Savanna Revisits 1990s Playbook with $550M Fund

NEW YORK CITY-Amid a private equity fundraising environment that is coming off a seven-year low globally, Savanna Investment Management’s second real estate fund has topped out at $550 million, nearly 40% more than its target of $400 million. With Savanna Real Estate Fund II in hand, the private equity and asset management firm is taking a page from the playbook it used during the last great downturn, and expanding on that strategy, managing partner Nicholas Bienstock tells me.

“We have seen the opportunity in Fund II to purchase entire first mortgage positions at a discount on the kinds of assets that we would like to own and operate,” Bienstock said during our interview. Savanna often uses these debt positions to take ownership and/or control of the asset “at a compelling basis—either by working out a deal with the borrowers to take ownership and/or control of the asset or foreclosing.”

At Savanna’s new, reduced basis, “we can sign leases at today’s market rents, which are off 30-40% on a net effective basis from the peak, and make the kinds of 20%+ returns and 2.0 equity multiples that we are targeting,” says Bienstock. He adds that it’s “similar to the strategy Savanna pursued on a smaller scale from 1992 to 1995, following the last great real estate crisis.”

Over the past 12 months, Savanna has been among the more active buyers of office properties locally, acquiring a total of 2.2 million square feet of Manhattan assets in six transactions. While it has ventured outside the metro area as well as outside the office sector, Bienstock says the firm continues to love New York.

The city, he says, “is one of the largest, most liquid markets in the world. Many of the drivers of New York’s economy—including finance, tourism, health care, education, advertising and technology—have stabilized and are showing signs of increasing health. Job losses are a third of what they were projected to be a few years ago and firms have begun hiring again. Meanwhile, rents are down on a net effective basis by 30-40% and values have been hammered by similar percentages. But the market is transacting again, leases are being signed in increasing scale and velocity, and investment sales have returned.”

With all of these factors at work, “we see this as an unusual period in time where we can acquire extraordinary real estate in one of the most attractive markets in the world at a very low basis, because of the financial crisis,” Bienstock says. “We don’t underwrite dramatic, near-term improvement. But at our basis, things don’t need to improve for us to make our target returns.” However, if things do improve, “we have put ourselves in a position to exceed expectations for our investors.”

In the current market, says Bienstock, “Fully occupied, cash flowing assets are trading at high prices, as investors put a premium on stability and predictable cash flow. But we don’t buy deals with that kind of profile. We buy transitional assets that require a lot more work.”

For example, a typical Savanna play might entail “upgrading a ‘B-‘ building to a ‘B+’ building by renovating the lobby, bathrooms, systems and common areas, leasing and building out vacant space, rolling below market rents to market rents over time and ultimately selling the building once it is fully occupied and repositioned,” Bienstock says. “We want to buy ‘zombie’ buildings that have serious issues and problems, we want to correct those issues and problems during our holding period and then sell them as fully stabilized assets to the buyer who is prepared to pay peak pricing for a high quality asset with predictable cash flow.”

Such assets, in contrast to the near-peak pricing that has underpinned some of the highest-profile office trades lately, are not trading at peak prices, says Bienstock. “In fact, there are some compelling deals in this market, especially if you go in through the debt,” he says. “We expect those opportunities to continue for the next 12 to 23 months as the system addresses the problems created by the financial crisis.”