The owner of a landmark West Loop office building that saw its vacancy rising as the COVID-19 pandemic set in has handed the property over to its lender, adding to the tally of downtown office landlords succumbing to fallout from the crisis.
A venture of Bryn Mawr, Pa.-based Alliance HP last month transferred the leasehold interest in the 12-story building at 300 W. Adams St. to an entity managed by Morgan Stanley through a deed-in-lieu of foreclosure, according to Cook County property records. The Morgan Stanley venture was a trustee for bondholders in a $25 million loan that the Alliance venture held on the building; the debt was packaged with other loans and sold off to commercial mortgage-backed securities investors.
The move highlights the pain facing owners of downtown office buildings with significant blocks of vacancy while demand for workspace erodes. Office vacancy in the central business district reached a record high at the end of the third quarter, mostly driven up by a slowdown in new leasing and many companies cutting back on space as the rise of remote work pushes them to reconsider their office needs.
That softening of the market has caused immediate issues for buildings with lots of space to lease like 300 W. Adams St., which saw its vacancy rise to 23% last year from just 3% three years ago, according to Bloomberg data tied to the loan. The property’s net cash flow during the first nine months of 2020 was roughly even with Alliance’s debt service, loan data shows, and the leasehold interest in the building was appraised in March at $23 million, or only slightly higher than the $21.4 million balance on the loan, Bloomberg loan data shows. Alliance stopped making loan payments in December, according to the Bloomberg report.
Now Alliance has opted to surrender the leasehold interest rather than face a foreclosure lawsuit, though a separate Alliance venture still owns the land beneath the building, records show. Alliance split the building from the land when it bought the property for $51 million in 2012 and inked a 99-year ground lease between the two entities, a strategy it has deployed at other Chicago-area office properties that allows it to sell off the building while keeping a financial stake in the property.
The ground lease started in September 2012 with an annual rent payment of just more than $1 million, which increases by 3% each year until 2042, according to the loan report. After that, the rent is set at just under $2.5 million a year for the remainder of the lease term, the report said. An Alliance venture holds an $18 million loan on the ground beneath the building, property records show.
An Alliance spokesman couldn’t be reached. The firm is an affiliate of Honolulu-based real estate firm Shidler Group, which is led by longtime real estate investor and First Industrial Realty Trust co-founder Jay Shidler.
Alliance tried to cash out on its leasehold interest in the 254,000-square-foot building before the pandemic, hiring the Chicago office of Jones Lang LaSalle in November 2019—when demand for downtown offices was soaring—to sell it for what some investors estimated at the time would be close to $30 million. Alliance had sold off leasehold interests earlier that year in office buildings at 111 W. Washington St. and 200 S. Michigan Ave.
The Adams building had fallen to 80% leased at the time after software company Dialogtech moved out of more than 40,000 square feet, and the property never traded.
The terra cotta-clad, 93-year-old Gothic-Revival architecture building drew a spotlight as one of the first big creative office turnarounds by Chicago developer Sterling Bay, which bought it for about $23 million in 2007. That was several years before Sterling Bay had built its reputation for repositioning vintage office buildings downtown.
After spending some $13 million modernizing the building and winning landmark status from the city of Chicago for the property in 2009, Sterling Bay held onto it through the Great Financial Crisis before selling it to the Alliance venture in 2012.
Alliance’s move comes in the wake of another investor handing over the keys to the 226,000-square-foot office building at 65 E. Wacker Place, where Irish real estate investment fund Wilton U.S. Commercial recently walked away after struggling to lease up vacant space and saw the building’s net cash flow fall well below its annual debt service.
Such distress in the downtown office market has been gradual, since revenue at office buildings is typically tied to long-term leases. But higher-profile cases have popped up, most recently with the Civic Opera Building, whose owner was hit with a $195 million foreclosure suit in the biggest case of downtown office distress in years.