It's right there. He got less money from the insurance than it cost to rebuild the WTC.
If your $500,000 house burns down and costs $300,000 to rebuild, but the insurance only gives you $200,000, then you have lost money.
Mick,
You have not taken into account the differences between equity, debt, and market value.
Let E represent equity, D represent debt, and MV represent market value.
Equity is the value of the owner's investment in the building (as opposed to the bank's investment in the building).
Equity is equal to market value minus debt.
E = MV - D
The point of equity is, if the owner were to sell the building on a given day then, excluding real estate commissions and the seller's closing costs how much money would the owner get from the sale?
On the day of purchase of a building the buyer's equity equals his down payment - assuming he bought at market value. That is, if he paid for the building what it is really worth in that real estate market then he neither made nor lost money by buying it.
The same applies to constructing a building because there are always loans, such as construction loans. For the purpose of determining E, MV and D we can treat a construction loan the same as a mortgage loan. It is all D.
The debt is the total amount of money that the owner owes to banks on that building. In other words the sum of all the loans against the building. (It doesn't matter how much he owes on other buildings or any other sort of loans. For each building on any given day there is a distinct value for E, D, and MV although D is the only value that can be known down to the penny, because market values fluctuate and are not always known).
Another way to think about D is that it is the value of the bank's investment in the building. D goes down gradually as the owner makes a mortgage payment each month consisting of principal and interest. The principal part pays down D. D can actually go up such as when the owner does not make his mortgage payment and the bank charges late fees, other penalties and interest.
If you buy a building and pay all cash then your debt = 0.
If you build a building and pay all cash then your debt = 0.
In all other circumstances your debt is nonzero because you have borrowed money and therefore you have debt. You have to repay that money and you have pledged the building as collateral for that loan, meaning that the loan agreement says that if you do not make your payments on time then the lender can sue you (foreclose) and take ownership of the building back from you in lieu of your payments.
If you put down (make a down payment of) 20% of the building's value and you borrow the rest, the other 80%, from a lender (say, a bank) or lenders, then your debt = the amount of money that you borrowed. It's the 80%.
The market value of a building is a function of the real estate market. Market values go up or down depending on all kinds of factors including the health of the economy, the demand for such a building in a given location, interest rates, etc. None of these factors affect the debt, D.
If you buy a building for $1 million and you put down (make a down payment of) $200,000 and you borrow the other $800,000 then assuming you bought at a reasonable price the market value is $1 million. (Note that some buyers overpay and some buyers underpay for their buildings.)
Let's take the example of a $1 billion building.
If there is a catastrophic event such as a controlled demolition organized and executed by individuals and agencies of the government to blow up a building then which of the 3 variables changes? D, E, or MV?
The debt does not change. If you (or Larry S.) owed let's say $800 million before the building demolition then you still owe that much the day after the demolition. You may have insurance policies but that is another story. Until you collect on your insurance policies you still owe $800 million. If you reduce your debt you will do so by paying it down with cash out of your own pocket or (not likely in this case) refinancing.
The market value obviously changed. The market value of the Twin Towers as of September 12, 2001 was only the value of the land. The buildings were demolished but the land was not. From a rental point of view (in other words income) the market value was practically zero: it was zero until such time as a new building could be built. You could say that the value was actually the value of the land minus the cost of the cleanup. Obviously the Twin Towers had to be cleaned up before anything new could be built on that site.
The equity obviously changed. Remember the formula: E = MV - D. Any time the market value is less than or equal to the debt the equity is zero. There isn't any such thing as negative equity (well, rarely). One can say that the building is "under water" or "upside down".
Make sense? In the case of WTC 7 there were loans against the building as previous writers have said.
Now we are ready to compare Lucky Larry's situation before 9/11 to after 9/11 to find out whether he made money on WTC 7. (The calculations for the Twin Towers involve different numbers but the same concepts and formulas.)
