Chances are you have read the stories in the news lately about the challenges facing Michigan, the City of Detroit, or more recently the state’s seventh largest city, Flint. Between the chronicles of a once ailing automotive industry, the Chapter 9 bankruptcy filing by the City of Detroit in 2013 — the largest municipal bankruptcy in history — and most recently lead-tainted city water in Flint, there have been dozens of national headlines, sharp sound bites, and a litany of negative press coverage over the past few years.
In short, over the past decade we have witnessed a roller coaster of economic events that have created a rather palpable investor stigma for Detroit and the State of Michigan as a whole.
Despite the negative tone surrounding investment opportunities in Michigan, the state’s strong commercial real estate market is creating value for investors acquiring retail assets. Historically, Michigan shopping centers have traded at cap rates 50 to 100 basis below their national peers. Is this discount still warranted?
Tide turns in Great Lakes
Kevin Baker, Landmark Investment Sales
As a brokerage firm dedicated to the sale of investment properties and retail tenant representation, Landmark Investment Sales and its parent company, Landmark Commercial Real Estate Services Inc., have been on the frontlines daily confronting the media sensationalism that, if left unchallenged, can shape the views of out-of-state investors and national retailers.
Routinely, our clients are pleasantly surprised with the performance of their Michigan acquisitions and new store openings. We have found that our investor clients are experiencing strong tenant demand and rent growth. What’s more, our retail clients are enjoying record store openings and strong sales across the board.
Low unemployment is key
One key indicator of Michigan’s comeback is job growth. Michigan’s unemployment rate in May stood at 4.7 percent, exactly the same as the national average. That’s a dramatic turnaround from a few years ago when Michigan had the highest unemployment rate in the nation (14.9 percent as of June 2009).
Now in its seventh consecutive year of economic recovery, Michigan businesses have created over 445,400 jobs in a six-year period, and that momentum has transitioned into a strong 2016 thus far. Michigan recorded one of the lowest unemployment rates in the Midwest in May. Indeed, the unemployment rate was 6.4 percent in Illinois and 5.1 percent in Ohio.
An average of 74,200 new jobs have been added each year, thanks in large part to roaring auto sales translating to over 18 million cars sold per year. As the major automakers transition into the next generation of electric and self-driving cars, every automotive supplier is investing heavily in research and development, which directly affects more stable and efficient manufacturing across the state.
The automotive sector is hardly the only bright spot in Michigan. According to The Bureau of Economic Analysis, the Grand Rapids metropolitan statistical area (MSA) was recently ranked third out of 373 regions in the nation for its strides in economic growth, trailing only Denver and Houston.
The Grand Rapids MSA is the second largest in the state with a population of nearly 1.4 million compared with 5.3 million for the Detroit MSA. Grand Rapids boasts a diverse economy, ranging from advanced manufacturing and information technology to medical healthcare and agribusiness.
Several of the largest privately owned companies in the nation, such as Meijer and Amway, are headquartered in Grand Rapids and continue to expand every year. It’s no wonder that the unemployment rate in Grand Rapids is a mere 3.3 percent.
Retailers are expanding
Similar to the national economy, steady job growth in Michigan has led retailers to capitalize on the increase in consumer confidence and spending.
Retailers are expanding at a feverish pace across the state. Our firm represents over 70 national retail accounts, and we have seen an overwhelming majority of these retailers actively seek new sites in Michigan. Frankly, the largest roadblock that stands in the way of new deals is the lack of available, quality space.
It is already challenging for retailers and tenant-rep brokers to find quality power center space that meets a retailer’s co-tenancy requirements. As a result, shopping center owners and developers are creatively repurposing existing space or expanding existing centers wherever it makes economic sense. However, signs show there is a shortage of available space in core regional markets.
Vacancy rates decline
According to real estate research firm CoStar Group, power center vacancy rates in metro Detroit have dropped to 6.2 percent, a level that has not been seen since before 2007. In addition, there has been practically no new shopping center construction over 50,000 square feet within the state, with a few exceptions involving projects that were heavily laden with incentives.
Don’t get me wrong, there has definitely been a construction boom focused on build-to-suit, single-tenant developments, as well as smaller (three- to four-tenant) strip centers that are well located in the best regional corridors. However, notwithstanding huge government incentives for new construction, power center development has not caught up with retailers’ demand for quality space in strong demographic markets across the country.
Supply and demand
The very first thing I learned in Economics 101 was — you guessed it — supply and demand. Naturally, you would think that low supply and high tenant demand would cause rent growth. This is exactly what we found when we researched our internal Landmark database of 210 closed lease transactions totaling over 3 million square feet since 2012 (see table). The transactions ranged in size from 5,000 square feet to 100,000 square feet.
Keep in mind that these numbers represent average net rents and do not take into account tenant improvement allowances, but the figures demonstrate a clear trend. It is evident that the declining supply and improved market fundamentals have caused rents to grow for several years, creating substantial upside for landlords and developers in Michigan’s retail arena.
— By Kevin Baker, principal, Landmark Investment Sales. This article originally appeared in the July 2016 issue of Heartland Real Estate Business.