San Diego Business Journal -
Developers Finding Pay Dirt in Soiled Ground

By PAT BRODERICK - 9/5/2005
San Diego Business Journal Staff

Developers, frustrated by a dwindling supply of land in San Diego County, are increasingly setting their sights on so-called brownfields - contaminated land that, once cleaned up, can revitalize a community and bolster the bottom line.

These lands can also mean big risks and high stakes for the developers, local governments and the insurers - when you can find them.

"There are limited players in the marketplace that do that kind of business," said Stan Hartman, first vice president of Driver Alliant Insurance Services in San Diego. "Some carriers don't want to play in this particular arena. It's not really an easy risk to underwrite."

The science, he said, is always changing, no matter how much due diligence is done to cover all the bases. What might have been acceptable at one time, might not be later down the road.

"You might price a risk and then find out the limits are now considered a problem and this needs to be remediated," said Hartman. "How would you like to run a business without knowing what the costs are?

"You can get creative in structuring these things, but it's very sophisticated, because of the types of pollutants we deal with every day," said Hartman. "It's not a slam-dunk. It takes some discussion and very serious survey work to figure out what's there."

Typically, he said, financial institutions don't want to do anything until the site has a clean bill of health.

"It's not like buying a corner lot and being able to build on it," said Hartman. "Developers already have risks associated with lots Downtown - are they going to be able to get financing? With brown sites, you throw in additional exposure of a polluted site. There is a lot more to it than buying a homeowners policy."

Premiums can range anywhere from $100,000 to $1 million, he said, "depending on the site, its size, the cost of cleanup, and whether it's in a water table."

Nothing is certain.

"Underwriters make mistakes and get killed," said Hartman. "It does happen. Carriers have been in and out of the market. Some restrict what they write to simpler things. Markets come and go."

How Now Brownfield

The state isn't quite certain exactly how many brownfield sites exist in California, because each jurisdiction might have its own definition for such land, and some sites have yet to be identified.

"They could be a lot of different things - underground storage tanks, large industrial lots, a house that used chemicals," said Megan Cambridge, brownfield coordinator for the state Department of Toxic Substances Control. "San Diego has military installations. There is no common listing, so we say about 90,000 to 100,000 sites."

In San Diego, not being in the Rust Belt, the pickings might be scarcer than in other areas of the country, but there are still opportunities, said Daniel Johnson, the president and co-founder of Environmental Business Solutions, a subsidiary of SCS Engineers in San Diego.

"There are tremendous opportunities in brownfield development," said Johnson. "The market hasn't fully evolved. It's a chance for people to identify real estate transactions not available to others, and it's an edge on being able to acquire land and development projects.

"Some of these contaminated properties have been sitting around for 100 years," he said. "It's extraordinary. All of a sudden, we can put them back on the tax rolls, generating jobs."

Paul Tryon, the chief executive officer of the Building Industry Association of San Diego, said the risk of redeveloping these sites has to be balanced against the scarcity of land.

"There are challenges, but opportunities, too," he said. "It's an important part of California's, and the United States' future, to reclaim these sites and turn them back into useful parts of the community.

"For much of our industry, especially in the western United States, for the private sector, this is a little bit new for us," said Tryon. "We don't have much expertise. We're beginning to approach the opportunities. You'll see our industry more interested in analyzing risks and seeing what these brownfields might be able to offer."

Said Cambridge: "It takes vision and energy from a lot of different sources. Our urban areas are going to be a resource for the future, with smart growth and sustainable communities. We are making progress in addressing sites. It's a positive thing to see brownfield sites being addressed and turning them over for reuse."

But, Hartman added, "Private developers - despite the risks - will have to step up. Government is not going to be able to solve all of these problems."

Public-Private Partnerships

National City is a prime example of brownfield redevelopment and its potential value to builders. Its harbor district now is undergoing an assessment, with the help of a $200,000 grant from the U.S. Environmental Protection Agency.

"The harbor district has 317 acres total," said Patricia Beard, redevelopment projects manager for the National City Community Development Commission, adding that part of that is marshland. "A lot of the properties are contaminated, because they've had industrial uses. A lot of the times, people think there was something illegal being done, but that's not always the case. Some uses might have been permitted in the past, but we now know about safe practices. In most cases, it can be cleaned up."

The agency is in the process of completing a Web site on the property so that potential developers can easily check out its status.

