09/14/2011

Court Approves Big Rental Offering Near DC

A bankruptcy court has given the green light for the listing of a big suburban Washington apartment complex that could be a litmus test for whether soaring valuations in the area will be sustained.

The 891-unit property, in Silver Spring, Md., is performing well. But an overleveraged Stellar Management entity lost control of it after defaulting on $185 million of debt in February 2010.

Comparable older-vintage complexes in suburban Washington have traded at capitalization rates in the area of 6% over the past year or so, reflecting strong investor demand for such properties. But market pros think the recent economic weakening and a softer outlook for rent growth might temper the sky-high valuations. They expect the Silver Spring complex, called The Georgian, will be purchased by a value-added investor at a price closer to a 7% cap — perhaps for $192 million, or $215,000/unit. CB Richard Ellis has the listing.

The two-building complex, at 8750 Georgia Avenue, was built in 1970. New York-based Stellar bought it in 2004 from GE Capital for $89.5 million and then mapped out an ambitious $30 million renovation, which has been partially completed.

Stellar refinanced the property in 2007 with a $185 million debt package arranged by Deutsche Bank, including a $125 million senior loan that was securitized. At the time, the high-rise complex was valued at $227 million.

But after the economy tanked and the real estate market crashed, the property’s value plunged to as low as $149 million in February 2010, when the Stellar entity defaulted, according to a servicer report. A few months later, contractors working on the renovation filed to put the borrower into involuntary bankruptcy, citing claims of $1.4 million, the servicer report said. Three months ago, with the approval of its debt holders, the Stellar entity filed for Chapter 11 bankruptcy with a prenegotiated plan of reorganization that paved the way for the listing.

The offering will test whether investor demand remains at a high level. Much of that enthusiasm has been premised on projected annual rent increases of at least 8% at top properties. Now, though, those projections may seem overly rosy. Rent growth for 2011 is on pace to be just half of the 5.5% level in 2010, according to Marcus & Millichap. And the pent-up demand for apartments that pushed up the average occupancy rate in the Washington area to 95% also appears to be waning.

Newer-vintage core properties are considered likely to continue to attract top dollar. But some players think investors may become more cautious with suburban and older properties like The Georgian.

The complex’s occupancy rate is 90%. The units, with an average size of 809 square feet, are configured as studio, one- and two-bedroom apartments. Rents average $1,900, ranging from $1,400 to $2,700 — except for one suite that commands $5,000. Stellar upgraded 318 of the units to luxury status and also renovated most of the common areas and amenities, which include a rooftop pool and a fitness center. That enabled Stellar to raise rents by as much as $300 for the renovated apartments. A buyer could finish improvements on the remaining 573 units and boost rents.

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