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UNCOMMON PLAYER
How Passco has made a business out of the tenant-in-common
structure.
Randall Shearin
While the tenant-in-common structure of real estate ownership
has been around for a long time, it has mainly been applied
to ownership in multifamily properties. One California company,
Passco Enterprises, is out to change the way the real estate
world thinks about the tenant-in-common (TIC) structure, viewing
it as a new type of investment vehicle for individuals and companies.
Western Real Estate Business recently interviewed William Passo,
president and chief executive officer, and Bill Winn, chief
operating officer, at the company’s offices in Santa Ana,
California.
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Passco has been a forerunner in the use of the tenant-in-common
structure as a tool for real estate investors. Tenant-in-common
ownership places multiple investors in the same property, whereby
each owner is given a deed. It is not a structure where the
same group owns the property together in a partnership structure.
In the tenant-in-common scenario, each owner holds a deed to
an undivided interest in a specific piece of the real estate.
While this practice has been in place for years in residential
condominium and other multifamily properties, it was seldom
used with retail, office and industrial properties.
Passco also adds another twist to the game: most of the investors
it places in its deals are doing 1031 exchanges — they
are sellers of other commercial real estate properties. For
instance, an owner of three multifamily properties might approach
Passco as he is about to sell his apartment houses. Passco will
find a TIC deal in which the investor can place his money once
the multifamily properties are sold. Passco purchases a grocery-anchored
shopping center using the investor’s money, along with
that from a number of other investors. Each investor will receive
a deed to an undivided interest of the shopping center —
for example, a 10 percent ownership interest of the entire shopping
center. Gone for the investor are the headaches of day-to-day
management and maintenance. Passco takes care of all management
issues. The company also has a great success rate: most of its
properties yield north of 10 percent per year.
“These deals have diversity of tenants, a multi-purpose
building, a large enough property where the cash flow is adequate
to give each investor a return while paying for management,”
says Passo.
Passco also participates in every deal at some level of ownership.
In some cases, that level is dictated by the lender and in others
by how much money is committed to the property before closing.
There is no set formula as to how much Passco will own in each
property. There is, however, a game plan for every property
before it is purchased and before investors are brought in.
A prospectus for each deal, including how long Passco intends
to hold the property, is written and presented to possible investors.
Generally, the company holds its property between 5 and 7 years.
Usually, investors who are in a Passco property that is sold
reinvest their holdings in another deal.
Every investor that purchases a tenant-in-common interest must
be accredited, meeting certain net worth and income standards.
Typical investors are ones who have managed their own real estate
and who have decided to sell.
“There is a real need among real estate investors to get
themselves into a position where they can enjoy the fruits of
their labor,” says Passo. “The structure allows
the investor to buy a piece of a property that will generate
the income that their old properties did. For someone doing
a 1031 exchange, it is difficult to find a true value-added
opportunity that works, simply because you have to have additional
capital to invest. Having other investors allows that.”
The company has been known for investing and owning grocery-anchored
community centers. A few years ago it became active on the multi-tenant
industrial front. And then, Passco did the deal that made other
real estate firms take notice of the company: it made the largest
TIC deal ever when it purchased, on behalf of its investors,
Puente Hills Mall in City of Industry, California. With a pool
of 31 investors, Passco purchased 750,000 square feet of the
1.2 million-square-foot center for $148 million. The sale was
the largest TIC transaction in history. The center includes
a number of retailers, including AMC Theatres, CompUSA, Burlington
Coat Factory, Ross Dress For Less and Spectrum Sports Club.
Anchors at the center, which weren’t included in the deal,
are Sears and Robinson’s-May.
The Puente Hills Mall transaction really has raised the bar
for tenant-in-common deals. No one had ever done a deal with
this number of tenant-in-common owners using Wall Street-securitized
financing. One noticeable difference since the Puente Hills
Mall deal, says Winn, is the number of potential investors that
the company has knocking on its door.
Currently, Passco has a portfolio of 3.5 million square feet
of grocery-anchored retail, 1.5 million square feet in industrial
assets, and 1.1 million square feet in malls including Puente
Hills Mall and the Wenatchee Valley Mall in East Wenatchee,
Washington. About 80 percent of Passco’s portfolio is
in California while its investors hail from all over the United
States. Passco wants to be able to get to any property in its
portfolio and back to Santa Ana in 1 day. For that reason, it
is limiting where it will buy to the western states.
Passco looks for properties that have potential to create value.
While it doesn’t want to redevelop entire shopping centers,
it looks for centers that may have available outparcels, or
some percentage of vacant space that it can fill to create more
income and generate a stronger return.
A typical Passco center is one like Delta Fair Shopping Center
in Antioch, California, anchored by Save Mart. When Passco purchased
the property, it had a vacant 30,000-square-foot Rite-Aid store.
The company divided the Rite-Aid store and re-leased the space
to two tenants, Hancock Fabrics and Factory 2-U. The shop space
was also 20 percent vacant. Now, the center is 99 percent leased
and is under contract to be sold. When the center closes, its
sales price will create an 18 percent per year rate of return
for the investors.
Passco’s biggest challenge comes when it sells a property.
Since most of its investors want to reinvest with Passco, the
problem becomes finding a larger property to accommodate the
investors — and the increased investment they will be
bringing from their profits in the last investment.
“Finding properties is a challenge for us right now,”
says Passo. “Everyone in the real estate industry today
knows how tough it is to find quality product on the market
that meets investors’ objectives.”
“There is an unlimited demand from investors for what
we do,” says Winn. “It is mainly a question of finding
good real estate — that’s the limiting factor on
our ability. This year, we think we’ve been really successful
in finding really great real estate.”
To help create properties to sell to investors, Passco is ramping
up a development group to build shopping centers and other properties.
Because of Passco’s self-imposed geographical limits,
the major challenges for that group include finding sites to
develop in congested Southern California.
Passco plans to continue purchasing regional malls for its clients.
It plans to add three malls per year to its current portfolio.
Over the next 3 years, it plans to double its current portfolio
size.
“We think the regional mall segment is good for our investor
group,” says Winn. “It has a lot of diversification
of tenants that equates to stability of cash flow. Malls typically
have a large percentage of credit tenants and a large pool of
tenants. We have a conservative investor base that looks for
a safe place to put its money.”
The company also plans to continue to purchase multi-tenant
industrial properties for its clients as well. With their credit
tenants, they are also a lesser risk for investors. Passco is
currently looking for this property type in California and Nevada.
While grocery-anchored centers remain on the company’s
radar, its criteria has changed. Passco can no longer afford,
due to the conservative nature of its investors, to purchase
in tertiary markets where Wal-Mart Supercenters threaten returns
on grocery-anchored centers. The company will now only invest
in grocery-anchored centers in in-fill locations in primary
and secondary markets. With cap rates at 7.5 percent on many
such centers in Southern California, Passco has difficulty finding
many opportunities that fit the company’s cost criteria.
When Bill Passo did the first 1031 exchange to tenant-in-common
deal with commercial property in 1994, it was the only firm
that performed that practice. Today, while Passco isn’t
the only one who’s doing this type of deal, the company
is the leader.
“What started out as a monopoly has now become an industry,”
says Passo.
©2003 France Publications, Inc. Duplication
or reproduction of this article not permitted without authorization
from France Publications, Inc. For information on reprints of
this article contact Barbara
Sherer at (630) 554-6054.
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