13 August 2008
Mid-Year Retail Review: It’s Not All Bad!
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Vacancy / Construction Statistics
Considering the current retail market conditions of increased store closings and bankruptcies and retailers pulling back on expansion plans, it is no surprise that the overall retail vacancy rate continues to rise; at the end of second quarter, it stood at 6.6 percent. However, it is also important to note the relative stability of this property type, overall vacancy rate has increased only 80 basis points since first quarter 2006.
More pronounced are the vacancy trends found among different property types within the retail category. Shopping centers (encompasses strip, neighborhood and community centers) experienced the most dramatic rise; increasing 210 basis points over the last nine quarters to 9.3% at mid-year 2008. This is somewhat surprising considering that grocery-anchored neighborhood and community centers are generally accepted by the industry as the most recession-proof property type. However, this category is also the most vulnerable to “Mom & Pop” or local/regional tenants that may be more susceptible to a prolonged period of a slowdown in sales.
Behind shopping centers, the mall category (encompasses regional and super-regional malls as well as lifestyle centers) experienced a vacancy rate increase of 120 basis points over the past nine quarters to 3.7% at the end of second quarter. A couple factors may be at play in this increase as outdated enclosed malls continue to lose tenants, some of which have relocated to newer lifestyle centers, also included in this category. While it is important to note that this vacancy rate is by far the tightest in comparison to all other retail property categories, both malls and lifestyle centers are challenged to lease space in this market with such a high percentage of national and regional retailers halting expansion plans until the market turns around.
According to current information available through CoStar Property Professional’s Analytics module, this challenge is evident, as 21% of the 26.3 million square feet of space has delivered since 2007 in this category (nearly all of it being large lifestyle / town center developments) remains vacant. And, another 25.6 million square feet of mall/lifestyle center space is currently under construction with 77% of that space pre-leased. However, this pre-leased rate is strong considering current market factors at play — delivering a center with occupancy ranging 75% to 85% is common, as leasing space at a quicker pace and higher rents becomes more likely once tenants can see a center in its completed form.
Within other retail property categories, power centers recorded a 60 basis point rise in vacancy over the last nine quarters to 5.2%, the specialty center category (includes airport retail, outlet centers and theme/festival centers) recorded a 200 basis point increase to 5.6% over the same period. And while the vacancy rate has maintained at 5.1% for the last two quarters in the general retail category (includes freestanding retail building, urban street retail properties, etc.), it is the only category that has seen improvement in vacancy over the last nine quarters (a 60 basis point increase). The major factor at play here may likely be the continued strength of urban street retail properties.
Market Rankings
Looking at vacancy from a local market perspective, the 10 markets with the highest vacancy rates at the close of second quarter include Detroit (11%), Dayton (10.5%), Kansas City (10.1%), Tulsa (10.1%), and Memphis (9.9%), Dallas/Fort Worth (9.8%), Indianapolis (9.8%), Cincinnati (9.4%), Columbus (9.1%) and West Michigan (9.1%). The 10 markets with the lowest vacancy rates include San Francisco (2.8%), New York City (3%), Orange County CA (3.3%), San Diego (3.3%), Los Angeles (3.4%), South Bay/San Jose (3.5%), Miami-Dade (3.9%), East Bay/Oakland, Washington D.C. (4.1%), and Seattle (4.3%).
During second quarter, 24.25 million square feet of space was completed, which is down 36% over total square footage delivered last quarter, and down 16.4% in comparison to total square footage delivered in second quarter 2007. As of the close of second quarter, another 38.24 million square feet was scheduled to deliver through the end of 2009.
Some of the markets with the highest vacancy rates continue to have some of the highest levels of retail space under construction and delivered in 2008 as well. Dallas, which ranks sixth in terms of highest retail vacancy rates, has by far the most retail space under construction (nearly 12.8 million sq. ft.) and was also privy to the most retail space delivered so far this year (nearly 5.1 million sq. ft.) in comparison to all other markets CoStar tracks.
Markets that follow Dallas with the most retail square footage under construction include Chicago (7.6 mill. sq. ft.), Phoenix (7.25 mill. sq. ft.), Northern New Jersey (6.3 mill. sq. ft.), San Antonio (5.9 mill. sq. ft.), Inland Empire CA (5.6 mill. sq. ft.), Las Vegas (5.1 mill. sq. ft.), and Tampa (5.1 mill. sq. ft.). Markets that follow Dallas with the most retail space delivered during the first half of 2008 include Phoenix (3.98 mill. sq. ft.), Inland Empire CA (3.15 mill. sq. ft.), Las Vegas (3.1 mill. sq. ft.), Denver (2.9 mill. sq. ft.), Chicago (2.4 mill. sq. ft.), Atlanta (2.4 mill. sq. ft.), and Los Angeles (2.3 mill. sq. ft.).
On a more positive note, Dallas has distinguished itself by recording by far the highest level of net absorption (4.64 mill. sq. ft.) so far this year. In its Summer 2008 National Retail Market Trends Report, Grubb & Ellis noted the following about the Dallas retail market: “Strong demographic and employment fundamentals are supporting growth, keeping occupancy rates stable. The retail sector will maintain its vitality, largely due to pre-leased construction.”
