Some retail property investors have moved to the sidelines, waiting for the economy to sort itself out; others have remained active, but become much more selective about their acquisitions. While capital is seeking product types that represent stable, low-risk investments, sellers, in general, have displayed more of a wait-and-see attitude.
The hot ticket items include well-located, strong grocery-anchored centers with solid national and regional tenants and single-tenant net-lease properties with high-quality credit tenants.
Demand remains high for these particular product types, but overall multi-tenant retail property sales volume has slowed by approximately 20% over the past year, the result of a soft economy, cautious lending and a lack of available product. The effects of the sluggish economy, however, have been uneven, producing a disparate investment landscape.
“The recession produced uneven effects across retail product types,” notes Harvey E. Green, president and CEO of Marcus & Millichap, a national investmentfirm based in Encino, Calif. “Class-B and -C malls, specialty retailers and department stores have taken the brunt of the reduction in consumer spending.
The performance of power centers has been mixed, with some centers benefiting from the ongoing success of big-box players, while other centers with a vacancy overhang have struggled to secure new tenants. At the other end of the spectrum, grocery-anchored centers have experienced much more moderate changes in vacancies and revenues.
“It's not surprising in today's uncertain economy that many investors are taking a wait-and-see attitude,” adds Green. “However, the impending rise in interest rates and recent positive economic signals should foster increased investment activity in coming months.”
Because of this disparity in performance between retail formats, there are a large number of investors focused on a small selection of properties, which has pushed up prices.
Everyone is targeting the quality anchored centers. There is not a lack of capital in the market. However, owners of well-performing properties with strong cash flows are hesitant to put their properties on the market.
Owners have been able to refinance at low interest rates and they aren't as highly leveraged as in past market downturns. The result has been that we have not seen the distressed sales like we did in the past. The bottom line is that there is a lack of quality product, which has resulted in a reduction in sales volume.
In addition to anchored centers, well-located single-tenant NNN properties have generated growing investor demand. Properties such as Walgreens, Jack in the Box, Taco Bell and Pizza Hut are not only selling quickly, but at close to 100% of listing price. Last year, for example, Marcus & Millichap facilitated the sale of nearly 400 single-tenant net-lease investment properties.
“Investors have flocked to single-tenant triple-net-lease properties,” notes Steve Regenstreif, a vice president of investments in Marcus & Millichap's Encino, Calif., office. “Individual investors, particularly those trying to complete a 1031 exchange, are attracted by the current low interest rates, long-term leases, stable cash flows and limited management responsibilities associated with triple-net-lease investments.”
Some retail formats have held their value better than others but, generally speaking, today's market presents a window of opportunity for investors. In the past 12 months, investors have been taking advantage of low interest rates. If an anchored shopping center can be purchased at a 10% cap rate with a low interest loan, a quality center can generate very attractive cash flows.
Some investors, however, are avoiding the more pricey anchored shopping centers and are looking for contrarian opportunities and value-added transactions.
Anchored-shopping centers top investors' lists, but some buyers are looking for value-added opportunities, such as non-anchored centers that could be repositioned to attract stronger tenants. Investors should take a long, hard look at tenant mix and demographics so that they completely understand a trade area and its specific characteristics.
The importance of a successful tenant mix should be stressed. The synergy produced by a well-thought out tenant mix can contribute to a center's success by drawing more traffic and assuring a positive customer experience.
From an investment perspective, a center with strong, credit-worthy national and/or regional tenants will pay dividends in a weak economy. Investors need to evaluate the existing tenant base, the length of the leases in place and possible escalations that can boost NOI.
A Silver Lining
But even as buyers and sellers grope for meaningful valuations to close the gap between ask and bid prices, investors can take solace; as the black cloud of recession dissipates, a silver lining emerges.
The recession did serve to curtail retail. High-growth markets that were getting ahead of themselves before the recession have been able to catch their breath and reevaluate.
As the economy picks up, these markets will tighten and rents and values will turn the corner. Eventually, markets such as Atlanta, South Florida and Phoenix will resume their population and employment growth trends, which will boost the local economies and retail fundamentals.
The spate of retail bankruptcy and reorganization announcements in the past few months also will have a long-term positive effect on the market. Retailers with progressive concepts, products and formats will benefit from the demise of weaker competitors. The same can be said of the real estate component; struggling properties will go dark and be converted to better, higher uses.
The fierce competition among retailers and the drop in consumer spending have pushed some stores over the edge. As usual, the fittest will survive. Despite the sluggish economy, there are retailers that are prospering and expanding into new stores.
They are likely candidates to move into the spaces emptied by such closings as Kmart. The properties that will be hardest hit will be those older centers that possess little potential for rehab or repositioning.
While the short term could prove challenging for retailers and retail owners/investors, there are economic indications that the tide is turning and better times are on the horizon. Rents and values are expected to soften slightly in the interim, until increases in business spending, employment and consumer confidence can pick up steam and give retailers some much needed breathing room.
Bernard J. Haddigan is a managing director at Marcus & Millichap and also serves as national director of the firm's National Retail Group, which focuses exclusively on the brokering of retail investment properties.