Economy and Environment and Real Estate & Retail

Strip centers feeling sting of housing market slump: Developers cutting back on new retail projects

August 18, 2008

Those ubiquitous retail strip centers are beginning to wither under a housing slump that has cast a dark cloud over much of the U.S economy.

Heavily dependent on new-home construction, strip-center developments have been hurt by tough residential real estate conditions that have spread into the commercial arena and dampened retail activity.

Nationally, the volume of strip-center investment transactions is down 77 percent from a year ago, according to a June commercial report from the Chicago-based National Association of Realtors. The report noted that "concerns about trends in consumer spending are restraining retail transaction activity."

Local strip-center developers are feeling the pain as well. The credit crunch and a slowdown in expansion for retailers led Williams Realty Group to stop building new projects and attempt to unload several of its properties. Likewise, locally based Street Corner Group hasn't developed a strip center in a year and instead is shifting its attention to hotel development.

The reason: Retail follows rooftops, said Eric Hillenbrand, a leasing agent at locally based Sitehawk Retail Real Estate. "You need to have a customer base as a reason to have a dry cleaner or a Dunkin' Donuts, or whatever you're going to put in," he said.

Developing a retail project on a speculative basis-meaning without any signed tenants-is particularly difficult in the current market, Hillenbrand said.

Struggling with occupancy

Indeed, a few of Williams Realty's spec centers have sat mostly vacant, including Olive Branch Parke at State Road 135 and Olive Branch Road in Greenwood and Clover Creek Commons at State Road 37 and Pleasant Street in Noblesville.

Street Corner Group, meanwhile, is working to finish the leasing of about a half-dozen projects, including Franklin Point on the southeast side, Regal Valley Commons in Lafayette, and Boone Crossing near Duke Realty Corp.'s mixed-use Anson development in Boone County.

In addition to tightening credit markets, Street Corner Group President Jack Moran pointed to rising construction costs the company couldn't pass on to tenants as another factor.

"It's kind of a double-whammy," he said.

At Duke's Anson project, its 38,400-square-foot Marketplace along State Road 334 and Interstate 65 sits half empty. A decision by home appliance retailer Lowe's Cos. to delay construction until this year on a store that will anchor the Marketplace, rather than KB Homes' decision to pull out of the mixed-use development, tempered tenant interest, said Tom Dickey, Duke's vice president and general manager of Anson.

The Lowe's store set to open in November brought three new lease signings earlier this month that will push occupancy over 50 percent. Dickey expects the center to be fully leased early next year.

In the meantime, local home builder Hanson & Horn Group Inc. has replaced KB Homes. On top of that, Duke has attracted New Jersey-based Medco Health Solutions and Amazon.com, which will help to employ more than 4,000 people there within the next few years.

In the current economy, traditional strip center development is difficult, Dickey acknowledged. But the Marketplace's inclusion in a bigger mixed-use project makes it an easier sell.

"We're getting retailers to commit and come to the project in a down economy, when their numbers might not work out now," he said. "But they want to get their spot."

Retail brokers say a smaller developer with less capital could not wait as long as Duke to fill the center. Yet, Duke has the advantage of building in an attractive and growing location, which is even more critical to success these days.

Strip centers aren't the only retail developments struggling in a tough environment. Big centers are vulnerable, too.

The 950,000-square-foot Hamilton Town Center, which opened in May near the Exit 10 interchange off Interstate 69 in Hamilton County, is only 79-percent occupied, below analysts' expectations.

The center was co-developed by Gershman Brown Crowley Inc. and Simon Property Group Inc.

In a conference call with analysts, Simon President and COO Richard Sokolov said the company is not "completely dissatisfied" and expects the figure to climb to at least 90 percent within the year.

"It's not a big transaction for us," he said in the call. "So, it's getting the returns we thought it would get."

Location still key

Strip-center developments aren't about to dry up altogether, retail brokers maintain. Good site selection and the proper tenant mix now are more important than ever.

High gas prices are cutting into consumer spending and causing several retailers to rein in expansion plans. Fast-casual restaurants such as Paradise Bakery and Bajio Mexican Grill, for instance, still are making deals, said Nick Wright, a broker at Midland Atlantic Properties.

"Obviously, $4 cups of coffee have gone by the wayside," he said in reference to Starbucks' decision to close 600 stores nationwide, including at least 10 locally. Scores of those are in strip centers in which owners will need to find new tenants.

The local brokerage and developer instead is "thriving" on discount retailers such as Dollar General, Supercuts and Subway, Wright said.

Well-positioned properties at key intersections indeed continue to lease well, said Bill French, a senior vice president and retail expert with the local office of St. Louis-based Colliers Turley Martin Tucker.

For example, he expects two soon-toopen retail projects in Fishers-one by Carmel-based Thompson Thrift at 116th Street and Olio Road and one by locally based HDG Mansur Properties Inc. at 116th Street and Hoosier Road-to do well because they are prime sites in hightraffic areas.

However, "where developers picked secondary sites that lacked visibility and strong access, those developers are feeling an immense amount of pressure," French said. In down economic cycles, "there is more scrutiny in site selection."

No one may have learned that lesson better than Williams Realty. But at least one broker said part of its problems stemmed from its problematic entrance into the residential market. The developer closed its custom-home-building operation, DayMarc Homes, earlier this year.
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