Diversified Silicon Valley OZ Portfolio, With Urban Catalyst

In this webinar, Erik Hayden shares an Opportunity Zone fund doing ground up construction projects in downtown San Jose, California.

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Webinar Highlights

  • Summary of the press coverage Urban Catalyst has received from Forbes and others.
  • Quick refresher on the OZ incentive.
  • Macroeconomic trends throughout Silicon Valley that are benefitting San Jose.
  • The characteristics that Urban Catalyst looks for when identifying markets to build in.
  • Update on Google’s development and investment plans in Silicon Valley.
  • Summary of the projects in Urban Catalyst’s fund II, including hotel, multifamily, and senior living.
  • Biographies and experience of the Urban Catalyst executive team.
  • Live Q&A with OZ Pitch Day attendees.

Industry Spotlight: Urban Catalyst

Urban Catalyst is a real estate equity fund focused on ground-up development projects in downtown San Jose. Urban Catalyst closed its successful Fund I in December 2020; that fund was a multi-asset real estate fund focused on ground-up developments consisting of office, mixed-use, student housing, senior housing and a hotel.

Learn More About Urban Catalyst

Webinar Transcript

Jimmy: Erik, I see you here. Welcome back to another OZ Pitch Day. First one of 2024. How are you?

Erik: So exciting, Jimmy. I’m doing great. Always love being here.

Jimmy: Good. Well, we always love having you here, Erik. So, without further ado, let’s dive into your presentation, Urban Catalyst Opportunity Zone Fund II.

Erik: All right. Well, thank you, Jimmy. Today we’re talking about Urban Catalyst’s Opportunity Zone Fund II. This fund is structured a lot like a traditional real estate equity fund. We’re focused on doing ground-up development projects in downtown San Jose, California, and of course, because we’re an Opportunity Zone Fund, we’re able to give our investors the tax benefits associated with the Opportunity Zone program.

Just to kick us off, you know, here at Urban Catalyst, we’ve been featured pretty prominently in the news over the last few years, but really just a lot of positive buzz about all of the projects we’re doing here in downtown San Jose. Probably most important of these, we were named by “Forbes Magazine” as one of the top 20 Opportunity Zone Funds in the country. So, nothing like getting a little, you know, national validation from Forbes that we’re doing things the right way.

Jimmy went through this, but it’s always good, just as a quick refresher. In order to get the tax benefits associated with our program, you have to invest capital gains. Here are the three most common ways that people have capital gains events. And then, of course, just as a reminder, when you have that capital gains event, you have 180 days to invest your money into a Qualified Opportunity Zone Fund. We just don’t want anyone to miss out on that timeline.

Two major tax benefits associated with the program. The first is you’re able to defer paying capital gains taxes on that initial capital gains event until you pay your taxes in 2027. So, you’re able to defer for a couple years, but the bigger benefit, of course, is, after an investor’s money seasons in an Opportunity Zone Fund for 10 years, all of the profits from the fund itself are tax-free from a federal perspective. So, everybody likes tax-free profits. Our plan here at Urban Catalyst, we’re gonna build all of the buildings in our portfolio. We’re gonna lease them up, stabilize them, hold them until we get to the end of that 10-year mark, then we’re gonna sell all of our assets, and that’s when we return the majority of the profits to our investors, and of course, those profits are tax-free.

Just taking a step back here in the San Francisco Bay area, you can see we have quite a few Opportunities Zones. They’re in green. Obviously, as I mentioned, for this fund, we’re focused on San Jose, and even more specifically, downtown San Jose. You can see four Opportunity Zones cover almost all of downtown. And, you know, it’s an interesting story. When we first started Urban Catalyst, you know, here at Urban Catalyst, we’ve been developers throughout our entire career, doing a lot of business in Silicon Valley, and San Jose specifically. But it was really the macroeconomic trends throughout Silicon Valley were all pointing towards downtown San Jose as the next place to do development on a large scale. And so we thought, “Great. We’re gonna build some amazing projects in downtown San Jose. We need to raise an equity fund to fund these projects.” And right when we did that is when the Opportunity Zone program really came out. They made all of downtown San Jose an Opportunity Zone, and we thought, “Well, look at that. We’re gonna be an Opportunity Zone Fund.” Now we have a variety of funds on the Urban Catalyst platform, and this is our second Opportunity Zone fund, really specifically focused in downtown.

