Pistachios in California, citrus in Florida, hotels, retail malls and mobile home parks across 18 states.
And, let’s not forget, the former site of The Patriot-News in downtown Harrisburg.
Pennsylvania taxpayers own all this and more thanks to several decades’ worth of investments made by the Public School Employees’ Retirement System (PSERS), the pension fund that safeguards the retirements of some 500,000 educators statewide.
The pension fund reported $1.2 billion in directly-owned real estate investments nationwide through the start of this year, a figure that — according to internal documents — includes various costs, including “site development” at the former Patriot-News property.
The FBI is investigating PSERS’ $1.6 million deal to buy the long-vacant newspaper building, according to reporting by The Philadelphia Inquirer, from a hedge fund that picked it up for roughly one-third of that price from PennLive’s parent company in a separate transaction. PSERS has declined comment on the specifics of the deal but its contours are coming into greater detail via public records and PennLive’s interviews with those close to the transaction.
Understanding PSERS history of buying real estate could help shine a light on these ongoing internal and external investigations or, at least, give Pennsylvanians a better understanding of how their money was invested.
The fund’s first venture into real estate was an investment in itself. In 1986, the system built an $8.5 million headquarters at 5 North Fifth Street and, like all of its holdings, soon transferred ownership to a holding company.
Why does a pension fund, ostensibly a public taxpayer-funded entity, use holding companies?
For the same reasons private companies do: They help limit liabilities. If a lawsuit arises from one of these real estate investments, the fund’s larger assets (currently about $66 billion) would hypothetically be shielded from potential damages. They also lend greater flexibility in managing and possibly selling the properties down the line.
Critics say PSERS’ network of holding companies also makes it more difficult for the public (and even current and former board members) to monitor what the system’s doing.
Indeed, PSERS was reluctant to release any information about its real estate holdings, citing the ongoing investigations. It initially denied a PennLive public records request but provided the list after an appeal before the Office of Open Records. It still withheld information about the amount of money it spent on these properties, which PennLive obtained separately.
It’s also useful to explain directly owned real estate. PSERS’ 18 properties are buildings or land it purchased through these holding companies in which it holds a substantial stake. This is different from a mutual fund, in which various types of assets may be compiled into a single fund, or a real estate investment trust (REIT), an entity that anyone can buy stock in with the expectation of receiving regular dividends based on the proceeds of the trust’s investments. They key difference is that investors in a mutual fund or REIT have no say in how their money is spent. For directly owned real estate, the ultimate responsibility rests with PSERS.
PSERS’ next big real estate deal came in 1987 with a Marriott Hotel near Atlanta’s international airport.
This deal, representing an estimated $88 million investment today, received little media attention at the time, so it’s difficult to understand the motivations and process behind it. Several individuals who were involved in PSERS in the late ’80s said its forays into real estate were made in an attempt to diversify the system’s holdings and reduce the cost of investment managers.
“The question was: ‘Why should we keep paying a middle man when we could own the land itself?’” said one of the individuals, who asked not to be identified due to ongoing employment in the finance sector.
READ MORE: What is PSERS? A look inside the pension fund being investigated by the FBI
Nori Gerardo Lietz, a senior lecturer at Harvard Business School who’s advised public pension funds, said these real estate investments boomed in the ‘80s as the funds sought greater freedom and lower fees. The pensions hired asset managers to oversee these real estate holdings but, unlike with other types of funds, they could easily change managers without having to sell out of the investment.
It’s fairly common for pension funds — even public ones — to buy real estate. According to a study by Cornell University, real estate represented nearly 10% of public pension fund holdings in 2019. PSERS direct and indirect real estate investments make up 10% of its portfolio, in line with its peers.
After Marriott, PSERS continued to add to its real estate holdings through the mid-’90s: 1,478 acres of citrus in Florida in 1992; the Rivercenter Mall and the land beneath an adjacent Marriott in San Antonio, Texas, in 1993; The Galleria at Ft. Lauderdale, another luxury mall, also in 1993; and an assortment of groves and orchards in California and Washington state in 1997.
By that point, however, the winds had changed and PSERS’ leadership began to sour on owning physical real estate as opposed to investing through third parties.
“It’s kind of a hassle. If you’re not paying attention, it can get complicated fast,” one person involved with PSERS in the mid-’90s said. “And the thought became, it’s a lot easier to bring in outside managers and let them do the heavy lifting.”
