PLAN 72: Article
Evaluating Vertical Expansion

Recent Research from the Center for Real Estate

Recent research from the MIT Center for Real Estate indicates that the vertical phasing of buildings may hold significant potential for helping developers manage risk by allowing a building to grow in height as market conditions warrant.

Vertical expansion refers to a process by which a building is built to a certain height with the intention of possibly expanding it upwards in the future; if such an expansion never occurs, the original building can stand by itself as a fully functioning structure. The development method is an example of a 'real option' in real estate – a right but not an obligation to pursue a future course of action; real options are important because of the value they can add to a project.

CRE students hear first-hand accounts of the project

While the notion of adding upward is not new – expanding a one-story building to two or three stories is a common occurrence – the major extension of high-rise buildings is a recent phenomenon. The development of the 33-story Health Care Service Corporation headquarters in Chicago, currently underway, is perhaps the most dramatic example.

Erected in 1997 with a built-in option of being extended to nearly 60 floors in the future, the building currently houses about 4000 employees in a structure 460 feet high; once completed (in 2010, they hope), the 'new' tower will accommodate about 8000 employees in a structure 800 feet high. And all the construction is taking place while corporate operations continue uninterrupted below.

The process is undeniably complex. Just erecting the tower cranes to assemble the floors above while corporate operations continue below requires enormous resourcefulness. The process began with individual sections of a 17-ton derrick crane being transported to the rooftop by the building's enhanced service elevators.

Once assembled on the roof, the 17-ton derrick constructed a larger 35-ton derrick that in turn dismantled the smaller derrick and returned it to the ground. Then the 35-ton derrick erected a west tower crane that in turn assembled the platform for an even larger crane. After supports for that crane were set, the west tower crane returned the 35-ton derrick to ground then completed the east tower crane so construction of the addition could begin.

As challenging as the process is, however, a recent thesis co-authored by Jason Pearson (MSRED’08) and Kate Wittels (MSRED’08) indicates that such vertical phasing of buildings may be easier than commonly believed. Using the Chicago building as an example, along with three others in the US and Canada, the thesis examines the context in which the vertical phasing of buildings is employed, concentrating on the decision and development process, and suggests that vertical phasing may indeed be used effectively in corporate real estate development and possibly other sectors of the real estate industry.

Still, as encouraging as that might be, assessing the actual value of such a real option is a difficult matter that often falls outside the realm of typical real estate finance. But a recent thesis by Anthony Guma (MArch’01, MSRED’08) argues that vertical expansions are not only feasible but that their value is indeed quantifiable. Using the Chicago building as the basis of his analysis, Guma makes use of a methodology based on familiar spreadsheet techniques and common valuation metrics such as net present value to demonstrate his point.

Both masters theses were supervised by Professor Richard de Neufville of the Engineering Systems Division in MIT’s School of Engineering in close cooperation with Professor David Geltner of the Center for Real Estate – an example of the increasing collaboration between the Center and design faculty across MIT. Copies of the theses can be downloaded here.

The story is based in part on a story by Cambridge-based writer Michael Mack.

Getting the Details from the Source

Last spring, students in David Geltner's class in Advanced Topics in Real Estate Finance at the Center for Real Estate heard first-hand about the Chicago project's concept and execution from all six of the project's principal team members – the corporate lead, its architects, structural engineer, project manager, and developer and contractor.

In the early 1990s, the Health Care Services Corporation was projecting a 20-year growth from about 3000 employees to nearly 8000. Since most of their employees commuted by train, they wanted to stay downtown. They also wanted a vertical building flexible enough to allow both single- and multi-tenant use – in case their forecasts didn't work out and they needed to lease the building.

One of the project’s challenges involved an ice plant in the building's basement. The plant provides chilled water to the HCSC headquarters, as well as to nearby buildings, cooled by 23 towers on top of the building. Because the cooling towers had to continue to function throughout Phase II construction, an open-air 'sandwich' scheme was devised that allowed the new framing to go up beside the towers while leaving the two floors around them open to the atmosphere.

The floors above will be enclosed within the structure's curtain wall, but the two floors sandwiched between the building's upper and lower half will remain open until the project's end, also serving as the construction crew's base of operations and as a staging area for materials.

As the addition nears completion, new cooling towers will be built on the roof 24 stories above. In a final sequence, the new cooling towers will go online as the old ones go offline, and the two ‘sandwich’ floors will then be finished.