And when I talk about those macroeconomic trends throughout Silicon Valley, you know, what I’m really talking about is all of these just massive tech companies in Silicon Valley. I mean, everybody knows, yeah, lots of tech companies, lots of startups, big companies. But until you really see the list of folks that are located here, it’s kind of hard to understand just how many jobs these companies create, and why we have such an issue associated with building new housing, and why our housing prices are so expensive, but over the last 20 years, Silicon Valley has really changed. You know, it used to be a land of startups. Now we have Apple, Google, and Facebook, you know, the three largest companies in the world, or in the country. Apple’s the largest company in the world. Microsoft also has a large presence here in Silicon Valley, as well as a bunch of other just enormous companies.

Specifically as to why we like downtown San Jose, you know, when we do development anywhere, there are certain characteristics that we’re looking for in these cities. Downtown San Jose has all of them. The first is we wanna make sure there’s a demand for all the different types of projects that we’re building. That demand here is really generated by the Silicon Valley job engine. We like to do business in places where transit and physical infrastructure are already in place. You know, downtown San Jose is really the only true urban environment in Silicon Valley. Diridon Station is slated to be the largest train station on the West Coast. It’s right here in downtown. It’s got a variety of mass transit options that connect to it, including Caltrain, which gets you from San Jose to San Francisco in about an hour. And now BART, which is the largest mass transportation system here in the Bay Area, is fully funded to connect through downtown San Jose, into Diridon Station. They actually just bought their new $500 million drilling machine, so that’s pretty exciting.

San Jose State University, with over 36,000 students, is the second-largest university in the Bay Area, right behind Cal Berkeley. And of course, it’s also right in the heart of downtown. Finally, you know, we wanna do business in a place where the local government wants to see development happen, and that is not the case in most Bay Area cities. In fact, most Bay Area cities are pretty anti-development. It’s kind of the opposite here in downtown. This is a picture of my partner, Josh, and I, with the mayor of San Jose, Matt Mahan. This is at one of our groundbreakings. Matt has really put some great policies into place. He’s very pro-development, and he’s one of the major reasons why we’ve decided to be here in downtown San Jose.

To give everyone just a general understanding of the massive revitalization that’s occurring here in downtown San Jose, I like to show this before-and-after slide. So, here’s the current skyline of downtown. If all of the projects that are currently in the planning process, or are already under construction, as they’re built out over the next 10 years or so, we can expect downtown San Jose to almost triple in size. Urban Catalyst, both our Fund I and Fund II projects, you can see in red. The core of downtown, that’s what you can see in green. And then Google’s future megacampus is what you can see in blue. And we’ll talk a little bit more about Google, but they’re definitely an integral part of what is happening here in downtown San Jose.

Here’s my two-dimensional map, to continue talking about the local market. This black line, this is the Opportunity Zone. Our headquarters is right here, so we’re right in the heart of the Opportunity Zone. We’re right next to Adobe’s world headquarters, Zoom’s world headquarters. Adobe just finished building their new 1.3-million-square-foot high rise right here. That was pretty fun for us to watch out of the windows of our office. And Zoom, you know, we share a parking garage with Zoom, and over the last year, they’ve started really coming back into the office, and my employees are complaining there’s nowhere to park. Kind of interesting. We always thought if anyone was gonna work from home forever, wouldn’t it be Zoom? But apparently not. They’re coming back into the office.

