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RFD- 3916 Business Items   Item #   11. a.    
Regular Council Meeting Agenda
Meeting Date: 03/23/2020  
Title:    Property Acquisition Proposal - Walker
Department: Economic & Business Development  
Strategic Vision Element: This topic relates to all three of the City’s strategic vision elements contained in Council’s Strategic Plan Related Goal: High quality leisure, recreational, commercial and social infrastructure and amenities as well as policies that meet the interests and needs of the greater community are in place and conveniently accessible.

Information
Request for Decision Summary
An opportunity has arisen to purchase the remaining portion of King Street Plaza not already owned by the City to accommodate and consolidate future growth of City operations. There is a strong business case supporting the acquisition as it provides the City with revenue over the next 7 to 10 years and provides considerable flexibility in meeting the City's longer term accommodation needs.

Proposed Motion
That the purchase by the City of the remaining portion of King Street Plaza be approved at a cost of $6,697,500 and that this be funded through $4,697,500 from Municipal Sustainability Initiative funds and a debenture in the amount of $2,000,000 subject to approval of a debenture borrowing bylaw.
Background/Analysis
Background

King Street Plaza is a one-story building with no basement and site surface parking, originally built in 1972 with subsequent renovations in 2005 and 2009.  The 2009 renovation included construction of the adjacent King Street on the Park condominium and acquisition by the City of approximately one-half of the repurposed King Street Plaza.  This space was occupied by the Spruce Grove Public Library, Allied Arts Council and a restaurant whose lease expired in 2014 at which time Planning and Engineering moved into the vacated space. The vendor for the sale is Triumph King Street Acquisition GP Ltd.

The area owned by the City covers 25,833 square feet at the south end of the Plaza.  In addition, the City leases another 7,350 square feet including 2,503 square feet sub-leased to Frontline Fitness.  This space was intended for library expansion.  This lease comes up for renewal in July 2020 and the City budget does not contain lease payments beyond that point.

The area offered for sale comprises the balance of the Plaza and covers 25,690 square feet on 1.97 acres.  It is 94.3% leased to good quality tenants.  These include the Evergreen School Board, Medicine Shoppe, King Street Clinic, Porta Roma Restaurant, John Kenneth Hair Studio, Perks Coffee House, Postmedia Network and the City of Spruce Grove.  These are established tenants and their leases contain renewal options which the City will honour. 

Conditions

The City negotiated a period of exclusivity with the vendor to allow the City time to undertake a valuation of the property and complete its due diligence.  Altus Group was retained by the City to undertake an evaluation of the property.  This established a value of $6.6 million based on exiting leasehold income of approximately $471,000 annually stabilized.  The asking price was $7,150,000 based on the vendor’s appraisal.  The agreed purchase price is $6,697,500. 

The City retained RJC Engineers to conduct a physical condition assessment of the property.  This included a review of the major systems employed in the building, to determine if there are deficiencies as well as building code compliance, and to provide an opinion of associated remedial costs beyond normal maintenance that will be required over the next 5 years. 

The findings were that there were no significant concerns or code compliance issues with any of the systems reviewed other than natural age-related deterioration.  Other than ongoing maintenance, there will be some future remediation work required.  This includes replacement of the north area roof at $360,000 in the next 5 years, and sewer line replacement at $120,000 and new air handling units at $70,000 in years 5-10.   

The vendor had provided an engineering report on the post tension cable construction used in the building.  Remediation work has been done using steel plate and concrete over the leased portions of the Plaza other than the medical office (1,350 square feet).  The City-owned portion of the Plaza has also been remediated other than the space now occupied by Planning and Engineering. 

Occupancy Plan

The purchase of the Plaza provides an option for the City in meeting its accommodation needs over the next 7-10 years.  The cost of debenture financing is offset by lease revenues until the leases expire and the space is occupied by the City over that time period.  The leases for the most part were recently renewed and have extension options.  The space would need to be managed in a way that matches City accommodation needs with lease expiry terms. 

Attached is a draft accommodation plan that considers how the additional space could be utilized over time.  Following are potential accommodation needs that could be addressed as part of a longer-term plan:

• Relocation of FCSS from Queen Street Plaza (lease expires in April 2023 (6,745 square feet); 

• Future expansion space for the Spruce Grove Public Library (estimated cost for a new build facility in the 2025-28 timeframe $16-20 million);

• Provision of community cultural spaces (unfunded 2022-28 corporate plan initiative at $13 million);

• Growth of City staff accommodation needs for Planning and Engineering. 

If this space can meet some of these accommodation needs, this may provide an opportunity to avoid some major capital expenditures in future years.  Acquisition of the space also allows the City to consolidate a major part of its operations within the King Street precinct.  Within a 20-25 year timeframe, the City could opt to replace the structure with a new and larger municipal building that is able to utilize the total area of 3.25 acres at a central location.
Options/Alternatives
An option that was considered should the City decide to proceed with the purchase was to establish a Part 9 Corporation as it is not subject to the same restrictions around borrowing, guarantees or investments.  The question was whether debts held by the Corporation would count against the City’s debt limit.  The legal opinion was that the City has discretion on whether those debts are included in its debt service calculations, but there have been different suggestions from auditors.  The other point to note is that the Corporation may have difficulty obtaining financing independent of the municipality and the City may be required to guarantee the Corporation’s debts. This would negate the advantage from a debt limit perspective. 
 
