CITY HIGHLIGHT, AUGUST 2005

DETROIT CITY HIGHLIGHTS
Thomas Hart, Stephen R. Chaben, Jon Savoy

Detroit Office Market

The metropolitan Detroit office market appears to be in a holding pattern. Overall vacancies have been relatively flat, hovering near 16 percent for all classes as far back as the second quarter of last year. Consolidations and cost cutting at the Big Three automakers and their major suppliers, such as Delphi Automotive, Lear Corporation and Visteon, continue to add uncertainty to the market.

Net absorption year to date stands at just a little less than 900,000 square feet. Although the amount of vacant space has not changed much in the first half of the year, activity has increased. Tenants are using this opportunity to upgrade in property class or lock in current lower rental rates for the long term through early renewals.

Average asking rental rates for Class A properties showed a slight uptick to $23.12 from $22.90 at year end 2004. Rates for all classes remained virtually unchanged at $20.82 vs. $20.80 at year end 2004. Class B properties had a decline in rate from $19.81 at the end of the first quarter of this year to $19.62 in the second quarter.

Of the ten major Detroit submarkets, seven have shown positive absorption this year. The Troy and Southfield submarkets are first and second with the city of Detroit in third. Two of the remaining three are showing only slight negative absorption, which is due to new construction of build-to-suit facilities for tenants that are vacating their current space in those markets.  Efforts to revitalize the CBD have resulted in several major projects which when combined with favorable lease rates have helped retain existing tenants and attract new tenants. Most recently, Redico Management broke ground on a new $54 million, 225,000-square-foot, ten-story, multi-tenant office tower after securing two anchor tenants who have committed to leasing 155,000 square feet.

The Detroit office market has experienced several large transactions this year. Blue Care Network leased 180,000 square feet in the Allied Center, law firm Kitch, Drutchas moved into 54,000 square feet at One Woodward Ave, the Detroit Federation of Teachers leased 46,000 square feet in the New Center area and Ernst & Young recently agreed to take 55,000 square feet on the top two floors of the Redico project.

Construction activity continues cautiously. Two projects delivered earlier this year were MAV Developments, South State Commons, a 130,000-square-foot facility which is now 96 percent leased, and the Dearborn Medical Office Building, a 110,000-square-foot building developed by Dearborn Real Estate, which is now 75 percent occupied. Two speculative projects, Dow Construction’s 110,000-square-foot Beck Business Center and Kojaian Properties’ 200,000-square-foot Earhart Corporate Center, are underway yet remain empty. While most build-to-suits have been of a smaller nature several large developments have been recently announced. The U.S. Postal Service has pre-leased 800,000 square feet in a new facility to be built in Pontiac and Toyota Motor Corporartion is expanding its North American research center in York Township near Ann Arbor.

It is widely believed that the market may have bottomed out. While it is still a tenants market, many landlords are reporting a pullback in the amount and frequency of concessions being offered.

— Thomas Hart is a sales associate in the office division of Southfield, Mich.-based Insite Commercial Group.

Detroit Retail Market

With the local economy projected to recover by year end after four years of recession, Detroit’s retail market is expected to fair well this year. While retail construction remains on the rise, tenant demand, especially in the metro’s thriving suburbs, will keep vacancy in check. In addition, dollar volume for large-ticket assets will remain robust as institutions continue to seek acquisitions in the Detroit metropolitan area.

There’s good news on the economic front as forecasts call for Detroit’s economy to start showing signs of recovery by year end. The employment base is expected to expand 0.8 percent this year, led by gains in professional and business services, along with education and health services. In total, local employers are expected to add 17,000 new positions by year end. While the gain is modest, the return of employment growth will help lift retail sales by 1.8 percent.

In addition, developers are on track to deliver 2.4 million square feet of retail space this year, up from 1.5 million square feet last year. Although there are several community and neighborhood centers planned or under way, expanding big-box discount and supermarket chains will occupy more than half of the square footage being delivered this year.

Strong tenant demand is keeping threats from rising construction in check, however. Overall vacancy has posted mild improvement to date and is expected to end the year at 8 percent, down 20 basis points from last year, showing the first improvement in two years. Retailers looking for opportunities to expand are increasingly attracted to the area’s new developments. With demand for space rising, owners will be able to increase asking rents 2.4 percent by year end to $16.39 per square foot, the greatest rate increase in five years.

Investor interest in single-tenant net-lease properties remains strong in Detroit despite a limited inventory.  During the first quarter of 2005, the median price registered $123 per square foot, nearly equivalent to the median price for 2004. Prices for full-service and fast-food restaurants are well above the marketwide median, with a Big Boy in Flat Iron selling for $327 per square foot and a locally tenanted fast-food restaurant in Burton closing at $645 per square foot. Freestanding properties accounted for nearly 60 percent of the total number of single-tenant transactions closed during the past 12 months and traded at a median price of $120 per square foot.

Similarly, multi-tenant properties remain hot in Detroit and have gained in popularity among both private and public investors. With demand exceeding supply, transaction velocity has moderated and prices have surged. Strip centers continue to be a popular investment, with the median price increasing 43 percent to $106 per square foot during the past 12 months. Quality assets in the most desirable locations can capture prices of $200 per square foot. Finally, REITs and institutions continue to be active in Detroit and are driving up multi-tenant dollar volume, with one recent institutional venture closing at approximately $180 million.

Detroit Industrial Market

The current Detroit industrial market is showing signs of improvement. However, the recent announcement that General Motors plans to cut 25,000 jobs could hurt the market in the coming quarters.

Despite the fact that lease rental rates have remained relatively steady from the fourth quarter of last year through the first quarter of this year, landlords are continuing to offer concession/incentive packages in the form of free rent and graduated lease rates to tenants. In addition, the continued outsourcing of manufacturing jobs to foreign markets has shifted the focus of industrial tenants and landlords from manufacturing towards warehousing and distribution. While interest rates continue to remain low, from a historical perspective, developers and new build-to-suit projects continue to hover near communities offering tax abatement and other incentives such as Brownfield Redevelopment sites, TIFA districts, etc. Currently, the metropolitan Detroit industrial market vacancy rate is near 12 percent with average rental rates ranging from $3.50 to $6.95 per square foot.

Recent developments in this market could help curtail the potential adverse effects of General Motor’s continued cost-cutting efforts with respect to the overall metropolitan Detroit industrial market by fostering new growth and demand/development for industrial space. For example, Toyota Motor Corporation’ has proposed a 690-acre, $150 million investment to expand its North American technical center located just outside of Ann Arbor. Aisin World Corporation of Japan-based Aisin Seiki Company recently broke ground on its 800-acre proving ground and test track located in Handy Township. The research and development facility will provide test tracks and a 24,000-square-foot technical center for data collection and analysis. Aisin is a supplier of automotive components for Honda, Nissan and Toyota. Meridian Automotive Systems also recently broke ground on its $43 million, 250,000-square-foot manufacturing facility located in Fowlerville.

The outlook for 2005 is cautiously optimistic. Leasing activity should remain strong in certain industrial segments and rental rates may escalate slightly while landlord concession packages decline. In the third quarter, keep an eye out for logistics, warehousing and packaging operations as they continue to expand near interchange locations, specifically near the Detroit Metropolitan Airport. This area is a prime candidate for development since there is an ample supply of vacant land.

— Jon Savoy, CCIM, SIOR, is president of Lee & Associates – Detroit.



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