Money-Growing: Shards of Unfinished Projects


Vedomosti ventured to compile a list of investment projects that have ended in failure and came up with just a handful of examples of how things ought not to be done.

Market consultants believe the most vivid example of an investment failure in the retail sector was the French Galleries shopping center at 9 Vetoshny Lane. The property, located next to Red Square where one of the city’s landmark malls – GUM – is to be found, has failed to live up to expectations.

The French Galleries was built by the company Toriss. Back in the late 1990s the company invested at least $9 million in the development, according to market analysts who doubt that Toriss has ever received payback on the project.

Four years ago the mall was taken over by a new owner, JSC Alexander House, linked to Alexander Smolensky, founder of SBS Agro Bank.

At that time, the Galleries ran only three boutique shops – a Wild Orchid lingerie outlet and two clothes stores. Initially, however, when the development had just been completed in 1997 it had more tenants.

Andrei Mashkov, retail property analyst at Paul’s Yard, points out that these days the shopping center has changed its name to the Nikolai Vending Stalls. “The change of name is a tell-tale sign that the project is suffering problems,” Mashkov says.

The initial plan was to build a classic shopping arcade, later its owners decided to turn it into a boutique gallery offering a narrow range of goods – jewelry and souvenirs. But Vetoshny Lane has proved an unsuccessful location for luxury goods, Mashkov adds.

“Even though it is situated in the immediate proximity to Red Square the site is hard to get to by car and hidden from sight,” Mashkov explains. The place is not suitable for upmarket shops selling luxury brands as Red Square is frequented chiefly by the middle class and tourists, other experts agree.

Yulia Nikulicheva, analyst at Jones Lang LaSalle, says the mall’s poor design is one of the reasons it has failed to attract tenants.

“The size of floor area is small there, not more than 200 to 350sqm,” she says. “Anchor tenants find it difficult to move in.” The best way to revive the project is to revise its concept, market experts are convinced. Nikulicheva believes that it would be most appropriate to redesign the Galleries for use as offices.

One of the most vivid examples of a retail center with a failed concept is the Gvozd complex at the intersection of the Moscow outer ring road (MKAD) and Volokolamskoye Shosse. The 17,000-square-meter property was also built by Toriss and opened in November 2001.

The first two floors are occupied by a Sedmoi Kontinent supermarket and Tekhnosila home appliance outlet, while the third floor is only half filled (by discounter shops selling clothes and sports goods); the fourth floor is almost always empty. AllianceDoma.net rents over 5,000sqm at Gvozd. Earlier, those facilities were rented by the company Caesar who hoped to sublet them to smaller market vendors, but failed.

Mashkov holds that no realtor will be able to help the mall attract tenants because the reason for its failure lies in its poor design and unsuccessful location.

The mall is situated at a considerable distance from the metro station and residential areas, Nikulicheva says. The center also has an inconvenient access road and a parking lot with only 100 spaces, Mashkov adds. He thinks that the developers should have built just three floors instead of four so that the first two floors could have been used by anchors and smaller tenants while the third floor housed entertainment facilities and a food court.

Another problem that Gvozd has arises from the large number of owners. Toriss holds the title to about 8,000sqm in the mall, let through two management companies – Art Trade and Beta Trade. Sedmoi Kontinent has bought 3,500sqm from Toriss; Tekhnosila owns some 2,000sqm on the second floor. The fourth owner is RosBusinessBank, with 1,300sqm on the third floor, secured some three years ago.

But then, another project by Toriss – the Gvozd II shopping center on Andropov Prospekt – is believed to be quite successful. Gvozd II is favorably located, which has made it possible to attract respectable anchor tenants (Perekryostok and Tekhnosila), says Yulia Dalnova, head of retail at Knight Frank.

In the near future, she says, one more attractive anchor – the children’s goods chain Detsky Mir – is to open its outlet at Gvozd II, taking over the entire third floor of the complex.

Waymart is another example of a failed retail project, says Yulia Nikulicheva. The mall was built at the 26th kilometer of the MKAD, between Varshavskoye and Kashirskoye motorways by the company Rosital. For such a remote area the project is too small, Nikulicheva says.

The total size of the shopping center is 31,000sqm, with anchor tenants – SportMaster, M.Video, Starik Khottabych and Sedmoi Kontinent – each occupying 2,700sqm, she continues.

Those stores are the shopping destination for the majority of the mall’s visitors while the smaller shopping galleries fail to attract customers. As a result, the owner has problems with smaller tenants because empty shops create a bad impression, Nikulicheva says.

