COVER STORY, OCTOBER 2008

Chicago Roundtable Shows Stability Of Market
Neighborhoods, suburbs have activity while tenants still show strong interest in Chicagoland.
Roundtable moderated by Jerrold France and Randall Shearin

Shopping Center Business and Heartland Real Estate Business recently held its annual Chicago Roundtable at the offices of The PrivateBank in Chicago.

Heartland Real Estate Business recently held its annual Chicago Retail Roundtable at The PrivateBank downtown. In attendance were many leaders of Chicago’s retail real estate community, including Richard Dube, Tri-Land Properties; Ryan Murphy, Staubach Retail; Richard Tucker, Tucker Development; Andy Stein, Clark Street Development; Camille Julmy, U.S. Equities; Geoff Kerth, DLC Management; Robert Rowe, Sierra Realty Advisors; Terry McCollom, McCollom Realty; Sy Taxman, The Taxman Corp.; Tim Thanasouras, Opus; Bob Duncan, Green Courte Partners; Richard Kahan, KB Real Estate; Glen Todd, U.S. Cellular; Bernard Haddigan, Marcus & Millichap; Karen Case, The PrivateBank; James Schutter; Lew Kornberg, Jones Lang LaSalle; Richard Spinnell, Mid-America Asset Management; Jonathan Payne, The Jaffe Companies; Mike Meksto, NAI Hiffman; Todd Cabanban, Zifkin Realty; Frances Spencer, Retail Chicago; and Todd Caruso, CB Richard Ellis; and Barry Millman, Horizon Realty Services.

HREB: Karen [Case], how do you see financing today on a national basis, as well as in the Chicago market?

Karen Case.

Case: You have all seen that the capital markets are dry as a bone. Certainly, on the permanent side, the CMBS market has disappeared and the life companies are sluggish at best. It is the same story no matter where you go. On a local basis, it is an interesting story because there are a number of LaSalle Bank real estate employees who have gone to other organizations. On the real estate side, you see new faces at Charter One, Fifth/Third, Park National and Harris Bank. You see new faces and new opportunities as a borrower. The PrivateBank is one of those as well. I venture to say that some of the folks that have gone to these banks to start real estate lending operations have hit a little bit of a wall. Some banks have other issues, so some people, instead of doing originations, are doing workouts. There is a bright light at the end of the tunnel. When you are in a growth mode, as we are, we are underwriting retail transactions. Of the $1.3 billion in loans we’ve closed over the last 8 months, about 25 percent have been retail deals. There was a time when we could write loans based on letters of intent, but you won’t see that here or anywhere else now. Walgreens is signing leases for deliveries, but they aren’t until 2011 or 2012. There are opportunities for owners to buy more, and when you buy at today’s prices and variables, there is financing available for those who can take advantage of the right opportunities. Equity is definitely part of the formula. Those who are making loans are back to fundamentals. We look for two of the following three attributes in every single deal: recourse, equity, and leasing. As long as we have two or three of those, we’re happy.

HREB: Is location a factor?

Case: Location is a factor when it comes to a land loan. A land loan or pre-development loan in a third-ring suburb or tertiary market isn’t going to happen. It is harder to rely on the tenants wanting to go there. Infill is where we are seeing the most activity.

HREB: From a national perspective, Bernie [Haddigan], can you give us an overview of the national trends?

Todd Caruso and Bernie Haddigan.

Haddigan: Transactional velocity is off significantly [this year] but if you look at price point in the first half of 2008 versus the first half of 2007, transactions over $25 million are off 90 percent. Transactions in the $10 million to $20 million range are off 75 percent. Most of the activity is really in the smaller deals, valued at less than $10 million. Among that group, those that are better quality are still trading fairly actively. Across the U.S., the market is off 50 percent mid-year 2007 to first half of 2008. Investment grade deals are still trading actively. Better quality locations are still trading actively. Pricing on the best quality assets has softened a bit, about 25 to 50 basis points. Rents are reaching a plateau, but they are not necessarily going backwards. Who’s buying? The REITs are sitting on the sidelines. There is still a lot of private capital chasing deals, and there is a tremendous amount of equity in the market. We haven’t seen a lot of blood in the streets. We have seen some softening in secondary market deals.

HREB: Do you see any markets of note?

