The Opportunity Zones Podcast is now on YouTube!
In this webinar, Alex Virtue discusses a unique Opportunity Zone project in southern California: construction of a pre-leased sound stage.
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- An overview of a single-asset QOF that is developing a pre-leased sound stage in Southern California to be funded through a combination of debt and equity;
- An overview of Xebec, the sponsor of this project, and the structure of the various classes of equity;
- The significant unmet demand for modern sound stage facilities in Southern California;
- An overview of the OZ tax incentives, including a comparison to 1031 exchanges;
- Summary of the building, including all of the features and functionality needed for a sound stage;
- A snapshot of Opportunity Zones in the San Fernando Valley and a review of other buildings in the area;
- Architectural renderings of the project;
- A summary of current vacancy rates, illustrating the need for additional studio space of modern, purpose-built sound stages;
- Explanation of the “TMZ” that drives studio utilization rates;
- An overview of Sylmar Studios, the tenant for this facility;
- A financial summary of the project, including sources and uses;
- The timeline and financials for the project;
- Live Q&A with webinar attendees.
Industry Spotlight: Xebec Realty
Since inception, Xebec has acquired and developed, redeveloped or repositioned industrial and industrial logistics real estate projects totaling over 11.5 million square feet, including approximately 14.6 million square feet currently in various stages of development.
Learn More About Xebec Realty
- Visit XebecRealty.com
Alex: Good morning, Jimmy. Thank you.
Jimmy: Good morning. So, Alex, as I said, is gonna be presenting his soundstage facility that he has in development in Sylmar, California, just north of Los Angeles. And, Alex, you’ve got a 30-minute presentation for us. And then, Alex, without further ado, the stage is yours for the next half an hour. Please dive in.
Alex: All right. Well, Jimmy, thank you for the introduction. My name is Alex Virtue, and I’m the senior vice president of capital markets here at Xebec. I’m excited to present at today’s Summer 2022 OZ Pitch Day, and I look forward to meeting and discussing our offering for 15191 Sylmar QOF LLC with today’s attendees. Before we get started, I’d like to cover a disclaimer that we have, or a number of disclaimers. As with any type of real estate investment opportunity, we have customary disclosures and risk factors for you to consider before making an investment decision. You can find these in the fund’s private placement memorandum, which is hosted in the data room, and which can be accessed via the link provided by OpportunityDb, or by contacting Xebec directly. I will be providing our contact information at the end of this presentation. In addition, we would like to remind you that we are not providing any legal, tax, or other advice with respect to this investment, and that you should consult with your own advisers before making a decision to invest in the fund.
Really quickly, here’s an overview of what I’ll cover in today’s discussion. I’ll provide an overview of the offering, a summary of the project and the market, a financial summary of the investment opportunity, an overview of Xebec, the sponsor, and finally, a summary of the terms, followed by Q&A. As Jimmy mentioned, I’ll also be answering additional questions in the Q&A breakout session, following this presentation.
Turning to the offering summary, 15191 Sylmar QOF LLC is a single-asset Qualified Opportunity Zone Fund, created for the development of a preleased, built-to-suit soundstage and studio project located in Sylmar, California. The total estimated project cost is approximately $48 million, and will be funded by a combination of QOF equity, and an approximately 60% loan-to-cost construction financing. We are raising approximately $8.3 million of Class B common membership interest to complete the QOF capital raise, and an initial closing of the Class B offering took place last month, on June 15th, 2022. We expect to close the current capital raise at the end of August, which coincides with the demolition of the existing building, and a commencement of construction starting in September.
The site is already owned by the development venture, and was acquired at the time of the initial closing in June of 2020. 15191 Sylmar QOF is sponsored by Xebec Holdings LLC. Xebec is an established national developer and asset manager, focused on the industrial logistics sector, with a 36-year track record, and with deep roots in southern California. The Class B membership interest will earn an 11% preferred return during the development period. This return is compounded monthly, and will accrue through to the end of the initial investment period, which is estimated to be at the end of September 2024.
In addition to the $8.3 million we are raising in this offering, the fund also has a tranche of Class A membership units, totaling approximately $10.3 million, which were primarily issued at the time of the initial closing in June of 2020. The total QOF equity for the project, with the Class A and Class B units, is $18.6 million, and the total equity raised to date, including the initial closing of the Class B offering last month, is $12 million, leaving approximately $6 million remaining to be raised. At the time of the project’s stabilization in September 2024, both classes of QOF equity will convert to a single class of common equity in the project, based on the value established by a third-party appraisal, and will be held in the fund through the 10-year duration of the investment, allowing all investors to benefit from the QOF structure.
