Retail Real Estate Gains Favor

Date: 09/03/2014

If you base the popularity of retail real estate on sales volume, retail is back! As investors search for yield and growth, retail has certainly gained favor. On a recent Commercial Real Estate Show we got the scoop on retail including some tips for investors, landlords and tenants.

Out of the Shadows

No longer the trailing class, Retail has surged in 2014, with sales volume up an astonishing 57% since last year. That’s 13 billion in sales according to Dan Fasulo of Real Capital Analytics.  And by that metric, it’s the best performing sector of all.

This surge of interest seems to be the result of the yield-spread opening up between multifamily and the rest of the sectors, says Fasulo. “It’s really attracting investors. Office properties led us out of the recession, and multifamily is the darling of investors,” he said. “But Retail transactional activity is back to where it was in 2007 and capital is flowing.”

While strip center cap rates can average around seven, urban retail can be much lower, with an explosion in rents and high demand for luxury retail in major metros.

Premier assets are hot and are trading at cap rates in the low fives in top markets, especially the “Sexy Six:” Boston, New York, DC, Chicago, Los Angeles and San Francisco. Top tier secondary markets like Atlanta, Denver, Phoenix and cities in Texas are also seeing high demand and cap rate compression. Owners of urban and metro market retail can benefit by selling right now while supply is tight and cap rates are low.

Fasulo noted that while those of us in real estate may gasp when we see such low caps, to the institutions who deal with bond rates they look pretty good. Also, institutional investors have a real understanding of retail from both sides; they intuitively grasp a known retailers’ ongoing credit and value in the deal.

“While certain markets make me nervous, it’s still true that in growth-constrained markets the fundamentals are mirroring the local economy,” he said. Retailer’s balance sheets are improving and retailers are beginning to expand again. Rates and occupancy should continue to improve.

Looking forward, Fasulo cautions that we need to be watchful of real fundamentals and keep an eye on interest rates.  The key he said is to understand your asset and not get locked into long term flat leases with small or no escalations where interest rates can hurt the value of your property.

The Mall Story

Does America still go to the mall?  We consulted Mitch Roschelle, Real Estate Practice Leader for PwC for the answers.  As it happens the answer is ‘yes.’ And ‘no’, and also ‘not in the same way.’ Big retail in the form of a shopping mall is either booming or falling into obsolescence.

In the mall world it’s the haves and have not’s.  Some malls are improving while others are declining. If a mall is perceived as ‘entertainment,’ it’s going to have markedly increased traffic, occupancy and viability. Entertainment can include movies, gaming, and specialty dining; the location itself can create entertainment, as in city centers near theaters and arenas.

Mitch shared fresh ICSC data showing that mall visits are back up to pre-recession levels. However, this only applies to foot traffic. The amount of time people spend in the mall is markedly declining.

Looking at retails sales growth projections; ‘inside the box’ is clearly trailing behind online retailers. Recent retail sales numbers are slow, tied to consumer sentiment, and affected by uncertainty about the geopolitical climate. People are more frugal post recession.

Repurposing is the New Black

For malls that lack the entertainment factor, traffic and occupancy numbers are not encouraging. Many of those malls are falling into obsolescence, which data shows is difficult or impossible to reverse once the slide is underway.

For those properties, repurposing can be a successful strategy.  Landlord Representative John Crossman with Crossman and Company notes that repurposing has become part of a holistic lease up strategy.  “It’s not just about mixed-use developments,” he said, “but now we’re talking about mixed use centers.”

To illustrate, he cited working with the office association in his home market. “I take an aggressive strategy, I want the office brokers to know me. I’m going after office; I’m going after medical. These uses can work really well inside retail space. Government, gyms and fitness centers, even religious organizations have had a big impact on the success of many centers.”

As far as malls are concerned, in Atlanta we’ve seen at least one very successful project where an aging mall found vibrant new life as a light industrial facility, providing the community with good jobs and revitalizing a blighted vacant property. In order for such a project to succeed community leaders must have their expectations managed. It’s important to get local leadership onboard with the vision of the repurposing project, and to understand they aren’t going to get their mall back, not the way it was.

Advice for Landlords

While retail property sales may be improving, Landlord rep John Crossman stated flatly that he doesn’t believe there is enough retail business to fill all the vacancy in centers across the nation.

Attracting and retaining tenants is always essential for the retail landlord. Crossman coaches landlords to work in active partnership with their tenants in order to attract and retain the best. “Gone are the days when you could sit back and tell your tenant to do their own thing.

Getting retail tenants attention is the key to improving occupancy. To sign them, you need to tell a story that assures them that they’re going to do high volume in that center. Data speaks to retailers, who live and die by volume. Map their locations and their competitors, and show them gaps and opportunities in the market. Show them how they can gain market growth and market share in your center.”

Advice for Tenants

Crossman says its critical tenants have the right team. That means a good site person on staff, and the right legal support as well, to insure the documents are serving your needs.

Crossman cautions that it’s especially critical to choose the right tenant representative. Make sure your rep is showing you everything, not just the centers that have the best compensation packages. Have an open discussion about your rep’s fee up front, and be willing to offer compensation in the event the landlord doesn’t compensate your rep adequately.

You’re invited to listen to the show on retail real estate on iTunes or at the show web site CREshow.com. What do you think about malls and retail moving forward?

Michael Bull, CCIM, is the host of the nationally syndicated Commercial Real Estate Show and founder of Bull Realty, Inc., a U.S. commercial real estate sales, leasing and advisory firm headquartered in Atlanta. Michael on Twitter and LinkedIn.