Catellus Reconstructing Itself Into Profitable Entity

After nearly two decades of planning, false starts and costly write-offs, Catellus Development Corp. appears to be on the verge of generating profits from a trio of huge urban developments in California’s largest cities.

Construction has started on the first phase of Mission Bay, an approximately 300-acre redevelopment project rising near booming downtown San Francisco. In San Diego, a Canadian developer has agreed to build high-rise condominiums at Catellus’ Santa Fe Depot property on the city’s reviving waterfront. Meanwhile, historic Union Station in downtown Los Angeles may finally see some new construction for the first time in several years.

The development activity is certainly good news for the San Francisco company, whose stock has been “penalized” on Wall Street in part because of the long-term and complex nature of its urban portfolio, said real estate securities analyst Craig Silvers of Sutro & Co.

These are “going to be great, long-term projects,” Silvers said. But “ ‘long-term’ is not what investors want to hear. Investors want cash flow today. They are not willing to look out several years in the future.”

Chairman Nelson C. Rising has spent the past six years reorganizing Catellus--the former real estate subsidiary of railroad company Santa Fe Pacific Corp.--in an effort to balance the long-term nature of real estate development and the short-term demands of investors.

“We feel very good about the fact that we have a model that over time will produce the results and credibility quarter after quarter,” said Rising, who parted ways with Los Angeles developer Rob Maguire in 1994 to head Catellus. “We took a very complicated collection of assets and now brought them to a point where we can bring them to the market.”

The huge urban projects that Catellus is deeply involved with rank among the most complicated of business endeavors, requiring large amounts of capital, strong political connections and savvy marketing. The lengthy process and high risks put most of these projects in the domain of private investors and developers, which, unlike Catellus, are not under pressure to show predictable quarterly results.

The size and scope of such projects also serve as lightning rods for criticism and opposition from a host of groups, ranging from environmentalists to housing advocates to rival landowners. In the mid-1990s, for example, Catellus drew flak from many downtown Los Angeles landlords when it lobbied for and succeeded in developing a 12-story headquarters for the Metropolitan Water District at Union Station. Rival owners said the building added office space on the market when downtown’s vacancy rate was already high.

Rising defended the new construction as smart public policy that put the water agency in proximity of public transit. Catellus envisions building an additional 5 million square feet of office, retail and other commercial space at Union Station in the future.

During a long career in Los Angeles government and real estate development, Rising built a reputation for skillfully navigating huge urban projects through the unpredictable and highly emotional political and entitlement process. It was Rising, for example, who was credited with winning the community and political support for Los Angeles’ controversial Playa Vista project in the early 1990s.

“I’m an urbanist. I love cities. I have a key interest in that,” said Rising, who splits his week between his Los Angeles home and a San Francisco apartment.

Rising was hired as the company’s major shareholders--the California Public Employees Retirement System among them--were pushing for an overhaul of the company. Rising said the firm considered breaking up and selling off its huge portfolio, which includes millions of square feet of commercial space and thousands of acres of undeveloped land, making it one of the largest landowners in the West. But that idea was quickly rejected.

Instead, Rising chose to diversify the company.

The result is an assembly line of property in different stages of planning or construction across the country. The structure helps smooth out the ups and downs in individual real estate markets by ensuring that Catellus is continuously leasing or selling buildings across its portfolio. That provides a steady, predictable stream of income that investors like to see.

“If one sector goes down, if one market goes down, we are still producing earnings,” Rising said.

In addition to its large urban projects, the company’s commercial group has grown into a giant collection of suburban industrial, distribution and office properties spread across the West and Midwest. The firm has the potential to nearly double the size of its 30 million square feet of suburban properties.

Last year, the company as a whole generated net income of $96.8 million from a host of activities ranging from leasing office and industrial space to selling land and developing properties for clients. Catellus shares hit a two-year high on Monday, rising 6 cents to $18.81 on the New York Stock Exchange.

The commercial group properties may consist of generic-looking buildings that lack the scale and landmark nature of Catellus’ urban projects. But the suburban properties have proved to be a significant and stable source of income from leasing and property sales, said Jay P. Leupp, real estate analyst at the securities firm Robertson Stephens in San Francisco.

“That’s been a consistent cash generator for the company and has allowed the company to grow,” Leupp said.

In contrast, the company’s big urban projects have had a “minimal” impact on earnings after nearly two decades, Leupp said. In fact, in 1995, Catellus wrote off nearly $85 million against earnings after it scaled back the grand plans for Mission Bay that were conceived during the boom times of the 1980s. Analysts estimate that Mission Bay is still at least two years away from boosting the company’s bottom line.

“The problem with the large project is that the income streams are long-term and uneven,” Leupp said. “It makes them difficult to value, especially for a public company.”

After Rising joined Catellus, he hired a new management team to take control of the urban projects. Many of the top managers in the company’s urban group, including division head Douglas Gardner, hail from Rising’s former company, Maguire Partners, an expert in mega projects during the 1980s.

The new management reorganized Mission Bay into a more diversified project. The company withdrew its earlier proposal and drew up a new plan that reduced the amount of office space and boosted the residential and retail portions of the project. The greater variety of uses gives the company more flexibility to adapt to the changing demand for different types of real estate.

So far, at Mission Bay, Catellus has entered into a preliminary agreement with a computer software company to lease a 285,000-square-foot office building. The firm has also agreed to lease land to an apartment builder for the construction of more than 300 residential units.

Mission Bay “is going to demonstrate the value that’s in the land and demonstrate our ability to unlock that value,” Rising said.

Catellus is seeking to apply the skills of its urban projects group to bid on complicated projects, including the redevelopment of the Alameda Naval Air Station near Oakland and the former Stapleton Airport in Denver.

With the surge of activity in its major urban projects, Catellus has the potential “to double its current earnings” in about five years, said Silvers at Sutro & Co.

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Catellus Projects

Catellus Development Corp. is the developer of large, mixed-use urban projects in three of California’s largest cities:

Mission Bay

* City: San Francisco

* Size: 300 acres, near San Francisco Giants’ new ballpark

Santa Fe Depot

* City: San Diego

* Size: 15 acres, near waterfront

Union Station

* City: Los Angeles

* Size: 51 acres, near Civic Center