A major project planned on the site is being touted as a future gateway to National City - a $25 million mixed-use development, including a 173-room hotel, a 16,000-square-foot commercial retail and office building, and, across from the hotel, a 4,000-square-foot restaurant, "not a fast-food, probably a sit-down family restaurant," said Ivar Leetma, the chief operating officer of MRW Group, Inc., of National City.

MRW is the managing member of the Marina Gateway Development Co., LLC, and the developer, and future owner of the property, along with the Sycuan Tribal Development Corp. The San Diego Latino Builders Development Corp. also is part of the team.

On Aug. 29, the group's preliminary plans won the blessing of the National City Planning Commission.

The project would be on the southwestern corner of the intersection of Bay Marina Drive and Interstate 5.

"I've gotten unsolicited feedback from businesspeople in town who say they'd love to have an office there," said Leetma. "There is a need for offices in National City, especially by the 5. We're trying to encourage the tourist-commercial-related uses. We'd love to get a travel agent, an auto club there. We're building a shell. We might get one big tenant."

But, Leetma acknowledged, the lack of commercial development in the area at the moment could be a disadvantage.

"It's not like the Gaslamp, with restaurants feeding off each other," he observed. "We are pioneering. It's an outpost right now."

Leetma described the planned Marina Gateway Plaza Hotel as a 3½-star property, comparable to the recently built Hilton Gardens in Rancho Bernardo, and predicted that it would be "the premier hotel between San Diego and Tijuana."

"We think the hotel will do well, catering to a secondary market," he said. "Business travelers during the week, vacationers on weekends. And rates will be lower than in Downtown San Diego.

"We have no flag yet," he said. "Negotiations are going on with certain operators."

The developers, said Leetma, have been working closely with the California Coastal Commission and California Coastal Conservancy to make sure their preliminary plans are in compliance.

"We want to attract people to the natural resources there, like the marsh, and the ancient Indian grounds," he said. "It's not an archaeological dig, but it has historical significance."

Beard said that she's "very, very happy that the Planning Commission approved the project."

"It looks good to go in 2006," she added.

The agency owns the 6.32-acre site, she said, but will be transferring it to the developers for more than $2.7 million.

Said Leetma: "We'll be applying for the grading and building permits within a few months. Stuff always comes out of left field, but I feel very confident that we have met all the criteria to a ‘T' to make the plans as bulletproof as possible."

The contamination on the site is being cleaned up by the state and the previous owners, said Leetma.

"We have lent some engineering support to help their effort, and we're coordinating with them on what they're doing," he said. "It's a good, cooperative effort, but it's not our job.

"You always have some risk involved," said Leetma. "We think it's minimal in this site. There is a doubleedged sword. You don't want to scare off any lenders away. We are confident this site has minimal risk from environmental liability."

Developers Wanted

The CDC also is casting a net for a seasoned brownfield development team to partner in the redevelopment of a contaminated site on Cleveland Avenue, between 14th and 18th streets.

This 9.63-acre site is in the city's harbor district, a sub-area of its redevelopment project. The CDC wants to enhance the area where its existing occupant, Pacific Steel, Inc., is located, retain that business and the jobs that go with it, and build a new state-of-the-art public works center for the city.

"The site has had a variety of uses over the years," said Beard. "The primary contaminants are metals, which is a good thing. Metals stay where they are until you clean them up."

Kevin A. Noell, the chief executive officer of Meridian Development, LLC, in San Diego, is bidding on the project he calls "extremely interesting and complex."

"We would create a theme, with artisans, metal workers, glass blowing - what used to be found in Downtown San Diego," he said. "It's creative synergy. It would be cool to have this as an artisan district, maybe expanded to include importing of goods from Mexico and other countries, import companies that would have a retail presence.

"We would redevelop the area into something better than it was, create some vibrancy. It's an interesting area. It's the cool part of National City. And, with the new hotel there, we could create an edgy arts, industrial and residential live/work neighborhood. To a certain extent, it could end up being a destination, very similar to what's happening in Solana Beach."

Liability for brownfield sites is a major concern for potential developers, as well as for those who own property on adjacent sites where the contamination might have spread.

Bob Russell, a partner with the San Diego law firm Procopio, Cory, Hargreaves & Savitch LLP and an environmental specialist, has spent 10 years representing brownfield properties - from owners trying to sell them, redevelopment agencies trying to condemn them, both buyers and sellers. There always is one prevailing question about the cleanup.

"What is it going to cost and who is going to pay?" he said.

