San Diego’s Other Bad Real Estate Deal Is Even Worse Than We Thought
It’s hard to stand out as a bad real estate deal in the city of San Diego, but one that has mostly avoided scrutiny keeps getting worse.
It’s hard to stand out as a bad real estate deal in the city of San Diego, but one that has mostly avoided scrutiny while others grew into criminal investigations keeps getting worse.
The city is now gearing up to spend $15 million to salvage a facility it leased four years ago, a warehouse where city crews could service fire trucks. It still has yet to do that at the site. The city now acknowledges it never explored options besides leasing space for a maintenance facility. The work to make the property useful to the city will be done nearly halfway through the city’s lease and doing the work could eventually increase the city’s monthly rental payments. At least one member of the City Council wants the city to move on and write off its losses without spending more.
Background: In 2017, Mayor Kevin Faulconer signed a lease for the city to take over a warehouse in Kearny Mesa. The plan was to use it as a standalone facility to repair fire trucks, which have been sharing repair space with the city’s garbage trucks. This creates an inefficient and chaotic scene that two consultant reports have said needs to be fixed and elected officials agree.
Since then, the city has encountered one problem after another with the property, but has never considered changing course.
The latest: Now, the cost to upgrade the property has nearly tripled. And the best-case scenario for when the city could fix a fire truck at the site is early 2023 – nearly halfway through the 15-year agreement.
What’s more, the city must pay for the upgrades with cash, because it can’t borrow money to do work on a building it doesn’t own.
Mayor Todd Gloria is eager to pin the situation on his predecessor, but he’s unwilling to call it a sunk cost. Instead, he’s moving forward with Faulconer’s plan to spend $15 million in cash to rebuild a facility the city doesn’t own.
A city spokesman confirmed this month that the city never conducted an analysis comparing the cost of renting space to buying property and constructing its own facility, in response to a request from Voice of San Diego for any such analysis.
“Based on review of files it appears the prior administration did not conduct an overall cost analysis or consider constructing an entirely new facility related to the lease agreement for Othello Ave property,” city spokesman Tim Graham wrote in an email.
Since signing the lease, the cost of upgrading the property to meet the city’s needs grew from $6.5 million to $15 million, and the city has spent $4.2 million in monthly rent payments for a mostly empty building (the city put 73 transportation staffers in the 10 percent of the building that’s office space, until they began working remotely due to COVID-19).
“It is clear that thorough due diligence including cost comparison analyses was not done when the Othello property was first identified as a potential solution for the City’s fleet challenges,” Graham wrote. “The City agrees that the findings in the most recent OCA report better reflect proper standards related to major real estate acquisitions and City management plan to apply best practices for acquisitions going forward.”
He’s referring to the scathing audit that criticized virtually all of the city’s decision making in recent major real estate transactions. Coverage of that audit has focused on its findings related to the city’s leases of downtown office high-rises – transactions that are now the subject of a criminal investigation – but its portrayal of the city’s search for a fire maintenance yard wasn’t flattering either.
The audit criticized the city because it didn’t appraise the property to determine the lease was in line with the market rate, or to ensure its anticipated $6.5 million investment was worthwhile. It didn’t assess the condition of the building, or inspect it for lead or asbestos or other hazardous material. And it didn’t ensure that the building would meet its needs after outfitting it to fix fire trucks, the audit concluded.
“Now that the tenant improvement cost has increased, the city is poised to make a significant real estate investment in a property it may never own,” the audit reads.
But the city’s $14.8 million expenditure could end up costing the city even more money over time.
Once the city upgrades the property – including building two bays for fire truck repairs, allowing mechanics to make quick, minor fixes to one truck without having to move another truck requiring more extensive repairs – the changes belong to the property owner, not the city.
And as projected repair costs increased, the city negotiated a series of lease extensions that could keep it in the building for up to 30 years. But each time the city exercises one of those five-year extensions, the city’s monthly rental cost re-sets to the market rate at that time. The same is true if the city ever decides to buy the property because the owner decides to sell. The city, in other words, could end up paying more to rent the property years from now because its own spending made it a more attractive asset.
City staff hopes that won’t be an issue.
“These types of improvements typically do not increase the market value of the real estate,” Graham wrote in an email response to questions about the city’s lease agreement.
The workaround: This summer, the City Council gave final approval to fund the Kearny Mesa Repair Facility renovations. The project was one of a group of projects that was going to be paid for from bonds – money the city borrowed from investors and will need to pay back with interest over time.
But the city isn’t allowed to spend borrowed money on a building it doesn’t own. To solve the problem, the city found three other projects it was going to pay for with cash, but which were eligible to be paid for with borrowed money, and backfilled their budget with the bond funds. Then it transferred the freed up cash to cover the cost of the Kearny Mesa repairs.
The dissent: Councilwoman Vivian Moreno voted against the maneuver, issuing a statement at the meeting criticizing the city’s willingness to cover short-term needs with long-term debt, such as by buying emergency radio equipment and fire trucks that are only expected to be useful to the city for about 10 years, with loans that it will pay interest on for 30 years.
“This action locks us into the seriously flawed lease for the Kearny Mesa Repair Facility,” she wrote, saying that the city had “cleverly” arranged a way to indirectly use bonded funds for a building it doesn’t own. “This is just the latest red flag for a deal that is littered with them.”
In a statement to Voice of San Diego, she said the city should now be looking for a way out of the deal.
“It is not sufficient to simply accept that a previous administration entered into a bad deal – especially when it can be terminated,” she said. “We will be five years into a 15-30 year lease before the facility can even be used. It is time to terminate the lease and find a new location for a repair facility and I would call on that action to be taken as soon as possible.”