San Jose State University, I mentioned, is located right here. Here’s where this new BART line is running. We have a station here, right in the core of downtown, and then connecting over here to Diridon Station, that big train station. Of course, the biggest news, as I mentioned, really has been Google and what they’ve been up to over the last five years. And I’ll give everyone a little summary. So, Google has acquired 80 acres of property. I mean, it’s a massive amount of property. They’ve spent more than $500 million on that acquisition. Their plans, which they had approved a couple of years ago, show them building roughly 7 million square feet of office, and 6000 residential units. At buildout, this will be Google’s largest campus on Earth. Google’s still in the process of finishing off their second campus. They have about 2 million more square feet to build up in Sunnyvale. This is gonna be their third major campus in the Bay Area. They say that this is a 10-year, $19 billion buildout. Google has already started construction, doing some of the demolition and prep work for their vertical construction throughout their campus. They’ve completely demolished their first phase. They’re about to start another round of demolition here next month. So, things are looking good with Google. As far as when they will start their vertical construction, somewhat to be determined. But we really, after talking with the, kind of, their new head of real estate, we really kind of understand that they’re finishing their second campus, then they’ll be starting here.

So, that’s what Google’s been up to. Other major developers have also really flooded into downtown San Jose over the last five years. Four major ones, Boston Properties, a big publicly-traded REIT, Westbank, an international development group out of Toronto, Hines, the largest development company in the country, and Jay Paul, who’s a regional developer, is fresh off building 26 buildings in the city of Sunnyvale. He’s made a big move into downtown. So, we’ve seen a lot of action going on down here. Here are some examples of some of the projects in downtown San Jose. I mentioned Adobe’s tower sure is a good-looking project right? They occupied that last January, with about 3000 employees. Jay Paul just finished this million-square-foot office high rise. That’s one of the largest offices in downtown San Jose.

And then another one to point out, this is Miro Towers, done by a development company called Bayview Development. Six-hundred and thirty apartment units in two high rises. They’re leasing up right now. They delivered this about a year and a half ago, and they’re almost 100% occupied now. They have the highest rents in the city, and they’ve been leasing up at 35 units a month, which is, you know, a lot faster than we typically put into our models. We typically put 20 to 25 units a month. And the reason I wanna point them out is because they’re right across the street from about 1000 units of multifamily that we have here in this fund. I’ll show you where they are as we continue.

So, you know, overall, our strategy here at Urban Catalyst is, you know, we saw this big wave of development coming to downtown San Jose, and our whole plan, get in on the ground floor, acquire properties before they’re scooped up by all the other, you know, big developers or tech companies. And that’s exactly what we did with the acquisition of our Fund I and our Fund II projects.

Today we’re talking about Fund II. We have four projects in Fund II. Here’s that thousand units of multifamily I talked about, right next to Miro Towers. It’s also across the street from City Hall. It’s right on Santa Clara Street, which is really the main drag of the central business district. It’s also right next to that future BART station, really making it the epitome of transit-oriented development. Over here, we call this Downtown West, but this is where Google is located. About 300 yards away from Google’s campus, we have two projects. We have the Keystone Hotel. It’s a Marriott TownePlace Suites. And we have a senior living facility, called Gifford Place.

Here’s what those four projects look like. The goal of this fund, diversified portfolio of asset classes. So, hotel, senior living, multifamily. All great asset classes. A lot of demand for these product types here in downtown San Jose. And I’ll talk about each one of these specifically, and kind of our progress on them.

We’ll start with the Keystone Hotel. Marriott has wanted to have this product, this extended stay product, in downtown San Jose for over a decade. We signed our franchise agreement with them a few years ago. Extended stay business hotels, if you’re not familiar, they’re longer-term stays, so every unit has its own kitchen. Our average guest stays for about 15 nights. Because of this project’s proximity not only to Diridon Station, but also to the SAP Center, which is our arena here in San Jose, it’s the second-most used arena in the country, behind Madison Square Garden, and the Convention Center here in downtown, we do expect quite a bit of demand for this product.

