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Getting even in the metro: Commercial real estate supply & demand reaching equilibrium

By TED CARTER

Metro Jackson’s commercial real estate market is headed toward a balance lost nearly a decade ago in the aftermath of Katrina and the Great Recession that followed a couple years later.

The apparent return of market balance to the metro office, industrial, retail and lodging sectors is among the findings in the 2015 Midyear Viewpoint prepared by Integra Realty Resources, a national provider of commercial real estate appraisals and related services that set up shop in Ridgeland in late 2013.

The local office says its data show the metro area is at last absorbing the space from over-building that occurred with the abundance of capital from the federal government’s post-Katrina tax-free Go-Zone bonds and the real estate stagnation in the last decade. With the combination of over-zealous use of Go-Zone money – a gulf coast recovery measure – and the subsequent recession, new office, retail and industrial-flex buildings stayed “vacant for years,” said John R. Praytor, senior managing director of Integra Realty’s Ridgeland office.

“We’re just now seeing a normalized vacancy rate” among the main commercial real estate sectors, added Praytor, who opened his first commercial real estate appraisal business in Jackson in 1992.

“I’m hoping it will come back to the levels of 2006.”

Praytor said his hope is based on the mid-year metro report finding that the commercial sectors are nearing equilibrium between supply and demand.

The good news from Integra’s metro report is that retail in the tri-counties market of Hinds, Madison and Rankin is in a second phase of recovery and industrial is in an initial phase of recovery. Lodging continues, however, to be mixed. Hotel construction near retail is the only new activity, the report noted.

Office is strong, it said, in the suburbs but showing a weak pulse in the Central Business District, for Class B and C at least.

Meanwhile, a midyear report prepared by Integra’s U.S. headquarters in New York says the nation’s commercial real estate market has come back at a pace that generally reflects the national economic recovery. The catch is that the real estate recovery is uneven as shown by a rapid rise in transaction volume, new developments and valuations, Integra’s national report warned.

Today, the increased capital flowing into real estate has led to too much money chasing too few deals, the national report concludes. This explains declines in capitalization rates – or value of a property based on estimated future operating income – from commercial real estate projects, the report said.

Jim Turner, a partner in Integra’s Ridgeland office, said the local Integra office has seen evidence of the dollars chasing deals with the “tremendous” amount of appraisal work and other services for national tenants such as Walgreens, CVS, Dollar General, NAPA Auto Parts and tire chains. These retailers are taking on triple net real estate spaces in which they assume maintenance costs and risks such as higher property taxes and property damage.

“It’s driving the cap rates down tremendously.” Turner said.

Capitalization rates that previously climbed to 11 percent have slid to 9 percent, according to Turner. “The demand for return is lower which indicates that the risk is lower,” he sid.

Metro Jackson is seeing significant money for new deals at the same time the market is trying to absorb the vacancies left over from the Go-Bond era.

As an indication of increased deal making, Praytor and Turner say they have done more appraisals in the past nine months than in the previous four years. Here are Integra’s snapshots of the office, retail, industrial and lodging sectors addressed in its metro report:

Office Market

Office vacancy is down and leasing rates stable throughout such submarkets as Colony Park, County Line Road and Lakeland Drive. They are in the first phase of a recovery.

Downtown, meanwhile, is in the third phase of recession as vacancy rates continue to be stagnant to rising and lease rates either stagnant or declining.

Office-Snapshot.pdf

Office Snapshot

Downtown Class A market does not share the  bleakness of the Central Business District’s Class B and C, with rents of $24 a square foot and vacancies of  only 15 percent. By contrast, Class B tallies rents of $16.50 a square foot and vacancies of 35 percent.

The Integra report categorizes downtown office buildings awaiting conversion to mixed use as Class C. “They are experiencing declining lease rates,” Praytor said.