Haddigan: California is getting killed. A large part of that is because there was almost no transactional velocity in the apartment business. Three or 4 years ago, you were seeing situations in infill areas of L.A. or San Diego where cap rates were sub 4 percent. Florida is also getting killed. We have virtually no activity in our six offices there in apartments. There are a lot of busted condos and a lot of distressed land. The areas that really bloomed are the ones that are softening now: Las Vegas, for example. Phoenix has been exploding and it’s not getting blown up the way Southern California or Las Vegas is. There are some steady markets: Washington, D.C., Atlanta, and Chicago, are holding pretty well.

HREB: Are there a lot of buyers in the market?

Haddigan: Based on the quality [of the properties]. There is a pool of investors who are long term holders that we deal with. They are not so concerned about the economic cycles and they are not high leveraged buyers. Those high leveraged buyers who were using structured finance over the last few years are pretty much on the sidelines. On value-add deals today, it has to be a great location. There is a lot of money looking, but there seems to be a prevailing notion of capital that doesn’t need to be spent today. In the 1031 exchange market, there was a surge of activity from 2003 to 2007. That activity is largely gone. A lot of that business was due to the froth in the market from apartment sales. The apartment business has slowed quite a bit. These are general statements; you can look at specific markets and see activity. The good news is that this is the best buying opportunity: the period from 2008 to 2012 will be fantastic. This feels similar to when I was running a Marcus & Millichap office in 1991 in Los Angeles. Things were at a screeching halt. We’re going to see some stress in the financial markets that will create opportunities in 2009 into 2010.

(left to right) Camille Julmy, Ryan Murphy and Robert Rowe.

HREB: Todd [Caruso] you have a similar view at CBRE being one of the national chairs of retail for the company. Can you take us from 30,000 feet to Chicago?

Caruso: I returned from Kansas City yesterday, and they are sitting at 46 square feet of retail per person. From that standpoint, the Chicago metro area looks great. We are probably still under 35 square feet per person. CBRE tracks vacancy in this market, and it is sitting at about 8.65 percent. That’s up from 7.9 percent last quarter. We have healthy fundamentals in Chicago. Our average rental rate that we track is around $23 per square foot. I think the vacancy rate will climb and I think the $23 per square foot rate is high because some of the new developments that have been launched have face rates higher than that number. That brings the numbers up, when in fact some of that space will not lease [for those numbers]. These are challenging times for us, and there are a lot of different culprits. Oil and energy are part of it. That is going to transform the way our consumers are shopping. The capital markets are still reeling as well. There are investors flush with cash, but they are waiting for the right time to get in. They are waiting to see the market hit bottom before they buy. In the meantime, we’re at a standstill. The retailers have also pulled back. The positive side, in thinking about metro Chicago, is that we continue to see expansion of the major discounters like JC Penney and Kohl’s. Our major grocers have awakened from their slumber as well. The urban markets, like the near South Side, continue to be bright spots here. Our company is involved with some new projects, like Trump Tower and Metropolis, that haven’t seen activity fall off. That’s a good sign.

(left to right) Andy Stein, Richard Dube and Mike Meksto.

Dube: I have five shopping centers in Kansas City, and we’ve been successful there. We just received an $8.5 million TIF from Kansas City, and we have Overland Park’s first TIF for $4 million. When you talk about the niche markets, that’s what we’ve been doing for the last 15 years. We’re chasing about $54 million worth of entitlements around the country. That’s how we’re solving the equity problem. In Chicago, we have a deal at Routes 47 and 34 in Yorkville, the city of Yorkville just enhanced our TIF from $5 million to $12.2 million. The niches are out there.

McCollom: About 5 or 10 years ago, we got involved in rural real estate. It has been very successful. We are still looking for locations south of Springfield [Illinois]. We also own stores in Kansas, Missouri and Indiana. The governments there are extremely cooperative. Obviously, you have a tenant which is the driving factor. In this economy, you have to do something that’s different than the big guys.

Haddigan: To me, you can break it down a number of ways. Are you a short term investor or a long term investor? What are the constraints of your capital? There are three broad strokes notwithstanding the current economic cycle. One is population forecasting. If you look at the population forecast in the U.S. over the next 30 years, it is mind-boggling. We just crossed 305 million people. We are forecasted to have more than 430 million by 2040. Certain areas will see enormous growth. Investors getting ahead of that will have huge plays. The second area is ethnic marketing. The Hispanic population is now more than 50 percent of California, but it is spreading from the Southwest. There are a number of retailers targeting that constituency and doing well. There is an Asian market – H Mart – with about 30 stores in 12 states that has hit the ball out of the park. Their trade area is 2 hours or more. Thirdly, there is a return to the urban core. A lot of older properties are being redeveloped. As we are all aging and our kids are getting out of college, we may not want to live in the suburbs anymore.

