What do you do with underperforming retail, hotel or industrial urban sites? If you are Pacific Properties, you buy them, tear them down and build profitable luxury garden apartments in their stead.

As one of the nation's leading multifamily developers, Las Vegas-based Pacific Properties has developed and acquired more than 20,000 multifamily units, 2.8 million sq. ft. of retail space and 2,000 acres of raw land in the western and southwestern states since it launched in 1985.

The firm has begun to focus on adaptive-reuse projects in strong urban markets throughout California and Las Vegas in recent years. Since 2000, Pacific Properties has developed 1,500 units annually and is planning another 2,500 units for 2004. The risks are great, and the process of tearing down an existing property that may be fully functional or abandoned is lengthy, but the rewards are potentially plentiful.

NREI recently spoke with Steve Molasky, chairman and chief executive of Pacific Properties, about the risks and rewards of developing adaptive-reuse multifamily projects.

NREI: Why is the firm focusing on adaptive-reuse projects? How does this type of development fit into the firm's overall business strategy?

Molasky: It's virtually impossible to find 20-acre suburban sites that are ready for development in the markets we focus on. There's very little land left because of all the building that's been done.

For example, land in the suburbs of Las Vegas has gotten too expensive because the housing market is so strong. (Land prices have spiked from an average of $173,245 per acre in November 2003 to $279,298 per acre in June 2004, according to the Bureau of Land Management.)

There's a lot more demand for urban residential projects than supply, and many urban communities are looking for revitalization projects that include multifamily housing. That makes it easier to get projects approved. We spend a lot of time looking for old shopping centers and industrial office parks to tear down so we can build residences.

NREI: Is there greater demand for adaptive-reuse projects than other types of multifamily development?

Molasky: With the current economy and the job growth in strong urban markets, we believe there is a huge need for adaptive-reuse projects because we find that the number of people who desire to live in communities that have urban services and amenities is growing.

NREI: The firm is developing nearly 1,000 more units in 2004 than it did in previous years. How do you explain the increase when the apartment market is experiencing declining occupancy rates in many major metros?

Molasky: We've been very aggressive over the past few years in building up our team of in-house development partners to find opportunities. So the increase is by design. In the past, we did 70% to 80% of our volume in Las Vegas and 20% to 25% outside Las Vegas. Now it's nearly the opposite, although we're also building more than we ever have in Las Vegas.

I don't see demand for apartments being low. The demand is very high in the markets we are in. It's a question of what you can rent apartments for versus what you can sell condos for. We see a shortage of quality apartments, and renter demand is still strong.

NREI: Do adaptive-reuse projects generate more revenue than other types of multifamily projects?

Molasky: Yes, they do. Of course, the land and construction is usually more expensive, but you can charge more rent for apartments or more per square foot. Typically, it costs the resident 25% to 35% more, but we have found that people will pay more to live in the heart of the city.

NREI: How long does it take to get a return on your investment?

Molasky: It takes much longer to complete adaptive-reuse projects because you have to tear down the building before you can build. It takes about one year longer to get a return on the investment.

NREI: What are the greatest challenges or risks with adaptive-reuse projects?

Molasky: There's no easy manual for how to do these projects. There are always entitlement risks, and perhaps the bigger risk is getting rid of current tenants without any lawsuits or actions by groups that might oppose you. It can take up to two years to work your way through the entitlement process and terminate existing leases on properties that are not abandoned.

So you have income during that stage, but you ultimately want to move all the tenants out or get them on a month-to-month lease until you get city approvals. It's a very complicated process.