The suburban market is benefitting from absorption of office space from the post-Katrina over-building and the absence of any new office construction since 2009. With that lift, Class A in the suburbs is getting $27 a square foot and enjoying a vacancy rate of 10 percent. Integra cites the 60-percent preleasing of the 120,000 square-foot, multi-tenant Baker Donelson building at the District at Eastover as a sign of the growing strength of the suburban Class A market. The building is slated for completion in the spring.

Class B’s lease rates averaged $19 a square foot through midyear and occupancies of 85 percent.

The suburban Class A market has reached a balance of supply and demand; Suburban Class B is a year away from balance.

Downtown’s Class A will take four years to gain the balance and Class B seven years.

“What the CDB doesn’t have,” Praytor said, “is places to live and shop.”

Retail Market

Some metro areas may still be in recession but overall most areas have entered the recovery phase, aided by the dearth of new retail construction since 2010. This will allow for faster absorption of vacant space.

Retail-Snapshot.pdf

Retail Snapshot

The report categorizes metro retail as regional mall, community retail and neighborhood retail.

Regional mall rents average $14 a square foot; community retail $17; and neighborhood retail at $12. Regional mall vacancies averaged 16 percent at midyear; community retail 12 percent; and neighborhood at 15 percent.  .

Each of the retail categories is one year away from balance.

“We have definitely seen it stabilize,” Praytor said of metro retail.

Further encouraging, “is that we have seen a lot of re-tenanting of second-generation space,” he said, referring to filling of vacancies left by the likes of Walgreens, CVS and other national retailers.

Industrial Market

Stabilization arrived during the past year and more recently a first phase of recovery began. “Market progress allows us to upgrade the Jackson industrial market from the third phase of a recession to the first phase of a recovery,” Integra’s metro report says.

New construction of flex industrial – typically a combination of office & industrial — is increasing throughout the metro market. But construction of other types of industrial space has been intermittent, a circumstance attributed to high inventories of vacant space.

Industrial-Snapshot.pdf

Industrial Snapshot

Class A industrial has drawn average rents of $7 a square foot and occupancies of 90 percent; Flex industrial has averaged $8 a square foot and occupancies of 91 percent.

Flex industrial is in balance and Class A a year away from balance.

Starting about 18 months ago, Integra’s Ridgeland office “started doing more build-to-suits than we have ever done before,” said Turner, who began doing commercial appraisals in the metro area early in the last decade.

Most of the build-to-suit work, Turner  said, has been for local companies, especially construction businesses that need space for both offices and equipment storage.

“We hadn’t done any of those since 2008 because so much was on the market from the Go-Zone” days, Turner said. “They built a ton of those.”

Lodging Market

Growth in the metro hotel market belongs to areas with substantial retail drawing power. Pearl’s Outlets of Mississippi, part of the Rankin County submarket, and the Township and Renaissance, part of the Madison/Ridgeland submarket, have seen the majority of metro lodging growth.

Full service hotels have averaged nightly rates of $150 and occupancies of 80 percent; Limited service hotels have averaged rates of $75 a night and occupancies of 65 percent.  All of these tallies are close to regional and national averages.

Lodging-Snapshot.pdf

Lodging Snapshot

Full service is in balance and limited service is two years from it.

“The limited service lodging market is projected to stabilize over the next 12 months, as new construction in most MSA areas has declined significantly over the past few years,” the local Integra report says.

The stabilization of limited service is “projected to show only a modest increase in value over the next three years, as new construction projects reach stabilized occupancy and new additions of inventory is limited,” Integra says.

Praytor said his office has seen a “big turnaround” in lodging the last 18 months. “Things are seeming a lot brighter,” he said. “Occupancy rates across most hotels are increasing.”

A demand not seen in “many years” is occurring, he added.

Class C hotels that once had occupancies in the low 20 percent now get rates of 40 percent to 60 percent, according to Praytor.

Turner said hotels in higher classes have brought average occupancies up from the 49 percent-to-60 percent range to a range of 65 percent to 70 percent.

About Ted Carter

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