Other markets with strong second quarter absorption include: Philadelphia (2.5 mill. sq. ft.); Denver (2.2 mill. sq. ft.); Boston (1.55 mill. sq. ft.); Northern New Jersey (1.5 mill. sq. ft.); Houston (1.5 mill. sq. ft.); Seattle (1.4 mill. sq. ft.); Las Vegas (1.3 mill. sq. ft.); Inland Empire CA (1.2 mill sq. ft.); and Salt Lake City (1.15 mill. sq. ft.).
Rental Rates
CoStar’s data shows that landlords are not yet ready to widely advertise lower asking rental rates. The average retail rental rate (on a triple-net, annual basis) ended second quarter at $17.86 per square foot, which is up 3.25% over a year ago and 11.76% over two years ago. A similar trend is true amongst nearly all the retail property types. The exception is the mall/lifestyle center category, which ended second quarter 2008 with an average rental rate of $22.35 per square foot, up only .09% over the rate two years ago.
Average retail rent ranking trends remain relatively the same quarter-to-quarter, with the country’s tightest retail markets closely correlating to those with the highest rents. The 10 markets with the highest average retail rental rates, in order from highest to lowest, are New York City, Orange County CA, San Francisco, Los Angeles, Miami, San Jose, Long Island, Oakland, Washington, D.C., and Las Vegas. The five markets with the lowest average retail rental rates, in order from lowest to highest, are Tulsa, Dayton, Toledo, Birmingham, and West Michigan.
Grubb & Ellis provided an interesting look at specific retail rental rate trends in its report. First, the average rental rate on a 3,000-square-foot, vanilla box, in-line space in a grocery-anchored shopping center ranges from $15.60 in Des Moines, IA to $133 per square foot in New York City, with the bulk of U.S. markets asking between $20 to $30 per square foot for such a space.
Second, the average rental rate for premier urban shop space — the highest-producing retail streets in each Market. At the top, of course, is New York City’s Fifth Ave ($1,250 psf), followed by Rodeo Drive in L.A. ($600 psf), Union Square in San Francisco ($425 psf), Michigan Ave in Chicago ($312.50 psf), Westfield Valley Fair in San Jose ($250 psf), Boston’s Newbury St. ($165 psf), South Beach Miami ($120 psf), and 7th & F Streets in Washington, D.C. ($100 psf).
Sales Activity
CoStar’s tracking of retail building sales, 15,000 square feet or larger, unsurprisingly showed total retail sales volume down in first quarter compared to fourth quarter 2007 (note: CoStar reports sales data one quarter behind the close of each quarter to heighten accuracy and assure that all deed records from transactions are accounted for in each market.)
CoStar’s national average cap rate for retail building sale transactions 15,000 square feet and larger came in at 7.37% at mid-year, which compares to a range of 6.8% to 7.2% dating back to fourth quarter 2006. Whether or not cap rates will continue to rise in future quarters remains unknown.
First quarter retail sales transaction volume totaled $3.38 billion, down 24.3% in comparison to the $4.46 billion recorded during fourth quarter 2007 and down about 45% over the volume recorded in first quarter 2007.
Although data collection is not complete, a quick query in CoStar COMPS conducted today shows that $4.36 billion in sales amongst all retail property types has already been recorded during second quarter, a promising indication that sellers and buyers are coming closer together on pricing, thereby relieving the severe drought of transaction activity.
CoStar statistics support the theory that sellers and buyers are just now coming closer to a meeting of the minds on pricing. While the first quarter average retail sale transaction price came in in at $170.25 per square foot, slightly higher than the $169.35 per square foot recorded in fourth quarter 2007, a current query of second quarter transactions recorded so far in CoStar COMPS shows a dramatic drop in the average to $138.36 per square foot. Such a price correction would meet the average sale price per square foot trends recorded during 2004.
What’s in Store?
Michael Dee, now the executive vice president of business development for Staubach Retail, said in the Grubb & Ellis’ Summer 2008 report, “It’s challenging because the credit markets remain dysfunctional. Shopping centers have gotten a bad rap due to the struggling housing market and slower consumer spending. These are real, but some investors with cash to spend are hoping to get shopping centers at a discount. We haven’t seen much of that yet because we haven’t seen many distressed sales, but that could be changing if the economy softens further and lenders remain tight-fisted.”
Grubb & Ellis takes the position that the economy will recover quicker than it did from the past recession; in a statement from the report, “There are three reasons to expect the slowdown…to be short and shallow. First, the Federal Reserve has been throwing everything plus the kitchen sink at the credit squeeze to get banks lending again, including aggressively cutting interest rates, unprecedented lending to investment banks and stepping in to keep Bear Stearns from collapsing. In short, the Fed has our back. Second, the rest of the world continues to grow, boosting U.S. exports thanks to the weak dollar, which will add a percentage point of growth to gross domestic product this year. And third, corporate debt levels are low (unlike consumer debt), so there is reason to think that layoffs and cuts to capital spending might be less severe than the 2001 recession. A shorter recession, if it comes to pass, would result in fewer layoffs, putting a floor under consumer spending.”
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