Q&A: Larry Goodwin on 1788 Holdings’ Industrial Strategy in DC Region

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At 1788 Holdings, a real estate investment company based in Bethesda, Md., light industrial assets are a major focus, and the company has been increasing its reach in the Baltimore and Washington, D.C., region over the last few years. 

For instance, 1788 acquired a 10-asset portfolio of well-located retail pad sites — vacant lots near retail centers — throughout the Washington, D.C., metro. Eight of the sites are former Capital One Bank branches and two are land parcels that were to be developed as bank branches. 

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The company’s goal is to acquire between 500,000 and 700,000 square feet of industrial properties in the next 18 months.

Larry Goodwin, 1788 Holdings founder, spoke with Commercial Observer about the company’s post-pandemic strategy concerning acquisitions. 

Commercial Observer: What do you look for when acquiring properties in the D.C. region?

Larry Goodwin: We target highly functional, existing Class B/C, quality light industrial properties in Class A locations within their respective market/submarket. We also prefer that the asset come with some additional built-out land that accommodates either trailer parking or outside storage of weather-resistant inventory. 

What makes a savvy investment?

A savvy investment checks the boxes above, and can be purchased at a meaningful discount to replacement cost and with below-market rents of any lease duration. 

What is your acquisition philosophy?

We prefer light industrial assets as they typically house tenants that are executing core aspects of their underlying business at our property — not just warehousing or distribution functions, which we consider ancillary aspects of a tenant’s core business. New supply in this product type is not terribly common in most of the markets in which we invest, as the market rents for these assets generally do not support new construction in most areas.

As a rule, we prefer to invest in real estate that is relatively insulated from new supply. Also, we seek assets which have been under-managed and under-improved; this is a fairly common state of affairs for the light industrial assets we see.

This allows us to clean the assets up both aesthetically and functionally, and then push rents. In short, we seek to buy supply constrained, functional industrial assets at nominal price points that are too low for institutional investors, so that we can achieve advantageous acquisition pricing on both a per-square-foot basis and a cap-rate basis.

How did COVID change this? How did you adjust?

When COVID began to really impact the U.S. economy in the spring of last year, we saw a more limited appetite for our product type from prospective buyers, and a number of transactions that went under contract prior to COVID that failed to close. This allowed us to step in and make some very interesting purchases.

From an operational standpoint, we only had one tenant request that we allow them to defer the payment of three months of rent. Since they were a long-term tenant with a spectacular balance sheet and a below-market rent, we agreed instead to defer eight months of their rent and we financed that balance into their future rental payments. This brought their future rent payments more in line with the market on a per-square-foot basis.

What makes the industrial market interesting in 2021?

You never know what the future holds, but you can often make an educated guess, at least in terms of what the next year or two is likely to look like.

When you consider the number of major, obvious uncertainties that exist right now — Will inflation be tame or explosive? Will new variants of COVID force major economic shut downs again? Will the historic liquidity in the financial system continue to keep interest rates low irrespective of inflation expectations, or will rates spike higher? Will the tax laws change with respect to marginal tax rates, capital gains rates, 1031 exchanges? In the face of all of these uncertainties, will the U.S. consumer continue to spend aggressively? And will corporations lean toward growth initiatives or take a more conservative posture? — the two questions any investor has to ask themselves are, “Should I be undertaking making any new illiquid investments in light of the aforementioned issues?” and “If I do want to invest, what should my investments look like?”

For our part, these are huge decisions and they inform our current investment posture. Our investments are very defensive in that they are generally well leased, generally are leased at contract rents that are 20 to 30 percent below market rents, and we are generally buying them at a substantial discount to their replacement cost. As we see things, replacement costs have been rising at a pretty stiff clip for 20 years, which only leaves more headroom for existing assets to raise rents without fear of new supply.

What was the appeal of the Cap 10 Portfolio in D.C. and what are your plans for the properties?

Our Cap 10 Portfolio in the D.C. MSA (metropolitan statistical area) consists of 10 former, Capital One retail branch pad sites. We bought these pad sites as they had approved drive-through windows, which is actually a very difficult approval to obtain in most of the close-in counties bordering Washington, D.C. Thus far, we have either leased and sold, or just sold (this includes properties currently under contract to sell), eight of the properties. All but one of the lessees at these properties chose our location over their alternatives, due to the approved drive-through at our site.

What properties are left?

We have two remaining properties, one of which is located next to the Westfield Montgomery mall. We have been working with Montgomery County to broaden the allowable uses for the property, so that we can really put a compelling user into the property for the long term. Once leased, we will think long and hard about whether we would even sell the asset, based upon its blue-chip location and unique historical attributes.

What other notable deals have you had in the past year in the region?

Until recently, we have largely been focused on buying light industrial the Lehigh Valley, greater Philadelphia and key growth markets in the Southeastern U.S. For instance, we bought a nine-building portfolio of light industrial properties located in the Southeastern U.S. in April; however, our investment focus has recently been squarely centered upon the Baltimore market. 

We have seen larger space users recreating their logistics networks in larger cities and some key secondary cities, from a network spacing point of view, and now these same users are just commencing to modernize their Baltimore distribution networks. So, we have seen this scenario play out in other markets and we know what this means for future rent growth across all industrial product types. As such, we have just closed on a 75,000-square-foot, light industrial property about one mile from the Eastern Avenue exit off of I-95, and we have placed another three properties under agreement.  

You deal in all CRE formats. Are there certain segments that you are more interested in over the next year? What do you think are going to be more in demand in our area?

While we like to remain responsive to opportunities that present themselves due to changing market conditions, we expect that our core focus will remain on buying light industrial assets for the foreseeable future, as we like the overall dynamics in this market. Lenders like the product type: The tenants operate in fundamentally necessary aspects of the economy, so they are resilient; the assets can generally be purchased at a substantial discount to their current replacement cost; and there is generally limited competition for the assets on the buy side.

What trends are you following that could change the direction of your next moves?

Looking at the list of major uncertainties facing the macro economy, which I mentioned earlier, I can make a very realistic case — and I do make this case to myself often — for a significant retrenchment in [gross domestic product] based upon rising inflation and eroding purchasing power. I’d still prefer to own hard assets versus financial assets in such an environment, but such an environment can result in a number of very ugly outcomes.