Just across the East River and one subway stop from Manhattan is one of New York City's hottest districts. DUMBO (Down Under the Manhattan Bridge Overpass) seems an unlikely place for a hip neighborhood. The expressways that ring this 15 square block area provide a backdrop of honking horns and the smell of diesel fumes. But in less than 10 years, home prices and population have more than tripled.

The change is noticeable upon stepping out of the York Street subway stop. Facing west, the first thing you see is a blue fence surrounding a huge hole and a massive construction crane. A sign reads “J Condominiums — The Joy of Living in DUMBO.”

Starting in the late 1970s, artists moved here looking for cheap workspace and getting, in the bargain, an extraordinary view of downtown Manhattan. Using “follow the artists” as his mantra — a formula that had worked so well two decades ago in SoHo — Dave Walentas, president of Two Trees Management Corp., opened a trendsetting residential building, One Main Street, with 124 condos, in 1997, before the neighborhood even had a name.

To attract retailers to the ground floor, Two Trees offered reduced rents. In the late 1990s, tenants could get 10-year leases with one to two years free and rents at around $10 a square foot thereafter. Today, there are no more free rides; rents start in the mid-$20s. “When I began here in 2002, you wouldn't get many calls for retail,” says Chris Havens, director of leasing for Two Trees. “Now we get them every day.”

A retail first

The housing market is so hot that Williams-Sonoma Inc. decided to build its 6,000-square-foot West Elm prototype here, even before it opened a store in the already gentrified Chelsea area of Manhattan. While West Elm would not comment on specifics about the store, the fact that it is still there shows its success, said a company spokeswoman. “It turned out not to be just a prototype, but an actual store,” says Havens.

What started in such Brooklyn neighborhoods as DUMBO and Williamsburg in recent years has spread throughout the most populous of New York's five boroughs, with 2.5 million people. Like many of the country's secondary urban markets, Brooklyn has been discovered — by homeowners, businesses and retailers alike.

Where you have high single-family housing prices, a concentration of young professionals and old industrial buildings waiting for new uses, developers are striving to create new SoHos in unlikely neighborhoods. For example, Oakland, Calif., long overshadowed by San Francisco, has a massive redevelopment effort going and, like Brooklyn, has divvied the work up into separate neighborhoods, 10 in all. And Newark, N.J., is now home to a host of new projects.

The trend is, in some cases, powered by heavy city subsidies and, in others, such as Williamsburg, by developers offering low initial rents to put the neighborhood on the map. In all cases, it's driven by the shortage and high price of center-city real estate. Brooklyn, then, is a case study in how to replace crumbling eyesores with prosperous retail.

Brooklyn bound

Bruce Ratner, president and CEO of Forest City Ratner, wants to bring the NBA's Nets from New Jersey to New York at Atlantic Yards, and Joseph Sitt of Thor Equities, dreams of turning Coney Island into a bright, shiny Las Vegas. Ratner, Sitt, Walentas and a new crop of developers are working to create colossal mixed-use projects that could forever change this borough, once known as the City of Churches, content to sleep comfortably in the shadow of Manhattan.

With such a loud buzz and improving demographics, more retailers want in. “The big-box guys are starting to circle around,” says Dave Tricarico, associate director of retail for Cushman & Wakefield.

Target, Costco and Home Depot have already landed in outlying neighborhoods. But getting in wasn't easy. In this dense urban jungle, there is little room available for large retailers. Developers have to deal with a decentralized real estate market where a decent-size piece of land must be acquired from multiple property owners. Home Depot, for example, assembled 14 pieces of land for one store.

Then once a site is found, developers must go through a lengthy city approval process and fight neighborhood associations. That isn't always easy. Just ask IKEA for whom construction of its first store in Red Hook includes the removal of asbestos as well as other site remediation. “The tenants that end up coming here are those that ultimately make the necessary compromises,” says Peter Botsaris, a principal at Garrick-Aug Worldwide. “They have to be willing to pay the New York prices, make the size compromises and realize that they are not going to get the same type of parking or space they're used to.”

