When our firm and its partners began to build quickly a diversified portfolio of office, retail and industrial properties in the US, high-rise office buildings via development or acquisition were an important part of our overall strategy, particularly along the west and east coasts.
For many years, these mostly high-rise buildings were a sustainable and profitable enterprise in spite of relentless competition and capital intensity. Beginning in the 1990s, however, large office buildings became even more capital-intensive and underperforming. Companies were downsizing because of increased foreign outsourcing and technological advances. The rise in insurance premiums also became prohibitive with the advent of terrorism and public uncertainty, ultimately forcing investors to look at other investment opportunities.
Enter retail. High-quality urban retail is strong in US cities where it has a significant presence. Think San Francisco’s Union Square, now totally redeveloped and expanding with new upscale stores; Chicago’s Michigan Avenue, often called the Rodeo Drive of the Midwest; Rodeo Drive itself, in the greater Los Angeles area, and Fifth Avenue in New York, among many others. Surveys show that customers come as much for the experience as to purchase high-end goods and merchandise, and are economically impervious to the ups and downs of the financial markets. We have a significant presence in three of these four markets.
Unfortunately, many traditional regional shopping malls have been slow to respond to changing market conditions and an economy that has been sluggish, though now slightly improving. Many mega-malls have been hard-hit by department store consolidations, resulting in vacancies, empty spaces, ageing demographics and the need for intensive capital to both maintain and improve these centres to make them more competitive.
Two significant new market trends in the retail environment are the rise of the national big box discount stores, such as Wal-Mart, Target and Costco, and investor interest in this relatively new and growing phenomenon. Savvy investors realise that this segment of the market enables the owner to minimise common area costs, maximise sales, enhance marketing effectiveness and add value congruent with investor objectives and rates of return.
Another relatively new market trend is the ‘lifestyle centre’, oriented toward families and their need for furniture, children’s clothes, toys and a place for entertainment and dining. These centres are growing on the West Coast and spreading relatively quickly to other parts of the US. Part of their appeal is the marriage of retail to entertainment and dining, creating an experience that touches a broad spectrum of consumers.
Unlike other market sectors, retail can be urban or suburban because retail generally has critical mass. Retail can also be combined with core urban or suburban housing. When this is done, each reinforces the success of the other and creates a synergy that is advantageous to both.
Investors in retail markets are constantly watching for new trends as well as regional area problems. For example, investors in discount stores evaluate the loss of local stores, the changing personality and demographics of the area and a realistic expected rate of return. An on-market versus off-market transaction dynamic would also be studied and evaluated in making the necessary investment decisions.
We are optimistic and positive about targeted retail prospects in north America, and use a hurdle rate analysis as well as traditional analytical tools when evaluating investing money along with partners in retail environments. The existing tenant mix, lease expirations, market location, supply and demand, cap rates, necessary marketing and more are all carefully evaluated so as to ensure market development returns.
While interest rates in the US have been at historic lows in the past four years, the recent rate increase is not expected to affect consumer spending dramatically, suggesting that retail both nationally and internationally will be a dominant sector in a savvy investor’s portfolio.
William J Abelmann is chairman of Grosvenor Americas