Retail Properties Leading Race to Bottom

After watching the sales of large shopping centers and malls plunge last year, retail specialists can take solace only from the fact that their sector seems likely to hit bottom before other segments of the commercial real estate market.

Because the effects of the recession are socking retail properties especially fast, industry professionals hope falling prices might start leveling off sometime this year - a prerequisite to any rebound in sales. They see few other potential bright spots in the near term following a 68% decline last year in combined shopping-center and mall sales, to $8.6 billion from $27.2 billion in 2007.

Cashflows from retail properties plunged as major retail chains, such as Starbucks and Circuit City, closed stores or demanded rent abatements and other concessions to stay afloat. That trend seems destined to continue as more retailers suffer from declining business. The retail vacancy rate is projected to hit 10.2% this year, up from 8.5% at the end of 2008, according to Marcus & Millichap.

Against that backdrop, sellers will be forced to drop their prices, said Jack Minter, a managing director of Jones Lang LaSalle. "I think that [seller] expectations will shrink quicker with retail than with other product types," he said. "They can't tell anybody 'There's nothing wrong here.' "

Some $6.7 billion of shopping centers changed hands last year, down from a record high of $21.6 billion in 2007, according to Real Estate Alert's Deal Database, which tracks deals of $25 million or more. Eastdil Secured dethroned CB Richard Ellis by a narrow margin to become the most active broker of such properties. Meanwhile, DTZ Rockwood was the busiest brokerage in the mall arena, where only $1.8 billion of sales were completed, down from $5.6 billion the year before (see article on Page 8).

Overall, deal volume is expected to remain thin this year because of a lack of debt financing, instability among retailers and a still-wide bid-ask gap. Widespread uncertainty about the health of the overall economy, especially when it comes to consumer spending, is keeping many potential buyers on the sidelines.

Sellers face a "Catch-22" situation: Potential buyers want to see pricing benchmarks established, but no one wants to be the first to commit capital - for fear of buying properties whose values still have further to fall. "We are in a wait and see mode," said one investor.

Added a REIT acquisitions pro: "It's going to take some deals getting done for some deals to get done."

Because of that sentiment, many offerings are languishing. For example, a number of trophy shopping centers owned by General Growth Properties, the troubled Chicago REIT, have been making the rounds for months.

Adding to the logjam is the fact that the first distressed assets hitting the market tend to be those facing the most troubles, with substantial vacancies, poor layouts and bad locations. And some high-quality properties up for sale have been poorly maintained, further slowing sales. "There's plenty of stuff out there" to buy, an investor at a fund shop said. But "is it stuff we want to buy?"

The properties with the best chance of trading are relatively small, high-quality shopping centers and properties offered at a deep discount by cash-strapped sellers. The safest bets appear to be properties anchored by grocery stores, movie theaters and home-improvement centers.

Investors said they are willing to be patient, believing that many sellers will be forced to cut their price expectations. "The good news is fortunes are going to be made from this," said Bernard Haddigan, a managing director in Marcus & Millichap's national retail group.

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