Josh Vasbinder, a broker in the investment division of Grubb & Ellis/BRE Commercial in San Diego, said that "land is at a premium and a lot of builders are willing to take some risk on closing on properties that have contamination."

"We're seeing buyers today close on properties quicker, and taking a little more risk, releasing the seller from liability," he said.

Some developers have been willing to accept the risk, because the cost of cleanup has been more than compensated by the rapidly accelerating land values, said Russell.

"Brownfields haven't been much of a risk in San Diego, because the property had appreciated by the time due diligence was done," he said. "The environmental concerns weren't a huge issue, because you had paper profit on the value of the land."

But, these days, that acceleration is starting to slow, and developers should take heed, he said.

"People have to be more cautious of environmental concerns, and do more investigation," he said. "It used to be if you miscalculated by $200,000, it wasn't much. But it is now. I tell my clients if they spend money investigating the property, they can find out what the environmental costs will be, and they won't be upside-down on the project."

It can be dicey.

"It's not for the faint of heart," said Johnson. "There are not a lot of people who have the sophistication to know how much it costs to clean something like this up. You have to know that you will face extraordinary risk. You have to know what you're doing. If you make a mistake in your analysis, you can find yourself upside-down on the project. You might think it will cost $500,000 to proceed, and then find out it's a $3.5 million cleanup instead. A number of people find out the hard way."

Cambridge's department offers a voluntary cleanup program for private developers and owners, giving them guidance and oversight, but it's not free. "The cost is based on the scope of the project," she said. There also is limited funding for nonprofits and redevelopment agencies, which might want to have a

particular site investigated before it's offered for development, she said.

Laws And Liability

California has laws addressing questions of liability on contaminated land. One is called the Polanco Redevelopment Act, passed in 1990 and amended since then. It provides immunity from liability for redevelopment agencies and subsequent property buyers for sites cleaned up under a plan approved by the state Department of Toxic Substances Control or a regional board.

This law has been a primary tool used by the Centre City Development Corp., the city's planning and redevelopment agency that oversees Downtown projects - most of which have involved brownfields. Petco Park is a prime example.

"The idea for the act came from us," said David Allsbrook, CCDC's manager of contracting and public works. "We exist to eliminate blight, and it's not fair to pay for something that we didn't cause.

"We learned our lessons over the years," he said. "The agency won't take title of property unless there has been due diligence, or we've put out notices to the property owners, requiring them to do the cleanup."

Exactly who ends up doing the cleanup is open to negotiation, said Allsbrook. "Sometimes the owner doesn't want to be bothered," he said.

In that case, the agency can take on the job, which can be an advantage. "We budget conservatively, and it may not cost as much as we negotiated for," he said.

Petco Park was a major challenge, he said, adding that the property owners paid for most of the $20 million cleanup for the 26-acre block, while the CCDC spent about $1 million.

"Most of Downtown has suffered some sort of environmental abuse, although not deliberately," said Allsbrook. "In the ballpark, for instance, there were about 100 underground storage tanks, which is not uncommon in an industrial area. The biggest surprise was in East Village, with burn ash and lead-impacted soil, due to people burning trash on their property, and importing fill contaminated with lead."

While the problem usually is easy to fix, he said, this "dig and haul" cleanup can be very expensive.

"You can't just take it to a normal landfill," he said. "You have to take it to special places - in Otay and in Arizona."

Another law, the California Land Reuse and Revitalization Act of 2004, which took effect in January, provides liability protection to brownfield developers, "innocent" landowners and continuous property owners, according to the state Environmental Protection Agency. In order to qualify for the protection, the developers have to perform required assessments of their property under regulatory supervision.

Before the law's passage, the current property owner or a potential buyer could be held financially responsible for the cleanup process if contamination was found - even if they hadn't been responsible for the damage.

"Until this new act, there was no appropriate modification to close the liability gap between federal and California law," said Johnson.

These liability laws may embolden developers to take the risk of building on these sites, given the scarcity of available land, he said.

"Because property is in such great demand, environmental issues that ordinarily might tank a deal are being tackled," said Johnson. "They are chasing more opportunities than they would ordinarily."

But, said Tryon, local governments will have to be willing to ease up a bit on existing regulations regarding brownfields.

"They rely on a set of rules and processes that don't lend themselves to specialized needs of brownfields," he said.

"I think it will be a slow, maturing process," said Tryon. "I think the new law will help, but it's not going to solve all the issues. It's a step in the right direction, but it will require a series of steps."

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