An important point to note is that our project is a built-to-suit, under an existing executed lease with the tenant, Sylmar Studios. Sylmar Studios is a studio operating company that was created in 2019 to take advantage of the attractive fundamentals in the soundstage and studio market, particularly the significant unmet demand for new, modern soundstage facilities in the greater Los Angeles market. The lease has an initial term of 10 years, with a 10-year extension option.
Moving to the investment returns. The underwritten net IRR for the project on the full 10-year hold is 10.14%. While this may seem somewhat low for a development project, I would note that the long term 10-year hold of the investment impacts the IRR, which is a time-weighted return, and that the net equity multiple over the investment period is approximately two and a half times, and that the average annual cash-on-cash yield from stabilization through 2032 is approximately 5.1%. Finally, in terms of suitability, investors in this offering must qualify as both accredited investors and qualified clients, as defined in the 1933 and 1940 Securities Acts respectively.
I won’t spend a lot of time on the Opportunity Zone structure, as many of you will be familiar with the provisions of Opportunity Zones, which are created by the tax cuts and Jobs Act of 2017. I would like to point out the two primary features of a QOF investment, which make them very attractive to investors with qualified capital gains. Firstly, there’s a tax deferral to the end of 2026, meaning that capital gains on the initial qualifying investment are deferred until December 31st, 2026. The second, and more important feature of a QOF investment, is tax-free appreciation on the gains earned on the initial qualifying investment if held for the full 10-year investment period. This results in a full step up in basis for the investment amount, resulting in tax-free appreciation.
We often get questions as to how a QOF investment differs from the commonly-utilized 1031 exchange, and there are three important factors that set apart the QOF structure. Firstly, it’s less cumbersome. There’s no intermediary, and in a QOF investment, you have 180-day investment window versus the 45-day like kind-asset identification window for a 1031 exchange. Secondly, only the gain is invested in an OZ investment, versus a 1031, where both the principal and the gain must be reinvested. And finally, capital gains from any type of asset sale, including real estate, stocks, bonds, and other assets, can qualify for a QOF investment, whereas the 1031s are restricted to like-kind real estate.
All right. Moving on along to the project summary and market summary. The actual address of the property is 1519 Bledsoe Street in Sylmar. The site area is 3.7 acres, and the planned building size is approximately 120,000 square feet, which are comprised of an approximately 80,000 square foot floor plate, and an additional approximately 40,000 square feet of mezzanine space, and rear canopy. The total project cost is $47.8 million, which factors in realized and expected increases in hard, soft, and financing costs in the current environment, and the tenant is expected to take occupancy in March of 2024, followed by a six-month free rent period.
In terms of building and construction, a soundstage facility is essentially an industrial warehouse tailored to soundstage use, which means enhanced roof structure, soundproofing, and HVAC, as well as additional office, post-production, storage, back lot, and flex space. Consistent with modern industrial facilities, the building will have 32-foot clear heights, rear dock doors, and a truck court. As I mentioned, Sylmar Studios is the tenant, under a 10-year signed lease, with rent calculated at a 6.5% return on cost, with 3% annual escalations.
This next page is just a detail of Opportunity Zones within the east San Fernando Valley, where the property is located. As Jimmy mentioned at the outset, there’s over 8,700 census tracts across the country, over 800 in California, and there are two in Sylmar, again, where you can see our project on the top of the map here.
Turning to an aerial view, you can see here that the project is part of a larger campus for Sylmar Studios, which, when completed, is expected to contain approximately 360,000 square feet of studio, soundstage, and storage space. The project building is located across the street from the main complex, which you can see by the dotted line, and noted by the arrow box, which is currently under construction, and funded by institutional private equity capital. This main campus building will contain six dedicated soundstages, office space, a four-story parking structure, and ancillary support amenities, including millwork facilities, truck parking, and food and beverage facilities.
So, the 1519 project is really part of an exciting new campus to meet soundstage demand in the LA market. In addition to these two new buildings, the campus also includes an existing building at 15094 Bledsoe, which is owned by Xebec Logistics Trust, a core plus fund managed by Xebec. For those of you familiar with this area in Sylmar, you can see that our site is located next door to the Nethercutt Automotive Museum, which is a bit of a landmark in the neighborhood.
