By Brad Bailey, first vice president, CBRE; Adam Rabin, associate, CBRE; and Logan Reichle, vice president, CBRE
It’s no secret that across the United States, the retail investment community has had to shift and adapt in several ways due to the ongoing pandemic. In addition, retail owners have had to make quick assessments of their strategies for asset management, usually on a property-by-property basis.
For the first part of the pandemic, the commercial real estate industry was primarily reactive and in crisis mode. However, seven months into it, the indication is that this is something that will be around for the foreseeable future.
As such, investors are moving out of their reactive modes and beginning to implement offensive strategies to identify and secure strong retail real estate investments.
Brad Bailey, CBRE
There are a number of key reasons that these investors are honing in on Central Texas retail:
Suburban vs Downtown
Good retail locations are hard to come by in Austin. We estimate that investment demand will rebound for space recently vacated. In high-quality locations, don’t expect too much of a change on rental rates.
For some Austin submarkets like Cedar Park and Lakeway, we may see rates adjust slightly as vacancy rises. However, the suburbs may be the first to rebound with more employees working from home. Downtown may be a longer story. We can expect an immediate increase in vacancies caused by the lack of downtown
population and a work-from-home economy.
However, Austin’s CBD has been one of the most vibrant in Texas. Once tourism, events and businesses come back to downtown, expect a slow recovery until the newly developed office buildings are filled. Then downtown will shine again.
Job Growth
As of July 2020, according to the Texas Workforce Commission, the Austin MSA had an unemployment rate of 7.5 percent. This represents a strong rebound compared to the 11.4 percent unemployment rate reported in May.
Adam Rabin, CBRE
In addition, several companies have announced relocations or expansions in the market, creating more jobs. This job and market growth is creating massive demand for homes in the suburbs of Leander, Manor, Hutto, Kyle, Buda, San Marcos and Dripping Springs.
Where homes go, retail will ultimately follow. Few of these areas have adequate retail centers with restaurants, shops or services to meet the needs of their growing populations. Retail in many parts of Austin, unlike the rest of the country, is underserved.
Fundamentals
We expect retail rents and occupancies to slip in the second half of 2020 and to begin to recover during first part of 2021. We also suspect that the better-quality assets in high-demand locations will fill up within the first 12 to 18 months post-pandemic.
Technology, Universities & Army Futures Command
Austin was once thought of as a hippie town, but is now considered a hub of technology, ranking sixth in the country on CBRE’s Scoring Tech Talent report. Interstate 35 has been dubbed the “Innovation Corridor.” Apple, Oracle, Tesla, Google, Samsung, Dell, Indeed and Facebook all now have a significant presence in Austin. Within 30 miles, Central Texas is home to the University of Texas, Texas State University, St. Edward’s University, Huston-Tillotson University, Southwestern University and Austin Community College.
Logan Reichle, CBRE
The U.S. Army has headquartered its Futures Command in Austin. Austin is midway between Fort Hood and San Antonio’s Fort Sam Houston & Joint Base Bullis. All of these factors continue to drive Austin’s exponential growth and, in turn, the need for quality retail to serve the market.
Fringe Opportunities
With all the change we have seen in Austin and Central Texas, many investors may want to seek out opportunities in the path of progress or on the edge. We encourage many investors to review cities and opportunities on the I-35 corridor. Regionally, there are submarkets that provide unique investment opportunities that should all be explored.
Net-Leased vs. Multi-Tenant
Net-leased properties are the best sellers in today’s market. Most of the transactions in the summer of 2020 were 1031 exchange buyers that got caught in the pandemic. The IRS provided these buyers with a grace period until July 15. So we saw a flood of properties listed in late June to capitalize on this extension and garner 1031 buyers’ attention.
According to a recent CBRE report, investments on net-leased properties topped 20 percent of the total transaction volume in the United States. In a time of uncertainty, private capital seeks stability, credit and term. Austin saw a 68.5 percent increase in annual net-lease investments, some of the largest four-quarter percentage gains in the country.
The increase in activity and demand for triple-net investments shows that investors are seeking opportunities for low-yield investments with little risk. These buyers are also opting for better locations. Due to the increased demand, assets in high-quality locations in states with no income tax are pushing down cap rates.
Several buyers from other states have indicated a desire to invest in a growth market like Central Texas. These investors are tracking economic metrics and investing with those factors in mind. Other buyers can be viewed as value-add or opportunistic and are waiting for more problems to arise before they make offers or pursue assets. In the immediate Austin area, it may be harder to find these opportunities since out-of-market investors have different investment thresholds.
Lastly, we are seeing acquisitions of assets as either a change to a new market (for example, New York City or San Francisco to Austin) or new product type (retail to industrial). We expect that the low supply combined with the high demand for net-leased assets will continue to push cap rates down and prices up.
On the other hand, very few multi-tenant retail strip centers have sold so far this year. In fact, our research indicates that net-leased assets sold at a rate of 2-to-1 over shopping centers during the second quarter of 2020. Only a handful of properties have been listed since March. Many of those assets have been slow to sell due to the uncertainty with rents, the pandemic and tenants’ ability to reopen.
Unless investors can defend or support valid net operating income figures, we will continue to see softness in this asset class. Further complicating transactions are new underwriting guidelines imposed by banks to be more conservative. Vacancy factors, and reserve allowances will be calculated into transactions for the foreseeable future.
Despite the pandemic, retail investors are still high on the Austin and Central Texas market. Austin has proven a resilient market with a well-diversified economy in the past. As employment rebounds and companies continue to target the area for new headquarters or office spaces, bringing with them more jobs and employees, the area is well-poised for a shorter recovery path than many other U.S. retail markets.
— This article originally appeared in the September 2020 issue of Texas Real Estate Business magazine.