Building up

When Target built its second store here last year at Forest City Ratner's Atlantic Terminal, it had to go vertical. Built over the largest transit hub in Brooklyn, Target occupies the second and third floors. The only ground floor space Target owns is a small lobby with elevator access. “[Going vertical] is unusual for any of these big-box retailers, especially if they are building about 40 to 50 stores a year that are all the same,” says Patrick Smith, a principal with Staubach Retail. A vertical store was a big leap of faith for cost-conscious Target, because it increases operating costs in little ways such as extra manpower needed to stock goods on multiple floors. “Yet, we are told it is one of the best Targets in the chain,” says Smith. Annual sales are rumored to be around $100 million. Target did not return calls for this story.

For its third Brooklyn store, Target will again go vertical, anchoring Triangle Equities' planned 250,000-square-foot Junction retail complex on Flatbush and Nostrand avenues.

The payoff for those who make it here is profit. “Large retail formats exceed their sales-per-square-foot estimates, which overcomes their higher costs in terms of building,” says Margaret Nelson, director of real estate programs for the Brooklyn Economic Development Corp.

Joseph French, a senior investment advisor for Sperry Van Ness, says Lowe's Home Improvement's store here is the chain's top grosser. IKEA also expects the Red Hook store to be among its biggest sellers. “We would not be opening up a multimillion dollar store here if we were not sure of its success,” says Joseph Roth, an IKEA spokesman.

Yet for such a large consumer market, Brooklyn remains under-retailed. If Brooklyn were a city unto itself, it would be the fourth largest in America. The borough has more people than Houston, yet few big shopping centers — including Forest City's Atlantic Terminal, Related Cos.' Gateway Center, Fulton Mall and Vornado Realty Trust's Kings Plaza. According to Cushman & Wakefield, the average amount of retail space per person in Brooklyn is about 6 square feet, compared with 20 square feet nationwide.

“We've seen development,” says David Rosenberg, executive vice president at brokerage Robert K. Futterman & Associates. “We've seen big-box mall tenants come in. But the constant theme still seems to be the need for quality retail.” Given the space restrictions, national retailers have only three ways to enter. The first is the old-fashioned way; setting up shop in one of Brooklyn's 24 business districts. Like it is in much of New York City, retail in Brooklyn is centered in neighborhood shopping areas, such as Park Slope's Seventh Avenue where shops, restaurants and services attract pedestrian traffic.

“The small stores are usually where the demand is in the city of New York,” says Havens. “For every Whole Foods store, there are usually about 10,000 bodegas.” Shopping streets in hip neighborhoods like Williamsburg are filled with music stores, coffee shops, restaurants and Internet cafes. National retailers such as Subway and Verizon are also present. Typical store size is usually around 5,000 to 10,000 square feet.

Larger store sizes are available on Brooklyn's main arteries. “There is room for them here if they can deal with quirky storefronts and with things like columns in the middle of their store,” says Tricarico.

Futterman & Associates recently secured a 38,000-square-foot space for Circuit City on the 86th Street corridor in Bay Ridge. For its third Brooklyn store, Circuit City had to go vertical. “Circuit City is typically in strip centers with great parking,” says Rosenberg. “This store is clearly unique in that this is a multilevel store with just subway and bus access. Would they have loved to find a 38,000-square-foot store on one level? Sure. But it just doesn't exist in these neighborhoods.”

$20 to $200 rents

Rents on Brooklyn's 86th Street, one of the borough's top shopping districts, go as high as $100 to $105 a square foot. Brooklyn rents can vary from the mid-$20s in DUMBO to more than $200 a square foot around Fulton Mall downtown. However, like housing prices, neighborhood rents are on the rise. Rosenberg says lease costs in central business districts have gone up by 25 percent in the past few years.