Gradually, PSERS sold some of its holdings: the Washington state farmland and the mall in San Antonio, although it kept the ground lease for the hotel. That means PSERS earns money from the hotel but shares in none of the risk (at least not directly) of owning the building.
This more hands-off approach started to shift again after the Great Recession. Not only did the value of the fund’s other investments nose-dive but the failure of politicians to properly fund the state’s pension obligations left PSERS cash-starved at a moment when it could’ve taken advantage of low asset prices. (Remember the old saw: Buy low, sell high… unless, of course, you have no money to spend.) Instead of making aggressive investments that would’ve grown as the economy recovered, PSERS locked in its losses by selling some of its assets when the market was at its bottom.
Some close to PSERS say the experience of the recession led its leadership into more active, complex and occasionally risky investments, including more direct real estate ownership. It also further entrenched opposition to the kinds of low-cost index investing espoused by reformers like former state Treasurer Joe Torsella.
Starting in 2016, PSERS began investing in YES! Communities, a company that operated manufactured housing communities across the country. By 2020, its investment reached $431 million. The business offered a steady stream of revenue from residents who typically own the home but rent the land it occupies. If the tenant’s economic circumstances change — for example, he or she loses a job — they’re often forced to sell the home for less than its already depreciated value if they can’t afford the land rent. Although these homes are often described as mobile, relocating them is seldom possible due to semi-permanent foundations or the age of the home.
“Manufactured home community cash flows have been shown to be highly resilient, even during economic downturns,” read an investment memo PSERS shared with board members in 2018.
Since 2016, PSERS has engaged in something of a real estate buying spree:
- 1,900 acres of Florida citrus groves in 2016
- 1,000 acres of California almond and walnut groves in 2017
- 600 acres of California pistachio groves in 2018
- Four apartment complexes in Florida in 2018 and 2019
- Two parking lots in downtown Harrisburg in 2020
- 700 additional acres of California almond groves in 2021
Gerardo Lietz said there’s nothing fundamentally wrong with such direct investments but pension systems must pay close attention to their portfolios to ensure they’re diversified across different economic sectors and geographically across different types of local economies.
“You wouldn’t want all your portfolio to be in Silicon Valley, Boston and Austin because all of those places are driven by technology right now,” she said.
Pension system staff shouldn’t decide which properties to invest in, Gerardo Leitz said, since historically those decisions can be affected by political considerations. Likewise, pensions typically don’t have expertise in all the assets they invest in.
“It’s a fundamental question of who bears responsibility,” she said. “If it was a manager, you can hold them liable for poor performance. They’re supposed to be prudent experts. You can fire them.”
The property that drew the attention of federal prosecutors, at least according to The Philadelphia Inquirer, was the long-vacant former Patriot-News headquarters in downtown Harrisburg.
PennLive’s parent company put the building at 812 Market St. up for sale in 2010 but it received little attention until after it was sold to Twenty Lake Holdings, a subsidiary of Alden Global Capital, a hedge fund with a history of acquiring and gutting newspapers via layoffs and the sale of assets. Twenty Lake specialized in scooping up former newspaper buildings — referred to as distressed assets by Wall Street — and flipping them for a profit, even if Alden didn’t buy the larger newspaper business.
In June 2017, after 812 Market had spent seven years on the market, Twenty Lake purchased the building and several other adjacent properties for $644,286 as part of a larger deal involving another 90 former newspaper offices nationwide. Less than six months later, Twenty Lake sold 812 Market for $1.6 million. It was sold to two entities: 812 Market Inc., another holding company, and L&B Realty Advisors LLP, a Dallas-based investment manager that also oversees PSERS’ headquarters on North Fifth Street and its mall in San Antonio.
“Someone got hosed,” said a former PSERS employee, who spoke on the condition of anonymity to avoid reprisal in their current job. “Either PennLive received less than the land was worth or the state of Pennsylvania paid far more than it was.”
The January 2018 press release announcing PSERS’ purchase noted this disparity: “The $644,000 purchase price allocated by Twenty Lakes as part of the bundled sale bears no direct relationship to the true value of the property.”
PA Media Group President Cate Barron said: “The Patriot-News and Advance were not involved in the subsequent deal with PSERS.”
PSERS, in a December 2017 memo by Deputy Chief Investment Officer Charles Spiller, estimated a total cost of $5 million to demolish and prepare the site for redevelopment.
