In April and May of 1992, in the wake of the acquittal of four police officers in the Rodney King trial, Los Angeles burned. After three long days of unrest, U.S. Marines in tanks and armored personnel carriers would be deployed to restore order, but not before more than a thousand buildings were destroyed by fire. Total property damage would ultimately hit $1 billion.
In the years immediately following the riots, pressure loomed large on politicians and organizations alike to reinvest in the city, particularly in the South Central neighborhoods hit hardest by the violence and destruction. The California Public Employees Retirement System, known as CalPERS, was not immune to that call, and in 1995, the pension fund asked its 12 core managers to submit proposals for inner-city real estate investments. They got one response: a joint venture retail proposal from Victor MacFarlane and his San Francisco-based real estate investment advisory firm, MacFarlane Partners.
With the images of Reginald Denny being dragged from his truck and beaten by rioters still fresh in the minds of Los Angeles residents, MacFarlane and L.A. Lakers point guard and future NBA hall-of-famer Earvin “Magic” Johnson offered a more restorative vision. Specifically, they believed that the inner city was underserved in per capita retail square footage compared to Los Angeles suburbs. Moreover, urban communities boasted a much higher population density than the typical sprawling subdivisions of Southern California.
“The inner city was effectively red-lined for institutional investors back in those days, and urban investments were just assumed to be social investments because it seemed you could not make institutional-level returns,” MacFarlane explains. “But our attribution analysis of retail proved that the buying power in the inner city for basic goods and staples was equal to or greater than most suburban communities in California.”
CalPERS agreed, and it earmarked $50 million for the proposal, a mere sliver of the fund's $85 billion total, but the first urban investment that the pension fund—or any institutional capital provider—had ever made.
Less than a decade later, the MacFarlane/Johnson portfolio of three properties was sold, netting CalPERS a 33 percent return and proving MacFarlane's theory once and for all: Social responsibility aside, there was money to be made by investing in the hood. The firm has since capitalized on the experience, and this month, MacFarlane Partners will close on its second urban real estate fund. At $1 billion (leveraged to nearly $3 billion), the fund allows for inner-city investment in strongholds from California to Washington, D.C., to New York. In short, it has guaranteed Victor MacFarlane's role as a luminary in today's well financed, urban development kingdom.
INNER-CITY PIONEERS MacFarlane's philosophy is simple: While real estate can follow the needs of people—as it did in L.A.—it also tends to follow the people themselves. And people, on a global scale, are moving inexorably into the cities. Where established metros do not exist, people are urbanizing the suburban lifestyle.
“When we talk about urban, we don't just mean downtown,” MacFarlane says. “We're talking about Emeryville in Oakland, about Orange County outside of Los Angeles. Urban is a concept that extends to the edge cities and the nodes that are starting to densify because you have this ability to create a place where people want to live, work, and play. At the end of the day, that is really what it is all about.”
Still, it's in traditional downtowns where MacFarlane has an uncanny ability to distill the social betterment component of urban investment down to its bare economic realities—as he did in post-riots L.A. That the lone development pitch in the tumultuous times came from MacFarlane was hardly a surprise, however, given his somewhat maverick status at CalPERS.
In the late 1980s, attempts to become a core manager at the pension fund were met with policy denials because his recently formed MacFarlane Partners was bereft of the baseline qualification: at least $500 million under management for more than five years. Undaunted, MacFarlane created a presentation highlighting his direct involvement with more than $1 billion in assets during his years with Aetna Life and Casualty. He argued that MacFarlane Partners' lifetime credentials were equal to or better than any of CalPERS' other money mangers. And he made the pitch to anyone who would listen—CalPERS board members, chief executives, field reps. He did this every six weeks. For three years.
“At the time, I was with the [state] treasurer's office as the CalPERS/CalSTRS representative,” recalls current CalPERS CEO Fred Buenrostro. “So I was tucked away in the second floor of the treasurer's office in Sacramento, and yes, Victor came to visit me. He emphasized his financial management, [and] he told me about his work developing multifamily housing in Denver. I liked him. I think we were all trying to figure out how to get him into our programs.”