Heavy foot traffic outweighs the rising costs, say analysts. For example, the main shopping area in Cobble Hill's Court Street has pedestrian traffic numbers equal to East 86th Street in uptown Manhattan, says Havens.

The second way to enter Brooklyn is to opt for industrial land. “Most of the big boxes can only fit on major thoroughfares where they can take industrial areas and convert them into 40,000 to 60,000 square feet spaces,” says Tricarico.

Demand for this type of land has become so high that virtually every manufacturing property in the borough is being reviewed by developers for retail, says Botsaris. One prime area that retailers are looking at is a huge swath of industrial land along the Upper New York Bay that lines the waterfront from Brooklyn Heights southward to Bay Ridge. Since IKEA decided to set up shop here in Red Hook, demand has risen, and land sells for as much as $250 to $300 a square foot, says Phaedra Thomas, executive director for the Southwest Brooklyn Industrial Corp.

But unlike setting up in preexisting spaces on a main street, this second option requires jumping a number of bureaucratic hurdles. First, any development of more than 10,000 square feet in an area zoned for manufacturing requires a special permit. Then it must go through a Uniformed Land-Use Review Process (ULURP), which includes getting approvals from community and borough boards, the City Council and the mayor. The process has a mandated six-month time frame, but prep work could take 18 months. “It could be one to three years before you dig a hole,” says Michael Rothstein, an associate at Marcus & Millichap Real Estate Investment Brokerage.

There is also community opposition. IKEA got its proposal for a 346,000-square-foot store on the Red Hook waterfront approved by the city. But it still had to face a lawsuit appealing that decision from the Red Hook Civic Association.

The lawsuit was dismissed and IKEA, which beat out a mixed-use bid by Struever Bros. Eccles & Rouse Inc., managed to begin construction on its first New York store — on a former shipyard. Now, the retailer has to deal with the complicated process of remediation for this brownfield site. While the unofficial opening date is summer 2007, the company refuses to give a start date because of the remediation process. “You have to have patience and financial clout,” says Rothstein. “It's a time-consuming venture and you have to know what you are doing or frankly you aren't going to make it.”

In the beginning

A division of Forest City Enterprises Inc. headed by Bruce Ratner, Forest City Ratner was one of the first companies to see the potential for large-scale retail in Brooklyn. Eight years before the Terminal, and before Walentas opened the first condo project in DUMBO, Forest City opened the 400,000-square-foot Atlantic Center; anchored by one of the borough's first large supermarkets, Pathmark. “The whole Atlantic Avenue is just a terrific retail market,” says Smith. “If you look at the first Atlantic [Center] project, they learned a lot, which they applied to the second building. There is no parking in Atlantic Terminal and you can tell the building is geared more toward the street.”

Now, Ratner is getting ready to build his most ambitious project yet: the 7.7 million-square-foot Atlantic Yards. Across from Atlantic Center and Terminal on the busy intersection of Atlantic and Flatbush avenues, the 24-acre project would be a sprawling $3.5 billion city-within-a-city including an 850,000-square-foot arena for the New Jersey Nets, office towers, 6,000 to 7,300 housing units and 250,000 square feet of retail. “The retail is intended to be local types,” says James Stuckey, executive vice president and director of commercial and residential development for Forest City Ratner. “It's not like the Atlantic Center or Terminal. It's more geared toward the residential. It will include smaller shops such as nail salons and restaurants.”

Recently, New York's Metropolitan Transportation Authority reached a $100 million agreement with the developer to sell an 8.3-acre rail yard. Sprawling over six city blocks, Atlantic Yards has become a rallying point for many in Brooklyn who fear the borough's gentrification. In order to win the public relations war, Forest City prints its own newspaper, the Brooklyn Standard, and even sponsors a nonprofit group called Brooklyn United for Innovative Local Development (BUILD).

