The Parkmerced investors

Pub date March 29, 2011
WriterRebecca Bowe

Parkmerced is one of the largest rental properties west of the Mississippi, and with more than 1,500 rent-controlled units, it’s an important piece of the city’s affordable-housing stock. Among the residents who live in the neighborhood-scale apartment complex are seniors, young families, and working-class San Franciscans, some of whom have called it home for decades.

A plan for an extraordinary overhaul of the property envisions tearing down the existing low-rise apartments and nearly tripling the number of units with a construction project that could take up to 30 years. On March 29, after Guardian press time, the Board of Supervisors was scheduled to vote on whether to uphold the plan’s environmental impact report (EIR), a key milestone of the approval process.

The Planning Commission voted 4-3 to certify the EIR, and if the board followed suit by rejecting four different appeals filed against it, Parkmerced would be on track to clear final approval sometime in May.

San Francisco Tomorrow was among the groups that filed appeals against the Parkmerced plan. “They want to destroy a neighborhood without sufficient justification or mitigation,” said Jennifer Clary, the group’s president, citing concerns about traffic congestion, loss of an historic landscape, and the destruction of rent-controlled housing.

Julian Lagos, a resident of 18 years, filed an appeal on behalf of the Coalition to Save Parkmerced. “It’s a very blue-collar community, and they want to replace it with wall-to-wall luxury high-rise condos,” said Lagos, who lives in a unit that would be targeted for demolition under the development plan. “I call it ground zero,” he said. “And I tell my neighbors, ‘You’re living at ground zero.’ “

Mayoral development advisor Michael Yarne noted that most points highlighted in the EIR appeals had already been addressed, except one charging that there hadn’t been adequate consideration over whether a Pacific Gas & Electric Co. gas pipeline running underground near Parkmerced could be jeopardized by construction activity. “The answer to that is, that’s a really good question for PG&E,” Yarne said. But he asserted that it wasn’t a project EIR issue.

Elected officials’ reactions to the overall plan were mixed. Lagos noted that campaign filings showed that Sups. Carmen Chu and Sean Elsbernd had accepted donations from people related to the project, and he predicted that Board of Supervisors President David Chiu would be a swing vote on the issue. Chiu spent several hours touring Parkmerced the Friday before the vote. He did not return Guardian calls seeking comment.

A development agreement between the city and the developer, Parkmerced Investors LLC, promises that existing tenants will keep their rent control at the same monthly rates — even after the apartments they now reside in are razed to make way for new residential towers.

Such a plan typically wouldn’t fly under state law because the Costa-Hawkins Act prohibits a city from imposing rent control on newly constructed housing. Yet city officials, with input from the City Attorney’s Office, say they’ve constructed this deal so that it falls within one of the exceptions written into the state law, offering a legal defense in the event of a court challenge and a guarantee against affordable housing loss.

“The development agreement is like a constitution for land use,” said Yarne. “You can’t get rid of it.” If the project changed hands or the developer went bankrupt, the new owner would be bound by the same terms, Yarne said.

However, Mitchell Omerberg of the Affordable Housing Alliance cautioned that he didn’t believe there was any guarantee that rent-control housing qualified as an exception under Costa-Hawkins. “Like parking a semitruck in a motorcycle space, it’s a poor fit and a risky bet — even before you consider the antipathy to rent control of the California courts,” Omerberg wrote in an argument against the plan.

Tenants advocacy groups have pointed to recent court decisions negating affordable-housing agreements in development projects, saying the legal precedent makes the Parkmerced pact vulnerable to a court challenge. In response, Yarne said those cases had strengthened the city’s legal strategy for formulating the agreement to guard against such a challenge. “This agreement is actually greatly improved because of those cases,” he said.

Nevertheless, there’s a clear financial incentive for the developer to strip away the rent-control unit replacement and other valuable community benefits it is required to deliver under the terms of its agreement with the city. An independent analysis of the project’s financial plan found that if Parkmerced Investors LLC adheres to all the terms of the agreement as planned, its financial rate of return would be less than ideal.

Drafted by consultant CB Richard Ellis (CBRE) to provide an objective financial picture for the city, the report found that the developer’s estimated 17.8 percent rate of return was “slightly below the threshold required to attract the necessary private investment” because investors aim for at least 20 percent in this market. “This means that, based on current and reasonably foreseeable short-term market conditions, the project may not be economically feasible,” the report noted. It added a disclaimer saying that cash flow from rent payments could offset that risk.

That lower rate of return isn’t a cause for concern, Yarne said, but rather a sign of the city’s negotiating prowess, since “we’ve gotten as much as we can in terms of public benefits. That 17.8 percent rate of return shows that we’re probably at the max.”

At the same time, the financial analysis showed that the developer’s prospects improved under hypothetical “tested scenarios” where the expensive community benefits promised in the development agreement weren’t a factor. As part of the analysis, CBRE looked at how the numbers would change if the developer decided to build new market-rate units instead of replacing all the existing rent-controlled units, and found it would fetch a 19 percent rate of return. In a scenario where it stripped out additional costs such as a community garden and new transit line, the rate of return would jump to an eye-catching 23 percent.

But those scenarios are just a hypothetical way to arrive at conclusions about a project’s value, said consultant Mary Smitheran, who drafted the report. “The development agreement specifies that those items need to be provided,” she said.

City officials have given the impression that they’re nailing down a set of requirements that the developer, or any future property owner, cannot get out of. But the people behind this project are some savvy Wall Street investors who are no strangers to controversy.

Fortress Investment Group, a New York City-based hedge fund and private equity firm with directors hailing from Lehman Brothers and Goldman Sachs, gained a controlling interest in Parkmerced last year after Stellar Management couldn’t make the payment on its $550 million debt.

Stellar jointly purchased the property in 2005 with financial partner Rockpoint Group, setting up Parkmerced Investors LLC as the official ownership company. Stellar still manages the property, but Fortress has seized financial control. A recent report on the Commercial Real Estate Direct website noted that its $550 million debt had been modified recently with a five-year extension to 2016.

Fortress made headlines in 2009 after it stopped providing funds to Millennium Development Corp. for the Olympic Village project in Vancouver, British Columbia leaving the city on the hook for hundreds of millions to finish the job in time for the winter games. Meanwhile, Fortress CEO Daniel Mudd recently got formal notification from the U.S. Securities & Exchange Commission (SEC) that he could potentially face civil action relating to his former job as CEO of Fannie Mae, the government-backed mortgage giant, for allegedly providing misleading information about subprime loans.

Stellar, a New York City company run by real-estate tycoon Larry Gluck, was profiled in a 2009 Mother Jones article about Riverton Homes, a 1,230-unit Manhattan rental housing project built in a similar style to Parkmerced, which Stellar purchased in 2005. Although Stellar assured residents that their affordable rental payments would remain unaffected, hidden from view was its business plan estimating that half the tenants would be paying almost triple the rental rates by 2011. Since rents couldn’t ultimately be raised high enough to cover the debt payments, the complex went into foreclosure — but Stellar was shielded against loss because, on paper, Riverton was owned by a separate LLC.

Linh Le, a 36-year resident of Parkmerced and former Chevron employee, wrote to the Board of Supervisors in advance of the March 29 hearing to warn of the financial troubles the investors had experienced before.

“This project reflects a pipe dream that was hatched during an era of reckless spending, fake prosperity, and seemingly limitless money that has since crashed and nearly destroyed America,” he wrote. “The business model that Parkmerced based this plan on has failed and nearly ruined their enterprise. That era is over and the world has changed.”