Some 13 years later, CalPERS has $3 billion-plus invested in urban projects, and 30 percent of those dollars are managed by MacFarlane Partners. In fact, MacFarlane Partners eventually managed a portfolio of $1.2 billion in equity—supplied entirely by CalPERS. Urban Fund Two, scheduled to close sometime this month, will also hit $1 billion—much (but not all) of which will be supplied by the pension fund.
“MacFarlane Partners has a lot of CalPERS money because it has been a top performer and easily our leading urban investment partner,” says Buenrostro, who adds that assets managed by MacFarlane since his firm became a core manager have realized a 33 percent return. “When you can get that type of return, it is easy to determine that MacFarlane is the kind of person you want managing your money.”
G.E. Capital sure thought so in 1996, acquiring almost the entirety of the firm's assets under management, but passing on the inner-city investments. MacFarlane spent the next three years fulfilling a management contract with G.E. In 2000, he briefly considered retirement, but instead found his way back to his urban roots, restarting MacFarlane Partners with the management of the South Central assets that G.E. had snubbed. It was, he says, what he was always meant to do.
THE BOYS ARE BACK IN TOWN During MacFarlane's brief stint with G.E., New Urbanism had emerged on the multifamily scene as the development concept du jour. Esteemed Harvard business professor Michael Porter had launched the Initiative for a Competitive Inner City; several CalPERS core managers were making their own successful urban investments; and developer partners—most notably Forest City Residential and The Related Cos.—had established both a capacity and a desire to do more complex urban projects.
“[At that time], I went back to CalPERS and said we need to expand the mandate and make it grow,” MacFarlane says. CalPERS agreed and established the first urban fund—a $150 million channel to develop retail, multifamily and other urban projects that fall under the purview and moniker of “smart growth.”
As part of his Y2K entrée back into the urban side of real estate investment, MacFarlane amiably bought out Magic Johnson (who, in turn, formed his own urban investment firm with Canyon Residential) and lobbied for the lion's share of CalPERS urban investment funds. He also began securing a dream team of executive leadership for the newly reformed MacFarlane Partners by wooing Greg Vilkin from Forest City Residential West and Chuck Berman from AvalonBay Communities.
In Vilkin, who was fresh from spearheading the new urbanist redevelopment at Stapleton Airport in Denver, MacFarlane brought onboard a development partner, a personal friend of some 20 years, and a multifamily executive who understood the MacFarlane approach. “In our business, the money is always made in the arbitrage, in changing an area from non-desirable to desirable. That is where you get uplift in value. Otherwise, you are just buying core real estate,” says Vilkin, who is a managing principal of the firm. “We specialize in market change, where we think we understand [growth demographics] better than others and see opportunities that others do not see. Then we align ourselves with firms that have like minds and the ability to execute. Our job is simply to find opportunities where we can change the area and get a huge uplift in price.”
Berman, who also served as the northeast regional partner for Trammel Crow prior to heading up AvalonBay, brings even more multifamily pedigree to the MacFarlane Partners' table. Although he joined the firm as vice chairman and managing principal only two years ago, Berman traces the formation of the executive team at MacFarlane back to 2000. “We believed there was a lot of opportunity for redevelopment in certain core urban markets with developers that would appreciate dealing with financial partners who had a lot of development expertise themselves,” Berman says.
Developers certainly agree with that testament. In addition to continuing to pursue joint ventures with long-time partners such as Forest City and The Related Cos., MacFarlane has pushed to endear the firm to regional developers like San-Francisco-based TMG and is now beginning to directly invest in smaller, emerging development firms with a need for growth capital (see “Developer Fuel,” page 44).
“We've been doing mixed-use infill development in the Bay Area since 1984, and we've had lots of partners that we have done transactions with. In comparison, the cadre of folks at MacFarlane is pretty high quality,” says TMG chairman and CEO Michael A. Covarrubias. “Clearly, their commitment to urban infill is greater than other funds. They are committed to projects with social income as well as a profit motivation. They can handle complex real estate, but at the same time, [if] you show them a good, old-fashioned, middle-of-the-road urban infill project, they'll be [just ] as smart about it.”