As Marcus 112 wrote (#17) Lucky Larry owed $400 million on WTC 7 and collected $865 million from the insurance policy. In this case it doesn't really matter what the market value (MV) was; the insurance policy paid a certain amount that may have been greater than or less than the market value BUT obviously Silverstein could not turn around and sell the building after 9/11 because it was demolished. Therefore $865 becomes in effect the market value.
His equity is per the formula above, E = MV - D. In this case it's $865 million minus $400 million = $465 million.
That is as of the day the insurance company pays him. He had $465 million in equity. He could have done anything with that money; donated it all to the Red Cross, bribed elected officials, invested it with Warren Buffet or in the stock market, or spent it all on jewelry and vacations (a LOT of jewelry and vacations). It was his money to spend as he chose.
Now we turn to the "new" WTC 7. Silverstein could have sold the land, built a parking lot, built a mall, or built another tower. As the owner of WTC 7 he did not have to do anything in particular with the building. But let's say for the sake of argument that he was obligated to build another building on that site. And let's also say that the cost of building that building would be $640 million.
Knowing that, what are the values for MV, D, and E?
The only value that is known from the above information is MV, which is $640 million.
We do not know D or E from the above information. Other sources may have it. But we do know that D + E = MV.
Did Silverstein pay all cash for the new WTC 7? I doubt it, but let's say that he did. In that case his D for that building would be zero (as in the example given earlier) and his E would be $640 million. And MV hasn't changed: it is still $640 million.
Let's take another example at the opposite end of the spectrum: Suppose Lucky Larry put down $0 (zero dollars) for the new WTC 7 and borrowed the entire amount needed to build it. In that case his D would be $640 million and his E would be zero.
Make sense?
Most likely Lucky Larry borrowed some amount of the $640, likely much more than half. Let's suppose that he made a down payment of 20% or $128 million and borrowed the balance, the other 80% or $512 million. In that case as of the day the building is finished his D = $512 million and E = $128 million. Remember where that equity came from: his own pocket. Not from the banks. The banks loaned him the $512 million.
You can substitute any other numbers in for his D and E as long as they add up to the MV, which is $640 million.
If, as we are assuming, he was obligated to build a new WTC 7 what does that tell us about his finances? Only the value of MV. It tells us nothing about E or D.
But
the only meaningful comparison to find out whether Lucky Larry made or lost money on WTC 7 is the E before 9/11 compared to the E immediately after 9/11.
How much did his equity change as a result of 9/11? That is the real question.
We do not know (it's not in this discussion as far as I know) how much Lucky Larry paid for WTC 7. Is it? Let's say it was $50 million.
We do not know what MV was as of September 10, 2001. Maybe there was an appraisal shortly before that. Unless we have that number, MV as of September 10, we do not know how much he really made on 9/11. But let's assume it that MV as of September 10 was $200 million. (If you have a factual basis for a different number then go ahead and state it. I am taking a guess here.) If MV as of September 10 was $200 million and as of September 12 it was $465 million then clearly he made a profit of $265 million on WTC 7 on 9/11. (Note that in this example he had already made $150 million on it, the difference between $200 million and $50 million, from the time he bought it until September 10.)
What he does with that $465 million left over after paying off his mortgage does not affect his equity in the short run. Obviously the new WTC 7 could go up or down in value. But it is a wash. If he put any amount of money, (call it LL for Lucky Larry) into the new WTC 7 then that would be his equity as of the day it is finished being built. It makes no difference. He could make a smaller down payment (say, 10%) and have less equity in the new WTC 7 or make a larger down payment (say 45%) and have more equity in the new WTC 7. Or as in the earlier example a 20% down payment and an 80% loan. It makes no difference. His down payment equals his equity as of the day the new building is finished. Building the new building does not change his wealth, his equity. It is only a transfer of form: his equity goes from being cash in his bank account to being his equity in the new building, but the amount does not change.
That explains how he made money on 9/11. To find out the actual amount all one has to know is the market value, MV, as of September 10, 2001.
See also my response to Efftup #24.
Pearls of Wisdom