Comeback Stories: Downtown’s Old Buildings

Five years ago, few investors would have considered buying one of downtown Los Angeles’ older office buildings. With lease rates plunging in the city’s sleek granite and glass high-rises, these second-tier structures just couldn’t compete for tenants and several closed their doors.

But with rents edging up across the Southland, a handful of brave investors are starting to buy these mostly pre-1980s buildings, confident that they will eventually fill up again.

“They’re betting that downtown will come back,” said Jack Kyser, chief economist with the Economic Development Corp. of Los Angeles.

What’s selling? Turn-of-the-century offices with unique architecture and stodgy low-rises in good locations. Such buildings are suited to price-sensitive tenants, such as government and nonprofit agencies, and creative firms that shun traditional offices.

Buying older buildings is still a gamble, analysts, say, because they’re competing with high overall vacancy at 23% and rents in newer downtown offices averaging $18.84 per foot. And bringing old buildings to market may require costly renovations.

But they have a powerful lure. Unlike Class A buildings, most sell for a fraction of what it would cost to replace them.

“The potential payoff is enormous if values recover to the level of the 1980s,” said David Zoraster, a senior real estate analyst with the appraisal division of CB Commercial Real Estate Group. “If not, then it’s not such a good deal.”

One of downtown’s biggest speculators has been Goodwin Gaw, president of the U.S. division of Hong Kong real estate firm Pioneer Holdings. Gaw and partner Kennedy-Wilson Inc. of Santa Monica began snapping up bargains downtown more than a year ago, beginning with 818 7th Street, a 73-year-old high-rise that had been recently renovated.

The 12-story tower, which was only 30% occupied after the Metropolitan Transportation Authority moved out in 1995, sold for one-third of its previous owner’s note. It’s now 74% leased at a monthly rental rate of $1.25 per square foot, about as much as some newer buildings.

“It’s performing much better than I even remotely anticipated,” Gaw said. That purchase, which also included 611 Wilshire Blvd., sold Gaw and his partners on downtown. The group has since made other acquisitions, including 700 Wilshire Blvd. and 612 S. Flower St., a vacant bunker of a building that covers an entire block in the heart of the financial district.

Critics questioned the $12-million purchase, calling the 1949-vintage building unattractive and unmarketable. But Gaw insists the deal is a good one.

“There’s an old saying in real estate--location, location, location. When we bought that, it was like buying a piece of [prime] land,” Gaw said.

To land a tenant for the troubled site, Gaw plans a massive face-lift. He has hired architectural firm DMJM Keating to develop a plan that includes new wiring, interiors and facade. The renovation could cost more than twice the building’s purchase price, and it will probably not proceed unless Gaw can find a corporate tenant looking for a campus-sized facility.

That’s a difficult task, brokers say, and could take a year or more, if the building gets leased at all. Most larger investment firms and real estate investment trusts aren’t willing to take such a risk.

“We like to pursue functioning multi-tenant office buildings in suburban areas which we can readily lease to a wide variety of tenants,” said Jeff Nickell, a vice president of West Coast REIT Spieker Properties Inc., one of Los Angeles’ most active buyers. “With many [older, downtown properties] you can have some real functional and locational challenges.”

But to some, downtown L.A. can be likened to an undervalued stock whose value will soar as prices escalate in other markets. “There’s too big a discrepancy in rents between downtown L.A. and Westside,” Gaw says. “Downtown is going to become attractive for large [space] users.”

First, brokers say, vacant space will need to be absorbed in downtown’s Class A buildings, many of which were built in the last development boom in the 1980s. Rents in these buildings are still a relative bargain, so much so that even the Hertz Group, a buyer of older downtown buildings, considered moving into a penthouse suite at posh Library Tower. It eventually reconsidered and stayed in one of its own properties.

“I hate to see us giving so much money to somebody else,” said Tom Gilmore, Hertz Group president.

Hertz Group was formed in 1996 when architect Gilmore and condo developer Judah Hertz acquired the International Jewelry Center, a 61%-occupied building in the heart of the wholesale jewelry district. The 16-story building was previously owned by Gilmore’s former employer, Sentinel Real Estate. By marketing the building to New York jewelry manufacturers and retailers at large jewelry shows, the group has raised the building’s occupancy to 90%. The $24.5-million purchase is now worth about $30 million, Gilmore says.

Since then, Hertz has purchased the historic Oviatt building, once owned by Hollywood clothier James Oviatt, for $1.5 million. The 12-story building, built in 1928, features Lalique glass doors and fixtures and a penthouse with vintage furnishings that rents out for parties and movie shoots. Leasing the older structure hasn’t been easy and renovations have cost $1.5 million so far. But the building is now posting a positive cash flow after its first full year under the new ownership. It’s 70% occupied, mostly by the Los Angeles Bar Assn. and a collection of attorneys and jewelers.

To find tenants for these buildings, buyers like Gilmore and Hertz often rely on a network of government and civic association connections. Gilmore, who formerly performed most of the leasing himself, belongs to a number of downtown conservation and arts organizations, arenas he uses to promote his buildings.

“It’s the way business used to be done,” he says, before large Wall Street entities became major players.

In recent months, Hertz Group also has scooped up the six-story University Club on 6th Street for $3.05 million, which generates a substantial chunk of its revenue from on-site parking, and Banco Popular, a nine-story building on Spring Street that houses the city’s Community Redevelopment Agency.

With the agency’s lease expiring in October, analysts say the building, built in 1903, is a wild card. If the CRA moves out, the building could sit empty for a long time and costly renovations might be required to obtain a certificate of occupancy for a new tenant.

“Empty buildings deteriorate in a hurry,” CB Commercial Real Estate Group’s Zoraster said.

But with values heating up downtown and more buyers in the market, Gilmore says it’s no longer easy to pick up buildings for a song. To buy affordable properties, they have to take more chances, with tenants and renovations. Yet the group is still targeting other acquisitions.

“I hope to have four more buildings in downtown by the end of 1998,” Gilmore says.

What’s left to buy? Downtown boosters say a number of older buildings along Broadway and Spring Street are just waiting to be renovated to funky offices for advertising or architecture firms or perhaps high-tech businesses.

But they also acknowledge that for every jewel in the rough, there are many obsolete buildings that require too much work to meet the exacting standards of today’s commercial tenant. Several even lack parking.

Preservation organizations such as the Los Angeles Conservancy hope some historical buildings will eventually be converted to residential lofts and that these new residents will lure more retailers and restaurants to the central business district. “In order to fully revitalize downtown, we need more people to live there,” said Linda Dishman, director of the Conservancy. “That will generate more interest in the city’s historic core,” she said.

Others speculate that downtown’s future hinges on its transportation network as congestion increases on the Westside and in Burbank, Glendale and Pasadena.

“This is where everything starts and ends,” Gaw said, noting downtown’s access to rail lines. “These things are not something a private enterprise can do on the Westside,” Gaw says.

To help developers get residential and commercial redevelopments off the ground, the Conservancy has been arranging tax credits through government redevelopment programs. But such assistance doesn’t make deals happen, Dishman says.

What’s pushing redevelopment in other urban areas nationwide is economic growth and a renewed appreciation for city environments and ornate architectural details, said Michael Beyard, a vice president of the Urban Land Institute in Washington, D.C. That appreciation is something Los Angeles has been lacking, until recently, local critics say.

“L.A. is a city that has always looked to the future. Developers have used its buildings and land like some people used Kleenex,” said Dan Rosenfeld, real estate asset manager for the city of Los Angeles. “Downtown will turn around; it’s just going to do it one building at a time.”