We started construction on this product a little over a year ago. We’re about halfway done, a little more than halfway done at this point. We’re now putting the roof on. This building is an eight-story building, five stories of wood frame over three stories of concrete. It’s one of two hotels that’s currently under construction in Silicon Valley. We’re getting just some really great construction folks on-site. We have more workers than we typically have, and we have some of the best workers, and that has caused us to have a couple of months acceleration to our schedule. So, we’re a little bit ahead of schedule. We’re also a couple million dollars below budget. It’s not something I can often say for our, you know, hundred-plus-million-dollar projects that we’re ahead of schedule and under budget, but that is the case for the Keystone Hotel.

Right across the street from that, also, again, about 500 yards away from Google’s future megacampus, we have Gifford Place. Gifford Place Senior Living, and more specifically, it’s assisted living and memory care. This project, you know, we really like senior living here in downtown San Jose because they haven’t built product like this in downtown in, really, over 40 years. San Jose is periodically ranked the number-one market in the country for senior living facilities, and this project, with its proximity to some of the more affluent neighborhoods in San Jose, really has a great location. You know, folks like to put their parents and grandparents into facilities that are close to their home. Without having a product like this in downtown San Jose, they, you know, have to put them further away. So, a lot of demand for this. This project, we are shovel-ready. We own the land. We are waiting for the financing markets to improve before we start, but we do expect to start construction on this in the next 12 to 18 months.

All right. Now to Icon and Echo. We’ll start with Echo. These are our two multifamily projects that are located right next to that Miro Towers project. Here’s Miro Towers, for context for everybody. Always great, as I mentioned, to have your best comparable right across the street, and have that comparable being really successful. Echo is 388 units of multifamily. We plan to start construction on this is the first phase of this 1000 units of multifamily. It could start as early as 12 to 18 months from now. And then right next door is Icon. Icon is two additional towers. It’s three total towers, two projects. Icon has 700 multifamily units. And we like going heavy on multifamily units. Multifamily supply and demand balances here in Silicon Valley have just been so off for so many years that the demand is really through the roof. Silicon Valley has created six jobs for every housing unit that we’ve built for over 30 years straight. And because of that, we have the third most expensive housing for multifamily in the country. So, we’re behind New York and San Francisco for the most expensive rents of any big city.

You know, kind of, to put it in context, we’re the most expensive big city in America to live in when it comes to single-family homes, with our average single-family home price being $1.7 million. And there’s really a reason for that. And the reason is we just don’t build enough units. Here’s a graph that shows the units that are under construction for multifamily across the country, some major markets. You can see San Jose trails all of them. And why is that? It’s because Atlanta, Dallas, Austin, you know, if they wanna continue to build, they can just keep expanding outward. They have room to grow. Here in Silicon Valley, we’re constrained by mountains and water. Everything is already built out. And when everything’s already built out, that means we’re doing infill development. Infill development means there are people that live next door. They don’t want the traffic. They don’t want the height. They don’t want people parking in front of their house. They influence the politicians, the politicians don’t approve housing. So we don’t build a whole lot of housing.

So we don’t build housing. What does that mean? It means we have the highest occupancy rates in the country. It also means that forecasted rent growth this year is projected to be the highest in the country here in the San Jose metro region. Also, we’re projected to have the highest rent growth over the next 5 and 10 years for multifamily. And this makes a lot of sense to us. You know, we’ve been building multifamily here for 15 to 20 years. We’ve seen this market, we understand what it’s all about, we’ve seen huge surges, and it has everything to do with supply and demand.

Another thing I’d just like to talk with all of our investors about, or potential investors, is, you know, when you hear about Opportunity Zone Funds, you hear about these fantastic tax benefits. Jimmy did a great job talking about them. We’re big fans of the tax benefits too, but, you know, if the biggest benefit you’re getting is tax-free profits after 10 years, you know, there better be profits after 10 years, or what’s the point of the whole program? So, understanding the local market, who the developers are that are building your buildings, what the asset classes are and how they fit into the overall market, that’s really what matters.