Here are some renderings that our architects have created. I just wanted to show you our project in relation to the other buildings I just mentioned. You can see 15191 in the lower left. That’s a rendering of our subject building. Across the street is the main campus building I just described, and in the upper left is the Light & Grip building at 15094 Bledsoe, which is currently used for storage, primarily, of light and grip and electrical equipment.
This next slide shows an image of the front detail and entrance, with an iconic studio water tower feature. Here’s a side view of the building, looking west. Here’s another view, looking to the southwest, with the side and rear of the building. And finally, here’s a detailed view of the rear of the building, with the truck court and the dock doors. Here’s another map view, showing the project’s location in relation to other Xebec projects in East San Fernando Valley. Xebec has completed or is under construction on 14 industrial projects in East San Fernando Valley, totaling almost 2 million square feet of activity over the past three years. This is a market that Xebec has been attracted to for some time, given the strong fundamentals. Since there’s limited available published research data on the studio market, I’ve shown some industrial market statistics from CBRE as of the end of the first quarter, 2022. As you can see in the lower left, vacancy is more or less non-existent in this market, which has significantly positive effect on rental rates and values in this market. As you can see, across Los Angeles County, vacancy at the end of the first quarter was 50 basis points, and in Sylmar, even less than that, at 40 basis points. Very tight market.
I won’t spend a lot of time on this slide, but the main takeaways are that LA is the leading content creation market globally, and there is significant unmet demand for studio space, particularly modern, purpose-built soundstages. The Thirty Mile Zone, or TMZ, is a 30-mile radius used by film industry unions to determine labor rates and driving distances from union crew members. As such, facilities that are located within the TMZ see significantly greater demand than those outside of this radius. Our project is located approximately 16 and a half miles from the center of the TMZ. Over the past 10 years, the growth in studio demand in the TMZ has outpaced new supply growth by nearly 500%, and studio utilization rates are typically in the high 90% range. Additionally, according to a JLL report, filming activity has surpassed pre-pandemic levels, despite the challenges seen in 2020 and into early 2021.
This graphic simply shows LA in relation to other studio markets in North America, and globally. While other markets have significant stage counts and square footage represented, this only tells part of the story, as the LA market has a significantly greater share of talent supporting content creation than do other markets, including actors, camera operators, editors, producers, animators, and writers. Given the attractiveness of studio fundamentals, the market has seen significant investment by large private equity players in the space, including Square Mile with Hackman, Blackstone with Hudson Pacific, and TPG.
Turning now to a summary of Sylmar Studios. As I mentioned, Sylmar Studios is an existing studio operating company, founded in 2019, to take advantage of unmet studio demand in the LA market. Sylmar Studios has been capitalized with private capital, and has already purchased its inventory of brand new lighting and electrical equipment, preparing for the completion of the main campus building at the end of 2023. Sylmar Studios’ management team is led by Tony Guanci, a veteran executive and entrepreneur in the entertainment industry, with over 35 years of relevant experience.
As I mentioned, the rent for Sylmar Studios has been set at 6.5% return on costs, which is an approximately 150 basis point spread over the assumed yield at stabilization. The QOF deal team at Xebec has underwritten the financial projections for Sylmar Studios, and rent coverage is in the 1.4 times range over the term of the lease, and there is a personal guarantee on the lease.
And all of this activity has gotten Sylmar Studios some widespread local media attention. Here are a handful of articles written about the official groundbreaking of the main campus in May. Links to these articles are available in the data room.
Turning to the financial summary, here’s an overview of the sources and uses of the project. As I mentioned at the outset, the targeted QOF equity raise totals approximately $18 million, approximately $10 million in the Class A interest, and approximately $8 million in the Class B interest, and we are anticipating the placement of 60% loan-to-cost financing on the project, which totals about $29 million. Discussion with lenders are underway.
On the uses side, the land is being contributed at cost, and the hard and soft costs reflect our development team’s most current estimates in this inflationary environment, including contingencies. I’d like to point out that the land value at acquisition was approximately $70 per land square foot, and we’ve seen recent trades in the market for approximately double this level, in the $140 per land square foot range.
On this slide, I’ve laid out the timeline and the returns from the project. As discussed, the site was acquired and the lease was signed at the inception of the fund and venture in June of 2020. We have substantially completed all approvals and predevelopment planning, and as we’ve discussed, are targeting the completion of the capital raising process at the end of August. From there, an approximately 24-month construction and stabilization process will commence in September of this year, continuing to September 2024, when the tenant will commence paying rent, after a six-month free rent period. It is at this time that the crystallization will take place, and the QOF A and B interest will convert into a single class of common equity in the project, based on the value of the preferred interest, which will have accrued over the initial investment period.
