As we approach 2003, greater Cleveland is facing economic and demographic challenges that are significantly impacting the commercial real estate markets. The combination of minimal population growth with the economic downturn has negatively affected occupancy levels and certain property values.

Multifamily

On the multifamily front, construction levels continue to be low. New developments are occurring in downtown Cleveland in areas such as in the Flats (Stonebridge), on the Lakefront (Quay 55), in the Warehouse District (Marshall Place and Bingham Building) and several other locations. Some of the construction has been new, mostly by local developers, but the majority has been the conversions of former warehouse, office or retail buildings to housing. Demand has increased for downtown housing with the city of Cleveland’s encouragement. Vacancy rates downtown have increased slightly.

Suburban construction continues to be limited due to land availability and zoning issues. Twinsburg, Avon, Elyria, Brunswick, Sagamore Hills and Coventry Township all experienced an increase in new construction. Vacancies in the suburbs also increased slightly, pushed by economic conditions, not an oversupply of units. Low interest rate loans for residential housing provided renters with an opportunity to acquire homes. Job loss has resulted in more roommates. All of those factors have raised vacancies. Good news is that the rental rates have been increasing slightly to overcome the increase in expenses to accommodate hikes in utility and insurance costs.

Sales activity in the multifamily market continues to lead other product types in the Cleveland area. There has been a larger than normal number of Class A multifamily offerings taking advantage of low interest rates. Smaller properties have also been selling, but in numbers far short of the investors’ demands.

Office

Cleveland’s downtown and suburban office markets suffered in the soft market. It may be several years before the markets reverse rising vacancies and reduced rental rates.

The vacancy rate in Cleveland’s downtown market has risen to 14.36 percent from 11.55 percent 1 year ago, and quoted rental rates have declined to $18.72 per square foot from $19.26 per square foot 1 year ago. Additionally, for the first time in recorded history, the downtown market is reporting a negative net absorption. The combination of mergers, industry consolidations, economic pressure and bankruptcies sent demand plummeting.

With the exception of the new Federal Courthouse project, there has been no new multi-tenant construction in downtown Cleveland in more than a decade. As a result of the 800,000-square-foot courthouse’s opening, more than 400,000 square feet of vacant space is being added to the market as federal agency offices relocate to the new facility.

The vacancy rate for Cleveland’s suburban market topped out at 19.51 percent in September. Despite the excess amount of vacant space, owners/landlords are reluctant to lower rental rates. Currently averaging $18.45 per square foot, quoted rental rates remain unchanged from last year’s average of $18.46. Consistent with the downtown market, owners/landlords are offering concessions of free rent and tenant improvement allowances to induce tenant commitment.

The overall performance of the suburban office market has forced developers to take the “wait and see” approach to new construction. While 1.3 million square feet of product is planned, less than 300,000 square feet of new construction has been completed this year. Of the 263,000 square feet of space currently under construction, 230,000 square feet is expected to be completed by year’s end.
The vitality of Cleveland’s office market appears dismal with recovery several years away. In the meantime, tenants remain cautious and reluctant to make commitments in the uncertain economy.

Industrial

The industrial market has been flat in overall activity. Vacancy in third quarter 2002 reached 10.23 percent, the highest figure in 10 years. Small properties, in the range of 3,000 to 20,000 square feet, experienced the greatest demand while averaging a low vacancy of 6.76 percent and asking rate of $4.91 per square foot. Buildings larger than 100,000 square feet have a combined vacancy rate of 10.4 percent and account for 56.5 percent of the total available space in the market. The underlying economic uncertainty present in the U.S. has increased month-to-month tenants and 1-year leases. Quoted industrial rental rates have dropped. The increase in tenant concessions has caused effective rates to drop by more than 20 percent during the past year. Although development has been slower in the stagnant market, larger industrial developers such as Duke Realty Corporation, Geis Companies and Ray Fogg Corporate Properties continue to be active, primarily in the southeast and southwest submarkets.

A shift that has been taking place in the Cleveland market has been the phasing out of manufacturing, due in part to the manufacturing base’s migration to Mexico. Service-based wholesale is on the rise in Cleveland, evident in the 1 million square feet of warehouse and distribution space planned for next year.

Retail

The overall vacancy rate for all shopping centers in northeastern Ohio increased to more than 10 percent versus the prior year’s figure of 9.2 percent. The bankruptcy and closure of numerous Ames and Kmart locations caused an increase in big box vacancy, on top of growing small shop vacancy.

Conversely, new development in Cleveland is occurring in affluent areas in the form of lifestyle centers, while the underserved markets continue development as sites become available.

There are four lifestyle centers currently planned: First Interstate’s Legacy Village in Lyndhurst; a new and expanded Eton Collection, developed by Robert L. Stark Enterprises in Woodmere Village; Crocker Park, developed by Robert L. Stark Enterprises in Westlake; and The Shoppes at River Edge, developed by CenterPoint Properties in Lakewood, all of which are fueled by a number of upscale tenants. Legacy Village, Crocker Park and Eton are under construction, while The Shoppes at River’s Edge is pending approval by Lakewood, anticipated to happen this year.

With the introduction of the lifestyle center, some significant tenants are debuting in the market. The list includes The Cheesecake Factory, Crate & Barrel, Anthropologie, Pottery Barn Kids, Brio, Z Gallerie and California Pizza Kitchen. Legacy Village will welcome The Home Depot’s upscale design store, Expo, next year. The only new department store to come to Cleveland will be Von Maur in Crocker Park.

In addition to the lifestyle center, the market continues to add to membership or wholesale club retailers. Costco, reported to be the national leader within that category, recently opened its first northeast Ohio location in Mayfield Heights with a second scheduled to open in Avon early next year.

David M. Browning is managing director of CB Richard Ellis, Inc. in Cleveland, Ohio.

 

CLEVELAND HAS UNIQUE OPPORTUNITIES Jim Breen, president of Breen & Fox, has an optimistic view of the Cleveland market. “I think we’re in a situation where there are going to be a few unique opportunities to pick up properties well below replacement cost,” he says. Breen & Fox has been making some opportunistic buys of its own. The firm recently purchased the IMG Center, a 460,000-square-foot building in downtown Cleveland. The company is actively looking at a 950,000-square-foot mixed-use building. Breen & Fox would purchase the property with a joint venture partner. As for the high vacancy rates that have caused many companies to remain stagnant, Breen sees the situation from a different perspective. “If you look at our vacancy rates today, they are still significantly below the low rates of the early ‘90s,” says Breen. “In my view, while the market is still seeing a fair amount of concessions, you won’t see the blood bath you saw in 1991.” There are a few reasons for this. In the last 10 years, 4 million to 5 million square feet of Class C space was converted to residential. This helped shore up the lower-end market. “I think that in the next few years, 1 million to 2 million square feet of Class C space will be converted to residential,” Breen says. Second, although Cleveland’s suburbs will start to see new construction activity soon, downtown won’t see new construction for the next 3 to 5 years. “Already factoring in the negative absorption of the Federal Courthouse, I predict 400,000 square feet of positive absorption in downtown in 2003, which will go a long way toward tightening the market.” - Julie Fritz