HREB: There are still a lot of pockets with activity. Fran [Spencer], in Chicago, where are those pockets?

Spencer: The south and west sides. We do our Retail Chicago tours during the summer. This year, we are doing strictly the south and west sides. We’ve gone from doing eight to 10 tours per year to 16 tours this year. A lot of the retailers are taking some time and sitting back, so they have the time to go on the tours. Chicago, overall, is not in as bad shape as some markets. We have such a diverse business base. We’ve seen a lot of national retailers learning that they can do parking garages and two-story stores, as well as develop a smaller footprint to fit in urban areas. I’m getting a lot more inquiries from independent retailers.

HREB: Are there specific types of retail that are missing from the neighborhoods?

Spencer: Across the board, we need grocery stores. We are doing our next Grocery Expo this fall to show grocers all the opportunities. Family restaurants are another category that’s lacking.

HREB: How successful has the city been in getting grocery stores into the neighborhoods?

Spencer: We’ve worked creatively with a number of stores, including Jewel. We’ve had absentee ownership from our two largest chains for a long time. We’re now getting a much more hands-on response from those now. We’ve also talked to some expanding grocery stores, like Fresh & Easy. We have to have these markets so that our residents don’t have to go to the liquor store to get their groceries. We are also seeing a lot of push for the ethnic markets. A lot of neighborhoods want groceries that cater to a Hispanic or African-American audience. The oil situation also helps this: people are looking for local alternatives. They don’t want to go to the suburbs to do their shopping.

HREB: There are a number of you who do a lot of leasing in the Chicago market. Ryan [Murphy], do you want to give an overview of the market for leasing retail space in Chicago?

Murphy: Staubach Retail has historically been a tenant rep company but they’ve recently made a commitment to be a full-service company. On the tenant rep side, we are representing several new-to-market tenants, including Cricket Wireless, Krizer’s and Verizon, that all have big expansion plans despite market conditions. On the leasing side, we are getting deals done with big incentives, whether it’s free rent or tenant improvement dollars. Our most successful center now is DesignPointe, which is a furniture-based center.

(left to right) Todd Cabanban, Fran Spencer, Terry McCollom, Barry Millman, Jim Schutter and Lew Kornberg.

Schutter: I am working on a large project in Kenosha that is 160 acres of land. We’ve been struggling to get an anchor. One of the anchors we met with said 2010 would be the magic year. I’m also doing some deals in the far out suburbs and downtown. I have a spot at Michigan and Lake, and I wish I had 15 of them. I have a number of letters of intent from national tenants. I’m still able to pick and choose whom I want there. In some of the far out areas, it is difficult to find any tenant whatsoever. You may have to search more or compromise more, or be willing to work with a local franchisee — whoever the most viable tenant you can find in this area.

Spinnell: We may start coming back the other way. Some tenants have said their pipelines were full for 2009 and 2010. We are working on a project anchored by Target that will open later this year in Pleasant Prairie, Wisconsin. We have a deal with JC Penney, who didn’t commit to open until 2010. About 3 weeks ago, we got a call from them asking if our client could deliver a pad now. They accepted it and are now under construction with plans to open in early 2009. With some of these centers not going through, I think a number of tenants are finding that their pipelines may not be as solid as they thought and they now have to re-spot some of their program.

Jonathan Payne.

HREB: Jonathan [Payne], you are working on a large project [The Arboretum], what are you hearing?

Payne: What you are saying, we are living on a daily basis. We have about 400,000 square feet of a 600,000-square-foot project done. We know that imbalance will come back in our favor since it is a great project. We’ll pick up some [failed projects’] tenants because of our location. The economics from the tenants’ side are a little out of balance, but that will come back because the retailers need to open stores. When projects can’t get put together, they will be in a position to pick and choose the projects that are available. The Arboretum was planned to be an apparel driven center. What’s been completely unexpected is a great insurgence of entertainment concepts and restaurants.

Meksto: It is a challenge right now. Focusing specifically on Oakbrook Promenade, it is challenging to get the tenants in and make the deals happen. As Ryan [Murphy] mentioned earlier, there are some terrific incentives that developers are putting on the table. Some are offering free rent opportunities for 12 to 18 months. It is difficult to compete, especially when you are in the market and your pro-forma dictates that the asking rent is $36 per square foot net and your extras are $10 per square foot.