A little bit about me. So, I’m the founder of Urban Catalyst. We started the company in 2018. In my experience, I’ve done several billion dollars worth of projects, have been a developer my entire career. In general, I build institutional-quality and scale projects. That means I build big, income-producing buildings. Typical exit strategy is to sell to a publicly-traded REIT or a large institutional investment group. I have five partners. Josh and Paul are my two development partners, both of them significant experience building in Silicon Valley, and really, especially in downtown San Jose, what I wanted to do when I started Urban Catalyst, I knew we were gonna be building here in downtown. I wanted to put together an all-star team, and Josh and Paul, they are that. Morgan Mackles, who’s my head of investor relations, Morgan and I have been personal friends, really, since high school, so over 25 years now. Morgan does all of our fundraising. He’s the reason why we’ve been so successful in our fundraising efforts for the variety of funds that we have here on the Urban Catalyst Platform.

Then, Sean Raft is our chief administrative officer and general counsel. He does everything from managing our finance and accounting teams that do our tax and audit. He manages our admin team. He does all of our compliance with the SEC. He also, you know, really makes sure that we’re following all the rules of the Opportunity Zone program. Or, kind of an easy way to say it is Sean really dot the I’s and crosses the T’s here at Urban Catalyst. So, these are the five partners. We have about 30 people that work here at Urban Catalyst now. The partners, however, just the partners’ experience, we’ve built a little bit over $5 billion worth of projects here in Silicon Valley. You can see the heavy concentration of projects that we’ve had here in downtown San Jose, and this is really what sets Urban Catalyst apart from other Opportunity Zone Funds, is we’re not just the fund managers, but we’re also the developers of all of our projects. We have a ton of experience doing development right here in Silicon Valley.

All right. Now for the fun part. Here’s our projected timeline for this fund. We have an investment period of four years. It’s a $200 million fund. We’ve raised around $154 million to date. Here’s 2027. This is when taxes need to be paid on that initial capital gains event. We like to flag that date. And here is when we plan to sell the assets, in 2035. We do plan on making distributions to investors prior to 2035. The first time would be from potential refinance events. So, typically, you know, we build our buildings, we lease them up, stabilize them, then we go out and we get permanent financing, that permanent finance, and we use that to pay off the construction loan, and then any excess refinance proceeds, we distribute those to our investors.

So, those are tax-free distribution events, refinance events. It’s a distribution of debt, kind of like a home equity line of credit, so no taxes on those. We have potential cash flow. We also, you know, we’re structured as an LLC. That means we give our investors a K-1 every year. On that K-1, investors can expect pretty significant losses, a lot of those losses coming from the depreciation of our stabilized assets. So, it’s pretty typical, right? Everybody that owns property depreciates their assets every year. What we do is we take that depreciation and we pass it through to our investors as passive loss. We do expect to have more passive loss than passive income from cash flow, and in some cases, that can make this cash flow tax-free. Here at the end, of course, tax-free profits from the sale, but also, as Jimmy mentioned, we have no depreciation recapture. So, you know, a lot of times you own a property, you’re depreciating the asset, then you sell it for more than you bought it for, and the government goes, “Okay. Now pay us back all that depreciation you’ve taken.” Specifically for Opportunity Zone Funds, there is no depreciation recapture, and that really is that third hidden benefit of the program.

So, kind of my recap. We have tax-free refinance events, the potential for tax-free cash flow offset by passive losses, no depreciation recapture, so you don’t have to pay it back, and then tax-free profits at the end. Overall, a pretty good program.

Last slide. We do have a bonus units program here at Urban Catalyst. Bonus units, this has been pretty popular in our previous funds. The way that works is if you invest into Urban Catalyst, what you’re doing is you’re buying our units. You’re then paid out based on the number of units that you own. We have three ways we give bonus units. The first is our time incentive credit. This is to reward investors for earlier investment. You know, here we are in March, 2.25% bonus units. You can see it goes down every month. This means if you bought $100 worth of our units this month, you get $102.25 worth of our units. Multiple ventures program. This is for folks that have invested in any of our other funds. It’s really a loyalty rewards program, 4.5%. And then finally, our volume incentive program. Our minimum investment size is $250,000. Volume incentive starts at $300,000, and you get 1% additional bonus units. Goes up to $1.9 million, with 9% additional bonus units. This is really to reward investors for more investment. So, we have three different ways we have bonus units. These three ways add together to get your total amount of bonus units. And really, that’s the end of my presentation, Jimmy.

