
that number at a paltry $2 million.

I’m not even going to take into consideration the opportunity or borrowing costs of the invested funds, which could have gone into, say, the stock market.

What we are left with, then, is $94 million plus $5.4 million plus $2.4 million plus $2 million. In round numbers, call it $10 million, raising the total cost of the project to $104 million.

My analysis is admittedly crude in the extreme, but the total suggests a return on the investment of no more than 9 percent over six years.

I suppose 9 percent is a decent return — at least it’s not a loss unadjusted for inflation — though the developers would have done better otherwise.

At the time, stocks may not have been the answer. It is not an exact comparison because the costs were spread out over time, but had the developers put $104 million into an S&P Index fund five years ago, that sum would have grown only 2.62 percent.  Had they put that money into the stocks a few months ago, they would have made out like. . . bandits.

On balance, it appears that maybe they did okay, at least to their satisfaction and on the basis of my extraordinarily conservative assumptions.

But I have to wonder what value the developers would place on their peace of mind as sales lagged and lagged. For me, the uncertainty would not be worth it, and many a wise investor did very, very well (not me) by putting their money into any number of other assets at the time they purchased the building.

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Malcolm Carter
Licensed Associate Real Estate Broker
Senior Vice President
Charles Rutenberg Realty
127 E. 56th Street
New York, NY 10022

M: 347-886-0248
F: 347-438-3201
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