CITY HIGHLIGHT, DECEMBER 2009

CLEVELAND CITY HIGHLIGHTS
Chris Seelig, Joseph Martanovic, Gary Cooper, Graig Kluge, Victor Voinovich, Robert Nosal

Cleveland Retail Market

With little demand for new retail space and even less money to fund new development, developers and owners have been focused on improvements at existing properties, tenant retention and strategic redevelopment. Westfield has plans to relocate the food court at Great Northern Mall in North Olmsted, Ohio, to allow for a new anchor and restaurant space with exterior entrances, which continues with the trend of turning malls inside out. In Solon, Giant Eagle has won a rezoning effort to replace its store at Solar Shopping Center with a new 99,000-square-foot store and Getgo fuel station. The remainder of the center is slated to undergo a complete redevelopment as well. Giant Eagle has also replaced its stores at Southland Shopping Center in Middleburgh Heights and the Day Drive location in Parma with new larger prototypes. Coral Company has revised its development agreement with the city of South Euclid to allow for the Cedar Center North redevelopment project to be completed in phases, with leasing for the all-retail first phase currently under way.

The largest retail development in the Cleveland market is Visconsi Companies’ Plaza at Southpark in Strongsville, which has just opened with Costco, Bed, Bath & Beyond and Best Buy as anchors. Small space and junior anchor space are still available. Plaza at Southpark will continue to bring retailers to focus on Royalton Road in Strongsville and add to the stress on occupancy rates of the older retail centers in the southwest suburbs.

The city of Avon in Lorain County and Beachwood on Cleveland’s eastside remains very active, compared to the rest of the Cleveland market. The Avon market is driven predominately by suburban flight from western Cuyahoga County. In Avon, Canton-based Deville Development is well under way with its City Center project, which will include a new Marc’s grocery store, Chipotle and AT&T.

In Beachwood, the activity is centered in Chagrin Highlands with University Hospital’s Ahuja Medical Center and the development of a more than 50-acre new global headquarters for Eaton Corporation. Chagrin Highlands will be home to Cleveland’s first Lifetime Fitness, which is slated to open soon.

Developers, for the most part, are not active in Cleveland with new projects. There is little demand for any large retail projects, and program developers are mostly on the sidelines due to the inability to secure financing. Cleveland is, of course, home to many sizable developers, such as Developers Diversified Realty, Zaremba Group, The Richard E. Jacobs Group, First Interstate and Visconsi Companies, but none of these companies are actively marketing any significant new proposed retail projects in the Cleveland area.

Vacancy rates have increased to 8.1 percent from 7.2 percent a year ago with negative net absorption of more than 1 million square feet in the past year, according to CoStar. Average rental rates are off just more than 4 percent from last year, although that may be a little misleading due to the significant reduction in leasing velocity in the market. Rates will have to come down further for leasing velocity to come back up to more traditional volumes.

For future development, downtown Cleveland is the market to watch. It’s positioned to capitalize on several large-scale developments planned or under way, including the mixed-use Flats East Bank project, a new convention center and medical mark, and a planned casino across from Quicken Loans Arena.

— Chris Seelig is senior vice president of retail services with NAI Daus’ Cleveland office.

Cleveland Industrial Market

With the Cleveland industrial market being one of the largest markets in the United States, it may be surprising that it is continuing to fare relatively well throughout the current economy. The market has always had a solid stability – even in such difficult times – that many other cities do not experience. 

The market has a foundation of corporate real estate activity, but it is currently experiencing the decreases from the trepidation of companies’ development plans, which is also playing out across the country and world. Even if a company is resolute on immediate development and acquisition plans, the financial backing is still not readily available for most projects.

Although build-to-suit and other development activity is down, the market is not flooded with vacant properties, as the overall vacancy rate is still lower than 8 percent, which proves that the market was, and is, fairly well balanced. Development that is happening is focused around cities and municipalities that are eager to embrace business by offering tax abatements and other pro-business incentives. Within the last 18 months, a few large, multi-tenant distribution centers have come online in the Glenwillow area, but absorption is still slow. As such, developers are making concessions and dropping prices as seen in many other markets across the country.

On the leasing front, deals are being done but at a low velocity. Due to the cautiousness of the players, deals are taking longer than even before to reach completion. Some corporations are looking, but it’s sometimes difficult to determine if the companies are window shopping or have an immediate need. Lease rates are ranging anywhere from $2.00 to $4.50 per square foot depending on the type, age and functionality of the real estate property.

Much of this turmoil and slowdown is due to an overall denial in the market. Since the 1970s, many people thought real estate would continually escalate in value. Such notions caused many investors to over leverage and never entertain the idea that they may be faced with a downturn in the market. As the market was skyrocketing for so long, many people were not aware of the duration of time it takes for properties to build and maintain value. This realization may be causing many landlords and owners to question the market and try to dump holdings as quickly as possible.

On the activity horizon, any submarkets that are actively embracing businesses will continue to receive notice and new development activity. Businesses are always going to be attracted to cities and markets where they are embraced with financial incentives. A few cities to keep on eye on are Glenwillow, Solon, Twinsburg, Streetsboro and Aurora.

— Joseph Martanovic is senior vice president of the industrial services division of Cleveland-based Colliers Ostendorf-Morris.

Cleveland Multifamily Market

Much like the rest of the country, the greater Cleveland metro area has not been spared from the dearth of available financing, which has virtually stopped all development and sales in the multifamily market. Only two transactions have occurred within the past year, and no properties valued at more than $2 million closed in the second quarter of 2009, according to Real Capital Analytics. The Cleveland region has not experienced some of the stratospheric highs of other areas of the country, but it has not been hit as hard with the lows. It has been a much more stable market with incremental growth over the last decade, providing solid cash returns for well-positioned investors.

