Thin construction pipeline squeezes soptions
Retail and restaurant operators hoping for some relief from the long-running dry spell in shopping center development may need to be patient a bit longer. Construction remains well below historical levels and it is not expected to jump higher any time soon.
Nationally, an estimated 53.3 million square feet of new space was under construction at the end of 2015, which is actually a dip compared to fourth quarter 2014 when 59.6 million square feet was underway, according to JLL. Although those numbers sound sizable, volume is only about one-third the level that was occurring prior to the recession.
“New store construction is starting to build back up, although certainly not to the levels that they were before,” said Steve Jones, managing director, retail multi-site program management at JLL.
New development is ‘tepid’
In addition, construction is not widespread across the country, but rather it remains heavily concentrated in major metros. According to JLL, the areas reporting the highest construction activity include northern New Jersey at 3.3 million square feet, Houston at 2.9 million square feet and New York City at 2.7 million square feet.
“New development today is still tepid. It is occurring, but it is cautiously occurring,” added Stephen Coslik, chairman of The Woodmont Co., a retail developer based in Fort Worth, Texas. Despite the economic recovery, formidable obstacles continue to slow new construction. One of the chief impediments for developers is a more challenging lending environment. Lenders are very particular about the projects they are financing with higher equity and pre-leasing requirements than in the past. For example, developers used to put up 20 percent equity for a development and now that is 35 percent, said Coslik.
The broader retail industry also is in flux as retailers figure out how to move forward in a shifting landscape where e-commerce is playing a bigger role. Big box retailers such as Office Depot, Best Buy and Target that used to fuel new shopping center development are not expanding as much as in the past. In fact, many big box retailers are closing stores or shrinking the size of their brick-and-mortar stores. Apparel retailers also have had some major headwinds over the last two years. “A lot of the retailers are just really cautious,” said Coslik.
Impact on tenants
Retail and restaurant operators that are still hungry for growth are feeling the pinch from the limited supply of new space. Industry data shows there is still a fair amount of available space at existing retail properties. For example, vacancies within neighborhood and community centers are hovering at about 10 percent, according to Reis Inc. However, prime locations and space in high quality centers have been snapped up pretty quickly. Much of the remaining space has been hard to fill for a reason, notably lack of interest in older centers or less desirable locations.
Those franchise groups that are in expansion mode are often chasing the same space, including inline locations, end-caps and freestanding pad sites. “Overall, large scale retail development has slowed to a halt in the last five to 10 years,” said Sean Cahill, a franchisee and area developer for Tilted Kilt. “A lot of the new development you’re seeing is from a freestanding perspective.”
There is strong investor demand for single-tenant retail and restaurant properties that has helped to foster that growth. Restaurants are finding they can build new and then enter into a sale-leaseback with investors who are willing to buy that property with an operator in place as a long-term tenant. Tilted Kilt prefers freestanding locations for its 7,000-square-foot restaurants.
There is a lot of work and due diligence involved in securing locations today in both existing and new centers, added Cahill. “None of these deals are cookie-cutter. Every deal has its own nuances and challenges,” he added.
Sometimes the key is to engage a broker in that market who is actively looking at possible options, as well as just being patient to find the right opportunity. For example, Tilted Kilt was able to obtain a front pad site at a new power center being built in Fayetteville, North Carolina. Cahill was working with a broker in Fayetteville and Cahill also had a relationship with the developer, which helped get a foot in the door. Tilted Kilt’s location in Fayetteville is set to open later this fall.
Rethinking retail centers
Many of the multi-tenant retail centers being built today reflect an evolution within the retail industry. The typical retail anchors from the ‘80s and ‘90s have disappeared. Big box retail stores such as Sports Authority, Office Depot and Barnes & Noble are in the headlines more often these days for closing stores, not opening new ones as consumers are increasingly shopping online. “People still want to leave their house for a good meal, and potentially a beer or two, and that is stimulating the growth you are seeing in restaurants,” said Cahill. That trend also is prompting developers to create centers that offer more “eatertainment” options, he added.
Restaurants are stepping into the gap and becoming the new anchors for many shopping center developments. People are eating out more frequently, often two or three times per week. Developers recognize that trend and are now seeking out food tenants to not only fill space, but also help drive traffic to their centers. “As a developer, if you can have a grocery and a number of restaurants, that is the cat’s meow, because that generates traffic and you can lease off of that traffic to other retailers,” said Coslik.
The Woodmont Co. is leasing Bakersfield Gateway, a new 1-million-square-foot shopping center in Bakersfield, California, that is expected to break ground within the next few months. The project will include a movie theater, book store, fitness center and a specialty sporting goods store, as well as a park that will serve as a central gathering place. The development also will include eight to 10 freestanding restaurant and QSR pad sites.
“I think retail development, like retail in general, is changing,” said Coslik. Prior to the recession, developers could throw up some big box stores with some outparcels in front and be successful in attracting shoppers.
Now shopping centers need to offer consumers something that will keep them coming back a couple of times a week rather than once every couple of months. The solution for many is focusing more on entertainment and restaurants, he added.