Not a done deal

A group of committed activists is determined to fight Ratner's proposal at every turn. They claim the project is a publicly sanctioned land grab. For one, the $100 million price tag for the rail yards is well below the original appraisal value of $214.5 million, says Patti Hagan, a steering committee member of an opposition group called Develop — Don't Destroy Brooklyn. Hagan also says the use of eminent domain for the project is illegal because the area has not been declared economically distressed. That goes against criteria set forth in the recent Supreme Court case Kelo v. New London.

Opponents also claim that the project would amputate public streets in a heavy traffic area with no remediation plan from the developer. “I don't know how you put a dollar value on anything like a public road,” says Hagan. “Why should private developers take land away from the public and build a fortress-like city?”

She says opposition groups against the venture are currently planning lawsuits.

Stuckey says the project will bring much needed revenue to the city. “The city is getting $5 billion from this project over the next 30 years,” says Stuckey. “In return, they are also getting middle-income and affordable housing, something that's needed.”

Somewhat overshadowed by Atlantic Yards, but sure to cause controversy, is Thor Equities' plan to revamp Coney Island with a billion-dollar Bellagio-style hotel complete with a carousel and blimp that takes off from the rooftop. Thor Equities, which owns 14 million square feet in a dozen, mostly inner city, malls, refused to comment on the proposed project for this story.

A native Brooklynite, Thor CEO Sitt seems determined to bring back Coney Island's former glory as a beachfront attraction for the teeming masses. Obviously retail would play a large part in his scheme, but specifics have yet to be released. In fact, although he has acquired a dozen properties, Sitt still needs investors and city approval before he can move forward.

Whether Sitt's grandiose project gets built remains to be seen. However, the potential for residential development all along Brooklyn's southern beachfront is enormous.

Recently, Muss Development Co. opened a 15-acre complex called Oceana in Brighton Beach with 850 apartment units, beachfront access and a swimming pool. As other residential projects come online, retail is bound to follow. “Get ready, it's coming,” says Smith.

Analysts remain optimistic about Brooklyn despite the national fear of a housing bubble. Given the borough's proximity to Manhattan, it seems little could take the wind out of its housing boom, experts say.

“The whole area has become upscale,” says Tricarico. Recent demographic analysis has determined that the white-collar influx from Manhattan has changed the borough in just five years. According to Brooklyn Economic Development Corp. statistics, the percentage of households earning under $25,000 declined from 40.7 percent in 2000 to 38.2 percent this year. During that same time, households earning over $60,000 increased to almost 30 percent from 25.5 percent. That represents 270,000 households. As a sign of the borough's upscaling, Whole Foods is set to open its first store here near the Gowanus Canal.

Of course, getting people to realize that Brooklyn is a great retail opportunity is not the problem. “Everybody likes the boroughs,” says Tricarico. “The problem is getting retailers in.”

In the Net

Bruce Ratner, 59, president and CEO of Forest City Ratner Cos., the New York affiliate of Forest City Enterprises Inc., was Commissioner of Consumer Affairs for New York Mayor Ed Koch and head of the Consumer Protection Division in the John Lindsay administration, before becoming a developer. FCRC has 6 million square feet of commercial and retail space with another 2.7 million under development.

On the Boardwalk

Joseph Sitt grew up just a few subway stops from Coney Island. Now, his firm, Thor Equities, is snapping up properties to build a Las Vegas-style entertainment complex there. “Think Bellagio,” he has said. He has amassed a portfolio of about 14 million square feet in a dozen inner-city projects. The CEO, who went mum after a New York Magazine story unveiled his plans to a critical response, still resides in Brooklyn — in a much nicer neighborhood.

Over the Bridge

David Walentas, 67, lured hipsters and retailers over the Manhattan Bridge to DUMBO. In about 20 years, he has amassed a portfolio of properties including about 2.5 million square feet of commercial space. Rent discounts were common at first, by now retailers are willing to pay full price.