The Cleveland region has been especially hard hit by manufacturing layoffs, shop closings and business failures, leading to payroll attrition at a 56,100 job pace in the second quarter, perhaps the worst conditions since the 1930s (Source: Red Capital Group Market Overview, Cleveland, Ohio, August 2009). On the flip side, a very limited amount of new development has hit the market with available units, helping to keep a lid on vacancy rates.

The overall average second quarter vacancy rate for the metropolitan area was 6.7 percent, according to Reis Inc., which corresponded to a rise of 160 basis points from the same period in 2008. At the same time effective rents fell 0.6 percent year-over-year change to $697 per month. With the heavy job losses in the region, Reis projects that effective rents will drop by an additional 2 percent to $638 by year end.

One particular development project that has been in the pipeline is the Residences at 668 by the K&D Group. The project entails a 240-unit substantial rehab complex within the heart of downtown Cleveland, and pre-leasing has been very strong as the complex will gain its final certification of occupancy by early 2010 (Source: Reis Inc./K&D Group Inc.). The units will be furnished with stainless steel appliances, washers and dryers, granite countertops and porcelain tile floors. Another substantial rehab project being developed in downtown Cleveland is Niederst Interests’ University Suites, a 150-unit luxury student housing project on the fringe of the Cleveland State University campus. The near-complete project will feature granite countertops and bathrooms, state-of-the-art fitness and recreation rooms and commercial space that will include a coffee shop.

A bright spot in the city of Cleveland that has experienced stable job growth is the University Circle area, located about 6 miles east of downtown Cleveland and encompassing Case Western Reserve University, the Cleveland Museum of Art, Severance Hall, the Natural History Museum, University Hospital and portions of the Cleveland Clinic. This employment growth has helped maintain a stable rental base for the surrounding suburbs and neighborhoods and limited the repercussions of the economic downturn on the multifamily sector.

Another area that has maintained a solid rental base is the Beachwood/Interstate 271 Corridor. Supported by new commercial construction at the Chagrin Highlands area, the corridor has experienced an incredibly low vacancy rate of 3.8 percent with an effective rental rate of $1,104 per month (Source: Reis Inc.). This area will only experience greater increases in rents and lower vacancies with the arrival of Eaton Corporation, a Fortune 500 company that will be moving to a new development within the near future.

The overall Cleveland metro market has suffered from the same problems and issues facing many metropolitan areas across the country. The highs were not as great as other areas, so the fall has not been as pronounced as the city continues to remain on a relatively even keel. However, recovery will likely be at a much slower pace than other metro areas, and even owners that buy assets at distressed levels will not see significant appreciation but will obtain a consistent, above-average cash return.

— Gary Cooper is CEO of Cleveland-based CN Management, Graig Kluge is general manager of Euclid, Ohio-based IHSC CN Management and Victor Voinovich is managing director of Sperry Van Ness’ Cleveland office.

Cleveland Office Market

The malaise in the Northeast Ohio economy continued throughout 2009, forcing some companies to consolidate, downsize or close their doors, and pushing the vacancy rate higher than 20 percent for the first time since 2005. This represents a 200 basis point increase in 12 months, with an overall negative absorption of 540,000 square feet. Looking forward, it is forecasted that no gain in occupancy will be realized through most of 2010, and overall vacancy may exceed 21 percent in the next 9 months.

New construction has been limited, with only one sizable project completed in 2009. The 140,000-square-foot Developers Diversified Realty (DDR) building was delivered in the fourth quarter in the East submarket, with nearly 60,000 square feet of the project occupied by DDR. Developers remain cautious and no new multi-tenant suburban projects are anticipated without significant pre-leasing. In the central business district (CBD), plans for the Flats East Bank Neighborhood have been revived after the project was stalled in 2008. A scaled-down version of the development will be under way in 2010. Developers Scott Wolstein and Fairmont Properties secured $24 million in funding from the state of Ohio, as well as a $30 million loan from the city of Cleveland and the use of the new Federal Recovery Zone Bonds. Phase one includes a 450,000-square-foot office tower, the first new non-governmental office tower built in the CBD in nearly 20 years. Ernst & Young, for which the building will be named, and Tucker Ellis & West remain committed to the project and plan to occupy more than 50 percent of the building.

In the East submarket, many properties maintain healthy occupancy levels. Overall, Class A vacancy is just more than 11 percent, with few options available for tenants of more than 25,000 square feet. Although this submarket encompasses a wide geographic area, the concentrations of office space along Chagrin Boulevard and Landerbrook/Landerhaven have a combined Class A vacancy of just 8.6 percent. Duke Realty still controls a sizable suburban portfolio, unable to find a buyer for its South and West office properties. In order to stabilize the value of its remaining assets, Duke is expected to aggressively pursue tenants by offering competitive rates and generous tenant improvement (TI) dollars, which competing suburban landlords may be unable to provide. Since availability of TI dollars will vary by owner, tenants looking for space may request confirmation that funds pledged for TI are, in fact, something the landlord can deliver. Alternatively, there is a trend to re-use existing, second-generation space in properties where the owner is unable or unwilling to propose upfront capital for improvements and instead may offer free rent in lieu of TI in an effort to fulfill the lessee’s pressing need for immediate financial relief.

Summit Office Park in the South submarket was recently returned to the lender as part of a portfolio that includes several west suburban properties near Crocker Park in Westlake. This trend may be on the upswing, as new vacancies will continue to mount. This will add pressure to existing mortgage commitments, compelling some lenders to renegotiate terms of loans rather than face the less attractive alternative of considering foreclosure proceedings.

— Robert Nosal is executive vice president and managing director at Grubb & Ellis’ Cleveland office.

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