Another option considered was for the City to package its portion of King Street Plaza with the current listing and thereby create a more attractive real estate offering of 51,523 square feet.  This would allow the City to pull an estimated $7.5 million in cash from the sale.  However, the City would then lease back the space it now occupies for a cost of around $457,000 per year (net of utilities and other operating expenses which would be similar whether the space is owned or leased).  The owner would also take responsibility for all capital maintenance.  There are some advantages to the sale option but if the City intends to be in the building for the long-term and there are no known structural problems, it probably makes more sense to own.    

A third option was to not proceed with the purchase.  This would place the City in the position of having to rely on either new lease space or new capital expenditures to build out facilities.  The acquisition of the remaining portion of King Street Plaza not already owned by the City provides was seen as a prudent and cost effective strategy to manage future facility requirements.
Consultation/Engagement
The City retained Altus Group to undertake a valuation and pre-bid due diligence engagement for the King Street Plaza sale offering.   

The City also retained RJC Engineers to prepare a building condition assessment.  This work was completed and submitted to the City in August 2019. 

The City had a Non-Disclosure Agreement in place with the vendor.
Implementation/Communication
The financing for the purchase of King Street Plaza at a cost of $6,697,500 will be funded through $4,697,500 from Municipal Sustainability Initiative funds and a debenture in the amount of $2,000,000 subject to approval of a debenture borrowing bylaw.  Under the Purchase Agreement with Triumph King Street Acquisition GP Ltd., the sale is subject to approval of a borrowing bylaw by April 30, 2020.  It will be given first reading on March 23, 2020.
Impacts
The acquisition of King Street plaza would provide the City with flexibility in meeting its future accommodation needs and reduce or substantially delay the need for major capital investments in new facilities.  The leasehold cash flows are sufficient to cover the debenture payments until that point when the City begins to occupy more space.  The reduced lease revenue would then be offset by not having to lease or outfit alternate space.  This is seen as a 7-10 year transition over which time the debenture principal would be steadily declining.  If the status quo was retained for 7 years, the remaining debenture debt would be $663,144; for 10 years, the debenture balance would be zero.  It should also be noted that this is not a stranded asset in that the City always has the ability to sell it as an income producing property if plans change. 

Current tenants in King Street Plaza are not affected by this transaction.  Existing leases and renewal options will be honored by the City.

Fiscal Impact
Financial Implications:
The leases in the building are on a triple net basis with the tenants paying for occupancy-related costs (e.g. utilities, property taxes, etc.)  Property taxes would continue to be payable even if the City owns the property based on the usages within the building.  With the potential lease revenues and the projected operating costs, it is recommended that the City finance $2.0 million of the purchase through a debenture for ten years and use Municipal Sustainability Initiative (MSI) grant dollars in the amount of $4,697,500 for the balance.  This level of borrowing would allow the debenture payments, operating costs and capital maintenance to be paid by the rental income in the early years prior to the City’s potential uses of the property.   The City is projected to have $17.9 million dollars in MSI grant funds at the close of 2020 so if grant dollars were used for this purpose, there would be $13.2 million dollars of MSI grant funds remaining for other uses. 
 
An alternative would have been fully funding the purchase through MSI.  This would leave the organization with $11.2 million dollars of MSI funds at the close of 2020 and would result in a positive cash flow of $273,896 over ten years with all expenses paid even without any potential lease renewals or savings from other uses. 
 
Another alternative would have been debenture borrowing for the full purchase price.  This would have had immediate budget implications as the lease revenues would not have covered all costs required to sustain the operation of the building and the debenture payments.
 
The City can currently borrow $2.0 million at a rate of 1.945% for 10 years, for an annual debenture payment of $221,048.  The City currently leases one of the spaces for potential library expansion.  That lease is due to end in July 2020.  The City budget does not project continuing that lease so lease savings from that budget up to July 2020 are included as potential cash flow to the purchase.
 
Viewing this from a conservative approach, based on the existing leases, without pursuing any lease renewals, the City could potentially incur costs over and above the rental revenues in the amount of $1.845 million over the 10 year debenture period.  This would include all projected operating costs and capital upgrades.   The attached projected cash flow demonstrates this outcome.
 
However, this is a worst case scenario as the following options could be explored to mitigate these costs:
 
  • If the City were to delay expanding Planning and Engineering into the expansion space, the space could be leased to an alternate tenant achieving revenues of $162,558 per annum. 
  • If the City were able to relocate FCSS (Community Social Development) to this space, there would be budgeted savings from that lease that would significantly reduce these costs (currently budgeted at $253,546 per annum).  This does not include any leasehold improvements that would be required for such a relocation project.   
  • If all spaces are not required at the time of each lease expiry, the leases do contain a potential renewal clause which would also allow for continued revenues through 2026 - 2029 until the City requires further space. 
  • Some of the projected repair costs may also be added to operating recoveries from each existing lease at the time of the repair, thus yielding additional revenue.
Attachments
King Street Plaza Accommodation Plan Options
Cash Flow Attachment - March 23, 2020

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