Yulia Dalnova of Knight Frank cites the example of the Quadro retail center built in 2003 at the intersection of Rublyovo-Uspenskoye Shosse and Kutuzovsky Prospekt. The center was developed by Tema, who then sold it to Partia.

Maksim Gasiyev, head of the commercial real estate department at Colliers International, puts Quadro’s failures down to the small size of the property (16,000sqm), an inconvenient access road and flaws in its concept. Dalnova believes that Quadro should completely revise its concept.

Many retail centers will go that way, Gasiyev is convinced. With competition between the malls growing stronger in the future some of the projects will inevitably find themselves in dire straits. “So far the market has even swallowed up unsuccessful projects, but that will not last long,” he forecasts.

Oleg Myshkin, a partner at Colliers International, names the Zenit business office as one of the most deplorable uncompleted developments in the capital. The property is located on Vernadsky Prospekt, on the site of the Academy of People’s Economy. Nikulicheva says construction began even before the 1980 Olympic Games.

“Italian investors had extended a loan for construction. An amount of about $100 million was spent,” Myshkin says. Attempts to reanimate the project were taken several years ago but failed, as the would-be investor found it difficult to restructure the academy’s debt. The building had even been equipped with engineering systems, elevators, but they had long fallen into disrepair because the building had never actually been properly roofed.

“I will not be surprised to see Zenit ripped down eventually because the structure and the systems of the building have most likely become worthless,” Myshkin says. Nikulicheva agrees that it is no longer possible to complete the development because its structures have grown obsolete.

Zenit is not the only unfinished construction on Vernadsky Prospekt, Myshkin notes. Most of them are Soviet-era towers, which would be easier to dismantle than redevelop.

Alexander Shagalov, leading office property consultant at Paul’s Yard, assumes that the key problem of failed projects is a discrepancy between the purpose, class and location of the properties.

In cases of so-called ‘dolgostroi’, or lengthy construction, problems often arise from a failure to secure approval for the project from the authorities, even where the building plot has already been secured. Shagalov mentions a site near Poklonnaya Gora where the Moscow International Stock Exchange launched construction of an office center in 1998. The property was never built due to problems securing permission for the project, Shagalov notes.

Obtaining the right to redevelop a dolgostroi, says Myshkin, is quite difficult because that sector of the market lacks transparency. In theory, the government should hold tenders to choose investors, but in practice it is not that easy to secure the right and to obtain all the necessary authorization, as well as the title to the plot.

Calculating the investment required to reanimate unfinished developments is quite easy; what is much more difficult is calculating the cost of obtaining property rights, as quite often dolgostroi projects are registered in the books simply as vacant plots of land.

One of the major dolgostroi projects in Moscow is Tsaryov Sad, on the Bolotny Island near the Kremlin. Construction began by the Keystone company in 1998 was never completed. Sberbank opened a $150 million credit line for the development of the 83,000-square-meter facility. All the work on the site was suspended almost immediately after Gennady Shulman, the founder of Keystone, died. By early 2001 the developer had spent $90 million on the project but only 23,000sqm had been built. Sberbank took over the property as the debt was never repaid and Shulman’s successor, Yelena Klimenkova, was jailed.

Market analysts believe that Tsaryov Sad is hardly Sberbank’s best purchase. It would be much easier to pull down the building than to revamp it, they say. Today, about 20 companies rent offices at Tsaryov Sad.

The main disadvantage of the building is its poor layout, with a floor depth of 40 meters, while the standard depth is 20 meters. As a result, expensive offices are too dark.

Analysts doubt that Sberbank will succeed in selling the building, but even if it does, the bank is unlikely to get its money back. The only valuable asset of Tsaryov Sad is the 3-hectare plot of land estimated to be worth $100 million per hectare.

The deputy general director at Kalinika Realty, Alexei Sidorov, earlier told Vedomosti that the plot is extremely sought-after given its proximity to the Kremlin, but it can only be used for prime commercial development and the new owner will have to spend at least $200 million on the project.

The age of failures is ending, experts agree. “Today, finding investors and raising funds for a good project is no real problem,” Shagalov says. “The time of major companies is coming, of companies who focus on long-term prospects and value their brand,” Dalnova adds. Besides, developers have accrued sufficient experience in implementing top class and sophisticated projects, she says.

Gasiyev is convinced that the market will see more failures in the future, chiefly due to the fact that quite often today companies that are not involved in real estate secure plots of land and assume the role of developers ignoring the advice of professional consultants. “And then it transpires that the project is not viable,” he says.

Today, even faulty projects survive because the market is still empty. Yulia Dalnova believes that unsuccessful projects in terms of concept still manage to succeed when their locations are favorable.