Scott G. Hook, Coldwell Banker Commercial Alliance
There are many opportunities for Orange County tenants and landlords in this ever-evolving region of more than 3 million residents. The county’s unemployment rate was 6.2 percent in 2013, compared to the nationwide rate of 7.3 percent. Homeowners have also prospered over the past two years as Orange County home values rose a whopping 25.8 percent on average in 2013. The median home price is a stout $560,000 and climbing. What does this spell? Opportunity – for businesses, jobs and investors.
Tenants are back full throttle with expansion plans for the Southern California basin. The big issue tenants and developers will have to face is a lack of available entitled land where they can construct and occupy a retail strip center or single-tenant restaurant. Tight governmental regulation and healthy city development fee structures can drive the costs of development too high, thereby stunting development growth. Conversely, if you currently own property, the prospects for continued yield growth are promising due to the lack of supply and a global “uber appetite” to own California commercial real estate.
We will see a tremendous transition of generational wealth over the next five years, the magnitude of which we have not seen before. This year should bring about the most stringent development regulations ever imposed, the highest fee structures, and the elevated federal and state income and business taxes. The Golden State is a little tarnished in respect to the hurdles to achieve success in the current California business climate.
With the Baby Boomers continuing to gracefully age, we now have commercial property portfolios that are being realigned for ease of transition to the next generation. The majority of folks have an affinity for retail and shopping. Lease terms in multi-tenant centers typically range from five to 10 years, while the conservative preservation of wealth, or single-tenant, net lease product, ranges from 10 to 20 years. Though property expenses for retail properties are reimbursed by the tenants through triple-net expenses, we are seeing far less commercial land entitled to construct retail buildings, unless it’s part of a master-planned community.
Cities like Irvine and Mission Viejo have a limited supply of retail (and, thus, below-average vacancy rates of 2 percent to 3 percent). Incomes are high, with an average household income close to $150,000 in these highly desirable South Orange County communities. Home prices are also less than half as expensive as those in coastal cities such as Newport Beach and Laguna Beach. These fundamentals have resulted in tenants with healthy sales volumes due to a lack of supply and an above-average “net spendable income” when compared to any other city in California.
The clever investor has realized this dynamic will not change in the near term. The tremendous inflow of global capital into Southern California is also focused on acquiring companies and commercial real estate as tangible assets. In other words, Class A retail properties in development-constrained sections of OC are hot commodities! The global investors on this wave are looking to exit politically or economically tumultuous regions for the safety and steady “Arm of America.”
Investors are cashing in with currency buying power, seeking increasing yields in retail properties with rental escalations. The migration of students over the past 10 to 20 years from foreign countries to attend American universities has impacted business and investment growth in many positive aspects. Foreign firms continue to expand into the U.S. The employees of the migrated firms seek housing, consumer goods, retail and services. Entire communities are often conceived by these major shifts of corporations that choose to expand their facilities into Southern California. The area’s distribution channels, combined with Southern California’s proximity to Asia and Central America, bodes very well for the shopping center and retail property investor. As the population continues to expand in a limited amount of space, retailers will produce increased sales, and landlords will be able to garner increased cash flow. Due to the economic diversity and stability of California, not to mention its generous geographical position on the globe, capitalization rates will continue to push lower in comparison to other regions in the country.
Therefore, when Orange County registers capitalization rates on retail centers in Lake Forest at 4.8 percent, Costa Mesa for 4.5 percent, Aliso Viejo for 5 percent, Mission Viejo for 5.25 percent, this barometer is pointing to one distinct point…investing in Orange County retail is a good idea for both the near- and long-term.
By Scott G. Hook, Executive Vice President, Coldwell Banker Commercial Alliance in Irvine. This article originally appeared in the January 2015 issue of Western Real Estate Business magazine.