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This past year was an unusual time for investors in retail real estate, as COVID-19 created an uncertain and unprecedented landscape.
Despite the chaos wrought by the pandemic, the retail sector was fairly strong throughout the year, as limited supply combined with investor appetite led to substantial activity in retail investment properties in the D.C. area. Of course, the pandemic has left its mark on which type of retail is succeeding, and how landlords and tenants are approaching leasing.
Earlier this year, Chris Burnham joined KLNB, a real estate services firm and brokerage, as a principal.
Burnham, who specializes in the sale of retail shopping centers and single-tenant net leased assets, spoke with Commercial Observer about the retail landscape of the Capital region over this most unusual year, and what to expect in the next.
What is your philosophy concerning the retail sector in the Washington, D.C. region?
I am personally bullish on the retail sector in the Washington, D.C. region. Sales volume and interest in retail investments has increased substantially over the past 12 months. We are observing a limited amount of supply and absorbent amount of demand for retail investment properties and there is a historically high level of capital circulating in the market which has contributed to the supply and demand imbalance. This has caused cap rates across the retail sector to compress and values to increase.
What are some things driving the increase in value?
Some of the factors include low interest rates, proposed tax changes and the attractive return that certain retail assets offer, such as multi-tenant retail, compared to multifamily or industrial, which remains white hot. The low interest-rate climate has helped continue to drive investment activity across the commercial real estate sector but has pushed investors towards retail due to the attractive leveraged returns on certain multi-tenant retail assets.
If you follow the market closely, you will notice that more retailers are in expansion mode than usual. There has been an abundance of new leases signed and new retailers moving into the D.C. region. We expect this trend to continue into 2022 and it bodes well for the retail sector in the Washington, D.C. region. In all, the region is poised for more growth due to the strong underlying fundamentals of the market.
How did the pandemic influence or change the company’s thinking in any way?
Just like all asset classes, retail had its fair share of challenges during the pandemic. If anything, it accelerated the demise of retail concepts that were already struggling pre-pandemic. In a way, COVID strengthened retail and new concepts have been borne out of it. Grocery-anchored retail assets and essential single-tenant assets such as drugstores, quick-service restaurants, and gas station/convenience stores have exploded in growth and demand with both investors and lenders.
I believe the pandemic temporarily hurt urban areas and therefore urban retail, but due to the pent-up demand because of COVID, these areas continue to come back, and the activity can clearly be seen in all phases of commercial real estate development throughout the Washington, D.C. region.
What changes have you had to make in the post-COVID world on the leasing front?
When advising a client on an acquisition, disposition or just the state of their asset, looking at each tenant in detail and understanding their business is critical to the overall value of the asset. In addition, tenants’ sales have always been important to an asset’s value or the overall sale, but this has been even more of a major focus of both investors and lenders during the post-COVID world.
What interested you about joining the firm?
It is important to note that a big reason for me to join KLNB was because of their retail leasing dominance in the D.C. and mid-Atlantic region. Retail sales and retail leasing have become interwoven more now than ever based on the fast-changing retail climate. A big part of my job is advising clients on their retail assets and being able to add a strong leasing broker or team to the equation will enable me and KLNB to add more value to our clients.
What areas are looking strong currently and what is experiencing some downturn?
For multi-tenant [assets], grocery-anchored shopping centers, neighborhood strip centers and credit tenant strip centers; for single-tenant, quick-service restaurants, or QSR assets, drugstores, medical retail such as urgent cares and convenience/gas stations to name a few.
On the single-tenant side, the sit-down restaurant category was challenged but is making a comeback. Investors view this category as a yield play and certain tenants are performing well, making it a relatively safe investment. Of course, real estate fundamentals and sales play a big part in these acquisitions or dispositions. Multi-tenant retail that has been hurt would be secondary and tertiary multi-tenant assets that had tenants that were more susceptible to the pandemic. Again, most assets and tenants have rebounded from this “downturn” but still have higher yields due to the perceived risk that the pandemic has cast over these properties.
What challenges currently exist for investors?
For capital looking to be placed, the amount of inventory has been a challenge. While inventory has grown through Q3 and Q4, there is still more demand than supply of assets in the Washington, D.C. region and mid-Atlantic.
What do you foresee as the big trends in the D.C. region in 2022?
Investors are optimistic on retail, both anchored and unanchored strip centers based on comparative return to other asset classes. Single tenants nationally, and in the D.C. area, are highly sought after because of the security and reliable income stream that these assets offer.
There’s plenty of capital chasing deals; numerous “new buyers” in the market in combination with your well-known and/or institutional investors will continue to be active.
Low interest rates continue to drive investment activity across the commercial real estate sector but will continue to push investors towards retail due to the attractive leveraged returns. Investors are still weary of some single-tenant concepts, such as sit-down restaurants. However, we have even seen investment activity, and pricing will continue to rebound here.
How would you characterize the year we just had?
For a majority of 2020, the retail investment sales market was slow, specially on the multi-tenant investment sales front. Both single-tenant and multi-tenant sales started to pick up towards the end of 2020. If you look at the numbers, a bulk of transaction activity occurred in the fourth quarter of 2020, or December of that year. Since then, the market has really picked up steam, values have increased, and demand has skyrocketed for all retail assets.
In addition, most tenants and landlords worked through deferred rent and have cleaned up their accounts-receivable balances, making assets more deliverable throughout 2021. Lenders were beginning to become aggressive for retail towards the end of 2020 and this trend has continued into 2021. Over the past year, we have seen cap rate compression for most of the retail sector, both single-tenant and multi-tenant. As mentioned, we have seen investor demand increase but supply has not increased in lockstep. This is one reason for the cap-rate compression we have observed. Over the summer, inventory began to tick up but competition has remained fierce, keeping a healthy market in place.
Keith Loria can be reached at Kloria@commercialobserver.com.
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