The fund will remain active over the final period, until all investors have realized their 10-year hold period. The returns at the bottom of the page are shown for each of the three periods noted, and we’ve had some investors ask what the returns look like at some of the different milestones, or the three milestones I just mentioned, the initial investment period, the period to the date on which deferred taxes are due in 2026, and finally, and most importantly, for the full investment period through 2032. As discussed earlier my presentation, the 10-year net IRR is forecasted to be 10.14%, and the 10-year net equity multiple is forecasted to be 2.45 times, and, while not on this page, there is anticipated to be an approximately 5.1% annualized cash-on-cash yield over the final stage of the project, when the project is leased, or I should say cash flowing. It’s already leased.
Moving to a brief overview of Xebec, the sponsor. Xebec is a full-service, vertically integrated real estate platform, with 11.5 million square feet of industrial projects completed, and a robust development pipeline totaling over 17 million square feet, and $3.6 billion in estimated stabilized value. In addition to our development activities, Xebec also manages an approximately $1 billion stabilized core plus vehicle, Xebec Logistics Trust, which maintains an active joint venture relationship with BentallGreenOak, established in 2021.
In addition to Xebec’s relationship with BentallGreenOak, Xebec maintains an active development program with Oaktree Capital Management, and has partnered with PGM, Heitman, PCCP, and Barings on completed transactions. The main takeaway from this slide is that Xebec is an experienced developer, with a significant track record, and an institutional approach to our investors, including reporting and administration.
Xebec is led by co-founder and CEO Randy Kendrick, and Jay Soni, president, who has been with the firm for nearly 13 years. Each vertical, including finance, accounting, legal, acquisitions, and capital markets, and development, leasing, and asset management, is comprised of dedicated and experienced professionals. Xebec has about 50 employees in total, with our main offices in Dallas and Southern California, and we also have offices in New Jersey and Atlanta, covering the Northeast and Southeast respectively.
On this page and the next page, I’ve included some summary bios of our executive management team. I won’t go through these in detail. They are available in the presentation, which will be provided upon request, and you can go through those in more detail.
And on this final slide, just a quick snapshot of that development pipeline I mentioned a moment ago. We have just over about half of our estimated stabilized value in California, which is our historical market of concentration, although, over the last couple years, we’ve moved into much more of a national development strategy. And as you can see, we have projects located in markets across the country. These are targeted markets that the firm has identified as key industrial logistics markets. So, just want to give you a sense as to the scale and activity of Xebec as an industrial developer.
Finally, moving on to the summary of terms, I think I had covered most of this in my prepared remarks. The one thing that I did not mention is that there is a $250,000 investment minimum. All of this information on this term sheet, as well as the fund documents, can be found in our data room, which a link has been provided by OpportunityDb, and you can reach out to us if you need that link.
All right. What I’d like to do at this point is show you a brief animation that our architects have put together on the studio project. This animation starts with an overview of the main building, to the right of the screen, the main complex, as I’ve labeled it here. That’s not part of the offering, but is included, as I’ve discussed in this presentation, to give you a sense of the overall scale of the project, and how 15191 Sylmar fits into that. About halfway through the animation, you’ll see detail on the project building at 15191 Bledsoe. So, at this point, we’re moving to 15191, across the street from the main complex building.
Okay. Well, that concludes my prepared remarks, and the animation. Here’s some contact information for Xebec, and for myself. You can reach us at [email protected], or you can reach me directly at 310-926-3297, or at [email protected], and I know Jimmy and OpportunityDb also have a link to our data site, which is up on Juniper Square.
Jimmy: Yep. That’s right. Thank you, Alex. That was great. Great presentation. Loved that video at the end. That was really cool, getting to see how it’s actually gonna look like when it becomes fully developed. Got a few minutes for some questions here in the main session.
Matthew asks, “Alex, can you elaborate on how the fund pricing/returns are adjusted relative to early and later investors? Is the rise in the area’s real estate value being factored in?”
Alex: Well, as I mentioned, the project land values is contributed at cost, so that there’s an inherent pickup in where the land was acquired versus its market value. So, I think the question is related to that. We’re not having any markup on the land value in the project cost summary.
Jimmy: All right. A few questions from some anonymous attendees here. We’ll get to these. This person asks, “Will this space be used to film movies/series/commercials? Is that what the ultimate end use of this space will be?