“It is quite old and would need asbestos remediation regardless of our utilizing a portion of the property or removing the structures to prepare for redevelopment of the land,” Spiller wrote. “In addition should we decide to temporarily utilize any of the property, it contains lead paint which would have to be removed.”
As of last year, total costs at the site had reached nearly $6 million.
Despite some widespread skepticism of the deal, it’s difficult to draw apples-to-apples comparisons since the PSERS deal included a few additional parcels that the separate PennLive deal did not.
Bill Gladstone, the real estate agent who represented Twenty Lake in the second 812 Market Street deal, said his clients initially expressed an interest in leasing the building — possibly to a furniture store — but soon agreed to the sale with PSERS. PSERS’ plan was always to demolish the building, he said.
“Sometimes the money gets so good, they have to say OK,” said Gladstone, of the Bill Gladstone Group of NAI-CIR.
Despite its proximity to the train station and to the State Capitol complex, the swath of the city along Cameron Street has languished for years despite various redevelopment plans.
One factor beyond the condition of the former newspaper building itself, according to Gladstone, was its location in a flood zone. For a while, a Tropical Storm Agnes commemorative sign showed that water reached the top of the old Patriot-News building’s first floor.
“People see that and it’s difficult to get much interest in it,” he said. “People are just not interested if it looks like it’s flooding.”
Another is inertia.
“You’ve got to find someone who wants to take that first step,” he said. “PSERS apparently was willing to take the first step. If it’s not them, maybe in another five years someone else will approach it.”
While Gladstone is not in a position to determine with certainty whether the $1.6 million figure was a fair market value, he noted that the importance of the parcel to the buyer’s plans ultimately determines what is a fair price. From PSERS’ perspective, the property may have been more valuable due to the opportunity to create additional parking near its current headquarters and, thus, stop renting space from the garages downtown.
In 2018, PSERS Executive Director Glen Grell said there were no definite plans for the land. One potential use, he said, would be to expand PSERS offices.
“This property is in a prime location for PSERS,” he said, in 2018, “and we expect it will help with the system’s short and long-term space needs.”
The old Patriot-News building was demolished in 2019, its footprint replaced with a gravel field designed to prevent runoff into the adjacent Paxton Creek. Then the coronavirus pandemic hit and the site saw very little activity. It’s still unclear what PSERS plans to do with the land. Grell, a former Republican state lawmaker who joined PSERS in 2015, declined comment.
Gerardo Lietz can’t assess the prudence of PSERS’ investment at 812 Market Street but she noted a similar one the California Public Employees Retirement System (CalPERS) made: CalPERS purchased a property with the intention of expanding its headquarters, then tried to incorporate additional investments into the deal.
“They were going to build a huge condo building,” she said. “It was nothing but a hole in the ground for a decade. The approval was made internally.”
Alden, doing business via Twenty Lake, oversaw similar transactions involving former newsrooms many times across the country. Just one example: MediaNews Group, whose largest shareholder is Alden, purchased The Reading Eagle’s headquarters at 345 Penn Street in Reading as part of its $5 million bid for the newspaper and its various assets in 2019. A deed indicated that the headquarters was sold for $330,000.
Last October, Alden packaged the newspaper building with a parking lot a few blocks away and sold the pair for nearly $2.3 million to Eagle 2020 LLC, a holding company for the Brooklyn, N.Y.-based Scharf Group. That too is well below the county’s assessed value of $3.2 million.
These kinds of transactions in which troubled assets — even whole businesses — are dismantled and sold for profit are nothing new.
PSERS even identified them in a 2007 memo. A variety of national economic factors, the memo read, “is expected to provide an increasing supply of future distressed opportunities [and] we expect to remain extremely active in the near-term given the existing robust pipeline.” That pipeline was full of “soft pockets of the economy, including the following industries: airlines, autos, energy and cable/telecom.”
In addition to FBI scrutiny, PSERS real estate investments were cited in a class-action lawsuit filed last month by a Philadelphia-area schoolteacher.
“Unbeknownst to the state’s more than 200,000 currently working PSERS participants,” the complaint reads, “the plan’s consultants and advisors collected professional service and management fees in the millions of dollars, and made a compounding series of errors that has devastated the fund and resulted in at least a multi-billion-dollar funding shortfall.”
It remains unclear what, specifically, about the Twenty Lake/Alden/PSERS deal drew the attention of the FBI or if any enforcement action could be pending.
Read the ‘The hunt for Ray Gricar.’