Jimmy: Tremendous. Awesome once again, Erik. Always appreciate having you here with us on OZ Pitch Day. We got, let’s see. What time do we have? Think we got about three more minutes for some questions before we bring up our next presenter. Let’s see, we had a couple questions about California tax. I know that’s one of your favorite topics, Erik. Nirav asked, and Clint asked a similar question. “I have a capital gain generated in Indiana, but I’m a California resident. If I invest in a QOZ, do I still need to pay California taxes, or do I follow Indiana?” Do you know the answer to that?

Erik: Well, of course, Jimmy, as you know, the standard answer is you have to talk with your account. We are not tax professionals. However, if you are a California resident, California is gonna want you to pay your taxes. And that means, even at the end of the Opportunity Zone program, as California is not a complying state, you’ll have to pay California capital gains taxes on that profit. By the way, Jimmy, you know, we did a pretty good study with one of our accounting firms as to what the California taxes, what the real impact is to our overall returns. You know, California tax is maximum 13.3%. We did a study that only took in one variable. If you were a Nevada resident investing into our exact fund, if it was in Nevada, what would be your returns? Or, if you were a Nevada resident investing into a California Opportunity Zone Fund, where we are located, what are your returns? And what we saw was a little over a 1% difference in our return. So, it was not a significant impact. And I tell that to investors all the time, Jimmy. You know, we have 850 investors between our two Opportunity Zone Funds, and I’ve probably talked to 3000 or 4000 investors, and this is a very common question.

Jimmy: I’m sure it is. We got time for one or two more minutes worth of questions before our next presenters are up here, Erik. Steven asks… He’s, well, first, he says, “Appreciate hearing Urban Catalyst’s, passion on housing expansion. Erik, can you speak to your strategy on powering these projects with clean energy strategy?”

Erik: Sure. So, you know, it used to be we would talk a lot about green building, and clean energy, and EV chargers, and low-flush toilets, and solar, and all that stuff, right? That kind of changed here in California in 2017, with their updated building code. The updated building code here in California is so stringent when it comes to green building that every building is, like, the greenest building you’ve ever seen. So now, there’s no longer a differentiator. You know, I can’t say, like, “Oh, our project is so green compared to other projects.” It’s like, we are required to be as green as humanly possible. So, we have all of those features. I just don’t talk about them a whole lot.

Jimmy: Good. Tim asks, “How much depreciation do you expect, and when?” I guess, when might that get passed through to the investors?

Erik: So, I mentioned, you know, we’ve done some studies that in general, we have about the same or a little bit more depreciation as passive loss than we have income from the projects. And of course, that’s all just projected. But, we plan on starting with passive losses immediately. So, even our investors that invested last year and the year before, on their K-1, are getting passive losses. Once our buildings are put into place and stabilized, we’re gonna do a cost segregation analysis, to really accelerate those passive depreciation losses. So, our whole goal, we’re gonna get our investors as much depreciation as humanly possible from these projects, to… It’s really because they don’t have to give it back. And it is quite an incentive.

Jimmy: It is, indeed. Yeah, it’s one of the biggest hidden benefits, I think, of Opportunity Zone investing. Erik Hayden, Urban Catalyst. We’re out of time. Where can our listeners and viewers go if they wanna learn more about your investment opportunity?

Erik: Sure. To learn more about Urban Catalyst, visit urbancatalyst.com.

Jimmy: Urbancatalyst.com. Erik, really appreciate your time today, and your participation in OZ Pitch Day. Once again, thanks so much.

Erik: Hey, thank you, again, for having me, Jimmy. Take care.