MAKING A DIFFERENCE Indeed, MacFarlane Partners has been raking in both the returns and the accolades for the company's urban investments. Case in point: Just across the San Francisco Bay Bridge in Emeryville, Calif., MacFarlane and JV partner Madison Marquette Realty Services just completed construction of Bay Street at Emeryville, a mixed-use project covering three city blocks with 365,000 square feet of high-end retail, 284 rental apartments (20 percent of which are affordable), and 95 for-sale condominiums. Despite a $20 million environmental remediation that MacFarlane describes as clean-up crews “working the site in space suits” as well as the death of the original developer mid-construction, the project has been recognized as a smart growth milestone in an already sustainable-centric Bay Area, winning the San Francisco Business Times' 2006 Real Estate Deal of the Year Award.
MacFarlane also has his sights set on the nation's capital. As the new owner of the D.C. United pro soccer team, he is lobbying for a new arena to replace an aging RFK Stadium, with plenty of mixed-use retail and multi-family to go with it. The firm has already stepped up its investment activity in the Ballpark District, helping to revitalize Ward 8, which until recently was one of Southeast D.C.'s most downtrodden neighborhoods. On May 7, 2007, the company announced a Ballpark District JV with Monument Realty to develop Half Street—a multiphase, mixed-use development, phase one of which will include 300 multifamily residential units. What's more, MacFarlane has already invested in Forest City Washington's adjacent 41-acre redevelopment of a former federal center. As envisioned, the 60-acre Ballpark District ultimately will encompass a new stadium for the Washington Nationals baseball team, 785,000 square feet of retail, 1.6 million square feet of office space, and 3,000 residential units.
So if real estate follows people, where are all the people moving to next? Sure, “to the cities” is a logical answer, and MacFarlane, Berman, and Vilkin can point to a U.S. map with pushpins lining both coasts like the best of them. But where's MacFarlane Partners' next South Central L.A., the next Ward 8? Vilkin demurs at the question, but MacFarlane has no objection to revealing a bit of competitive strategy. “Harlem,” he says. “Everyone said we were crazy when we pushed inner-city L.A. Everyone said we were crazy when we tried to clean up Emeryville. Everyone said we were crazy when we opted for residential before retail in Oakland. And now everyone is saying we are crazy for wanting to go into Harlem.”
Insanity or genius, get the neighborhood ready. In November, MacFarlane Partners will break ground on Harlem Park, a 21-story, 640,000-square-foot mixed-use office and retail complex, a joint venture with New York City-based Vornado Realty Trust at Park Avenue between East 124th and 125th streets. If the make-up of Mac Farlane's Manhattan portfolio is any indication, multifamily residences won't be far behind. “We're trying to buy more there,” MacFarlane promises with a smile. “We'll make a difference.”
LEADERSHIP LESSONS: VICTOR MACFARLANE
- Age: 56
- Favorite Quote: “It's not you, it's the money.”
- Favorite Book: The Call of the Wild, because it led me to the library, which is really where I got my education.
- Best Business Decision: Restarting my business after I sold my last one to GE Capital. I considered a lot of things, including retirement, and just came to the conclusion that “Once an entrepreneur, always an entrepreneur.”
- Greatest Business Challenge: Balancing the economic needs of our organization, its people, and growth with the moral requisites that make us unique and life- fulfilling.
- Ideal Leader: Someone who can focus intensely on a goal—through a wide-angle lens.
- Best Advice Someone Ever Gave You: “If Mama ain't happy, ain't nobody happy!”
- Philosophy of Leadership: Leaders must demonstrate an uncompromising commitment to excellence, integrity, the people of the organization, the broader community, and hard work.
MACFARLANE PARTNERSFounded: 1987
Headquarters: San Francisco
Employees: 125
2006 Revenue: Undisclosed
Geographic Coverage: California, New York, Boston, Washington, D.C.
Multifamily Development Pipeline: 13,300 units
Assets Under Management: $15 billion
Institutional Equity Under Management: $4 billion