Alex: Yeah. It’s a brand new project, obviously, and as such, it’ll accommodate a variety of content creation. So, that would include large cinema productions, movie productions, down to smaller content creation. So, the main building has six dedicated soundstages. 15191 is presently anticipated to have two soundstages, and then ancillary support facilities. I think the main takeaway, in terms of both the demand and how our project fits in, is that the space is very configurable to a variety of content creation users. So, yeah, it’s something that we think will serve a very big need in the market.
Jimmy: Good. A couple more questions here, and then we’ll send you over to that breakout session, Alex, and you can find that breakout session link in the chat. I’ll post it one more time here in another minute. “Is Sylmar Studios a related party, or will they be a third party tenant? How does that work exactly?”
Alex: Well, Sylmar Studios is a separately capitalized company. There’s a relationship between Sylmar and Xebec, in that it was created by our founder and our CEO, Randy Kendrick. As I mentioned, it’s been separately capitalized as a company. Our principals at Xebec, Randy included, have a significant investment in the operating company, but the lease is set at standard market terms, and there is a personal guarantee on the lease, by our CEO, Randy Kendrick. So, even though it’s a related party transaction, we believe that we’ve addressed any potential inherent conflicts with the structure that we have in place.
Jimmy: Okay, good. “Does Xebec have other OZ projects, either active or upcoming?”
Alex: We don’t. You know, Xebec, unlike some of the presenters today, and in the OZ space generally, this is a single-asset fund. Sylmar happens to be an Opportunity Zone, where the project’s located, obviously. You know, if we had other projects in the future that were attractive from an investment perspective, and consistent with our investment thesis, we would certainly pursue those, but at the moment, this is our only project. Single-asset deal.
Jimmy: Okay. And a question here from Van Hanh Nguyen. This person asks, “Can I invest in by my savings without any capital gain? Do you accept non-capital gains dollars to flow in, and how does that work exactly?” Maybe you can walk us through that.
Alex: Yep, we do. We’ve actually had a number of investors, but certainly, a minority in terms of the overall capital raise, invest simply for the yield on an interim basis. So, an investor, if you wished to invest for the initial period, to get the 11% preferred return, which, as I mentioned, is compounded monthly, that would be an option. Alternatively, if there are investors that are interested in simply deferring their taxes to 2026, that’s an option too. But we do think that most investors are looking for the main benefit, which is the 10-year hold, but that certainly is an option we could talk about.
Jimmy: Sure, sure. Couple more questions just came in, and I wanna get to them. We got another minute, and then I’ll kick you over to the breakout session. Jeff asks, and he prefaces the question by saying, “Silly question, but at 10 years, do the assets have to be sold? I assume so, to have funds to cash out. So, what’s your exit strategy exactly?”
Alex: Yeah. There’s no need for the asset to be sold on the 10-year anniversary. We’re focused on creating value through the development in asset, and obviously, stable cash flow through the executed lease, triple net lease in place. At the end of the 10-year period, there are variety of options for the asset. It’s obviously it’s integral to Sylmar Studios, which has other real estate. And, as I mentioned, we have, presently, a billion dollar core plus fund, which will continue to grow over time, we anticipate. So, we think there’ll be a variety of exit options, or recapitalization options for the project.
Jimmy: Excellent. And then final question, and then we’ll wrap it up there. This one comes from Rick. Rick asks, “Will the final sale in August 2032 be to an unrelated party? If not, how will valuation be determined?”
Alex: Valuation will be determined, as with most of our projects, on a third-party appraisal, and then, ultimately, negotiations with a potential buyer. As I mentioned in the last question, there are a variety of options that we see available to the project at the end of that 10-year hold. The real estate is very important to the tenant, so we’ll just have to see at that point what the options are, but, you know, we anticipate, again, creating a lot of value through this project, and there’s no need to exit the project immediately on that 10-year anniversary.
Jimmy: Fantastic. Well, Alex, thank you again for participating on OZ Pitch Day this morning. Great presentation on your soundstage campus in Sylmar, California. I’ve just posted the link once again for your breakout session. So, if you wanna chat additionally with Alex, if you have additional questions, if you wanna get to know him, learn more about the soundstage campus deal in Sylmar, California, click that link now, head on over there, Alex, and you should head on over there now too. Thank you so much for being here with us today. Really appreciate it.
Alex: Yeah. Thank you, Jimmy. Thank you, everyone.