Todd Cabanban and Fran Spencer.

HREB: Todd [Cabanban], how is restaurant activity?

Cabanban: There are a lot of restaurants that are looking for downtown Chicago locations, including suburban downtowns. A number of concepts — anything from Brio to Mitchell’s Fish Market to Front Street Cantina to Del Frisco’s —  are looking for downtown space. Those are the markets that, even in market conditions like these, are still thriving. Smaller expanding restaurants also include the gourmet burger concepts like Fatburger and Five Guys.

Caruso: Is there more pain in the higher end restaurants than in fast casual?

Cabanban: It seems like the sales are downtown. This is still a huge tourist market and I think that’s what they are trying to capture.

Rowe: We do a lot of restaurant work and we have about 10 different national restaurants that we are looking for sites in Chicagoland. In the past, our clients always wanted to look at the city and the suburbs at the same time. At the moment, they’re focused on the city. That’s where the money and the people are. Typically, they want to go to River North first. Restaurant sales are down between 10 and 20 percent. Part of that is gas and part is that consumers don’t have the disposable income they once had. We do all of Houlihan’s work in Chicago, and they are bullish. Cantina Laredo, a Mexican concept, is looking at a number of neighborhoods that have the population density. In Lincoln Park, for example, you can get a lunch business as well as dinner. We work nationally, and Chicago is still a city the restaurants are bullish on.

Haddigan: I know the restaurants all have their prototypes, but is there an average size?

(left to right) Robert Rowe, Bob Duncan, Geoff Kerth and Rich Tucker.

Rowe: Yes, the typical [sit down] restaurant is 7,000 to 8,000 square feet. Some go as small as 6,000 square feet. Houlihan’s is 7,500 to 8,000; we do Fogo de Chao’s work nationally and we range from 10,000 to 15,000 square feet for them. McCormick & Schmick has a new concept that it is launching and Chicago is one of the cities where it hopes to launch. That’s a testament to the city. Chicago is a strong restaurant town.

Haddigan: You hear a lot about the mid-range brands closing restaurants. What do you see happening?

Rowe: The Bennigan’s that closed on Michigan Avenue; I’ve talked with the owner of the property and I’ve got five people who could take that space. There is a lot of appetite for these locations. There are a lot of people who want to fill the shoes of some of the mid-price operators. Some of the concepts are tired and need to be replaced. We do CVS’s work in Chicago and there will be some restaurant real estate that they will have the opportunity to take advantage of.

(left to right) Barry Millman, Jim Schutter and Lew Kornberg.

HREB: Are there opportunities with transit-oriented developments in Chicago?

Kornberg: Ridership is up so there is a lot of opportunity around some of the major CTA and METRA stations.

Tucker: Transit-oriented developers are still significantly underserved in the overall market. We talk about density and infill locations, but the biggest issue we still have on the development side is the overall costs of development. We’re faced with high costs of building the project, flat rents and few incentives from the communities that won’t get us to the end result. The project has to make economic sense or it shouldn’t be built. Transit-oriented developments are a big piece of what could happen here. We completed a project in Des Plaines where we sold 142 [multifamily] units in about 6 weeks a few years ago. I don’t think we’d have that same luck today. You couldn’t build those units for their original selling price today.

McCollom: In Oak Park, we’ve got three projects on the boards and I have a stack of leases. Two of these are negative deals. What Rich [Tucker] is saying is correct — the cost of construction is out of sight. It’s not the laborer or the carpenter or the plumber, it’s the materials. They’ve gotten so expensive. I’m also outraged by my silent partner: the tax man. I just can’t believe what I pay in taxes anymore. It is easier to go other places when you have governments that will work with you. It has gotten expensive.

Todd Cabanban.

Cabanban: This isn’t just a development problem. When we tell tenants that the taxes, CAM and insurance are $10 or $11 [per square foot] they are shocked.

McCollom: It has also become a problem with renewing tenants. One other thing: we are in a transformation period in the industry. Our industry is going to change for a long time to come.

Thanasouras: I agree with you. I feel like I’m educating property owners and I’m getting educated by tenants that we do deals with. I am also hearing from the brokers how tough the market is. We have had a fundamental change in the residential side. It used to be you could find a residential component for every deal; that’s no longer the case. There is also some vacancy in our market. We need to throw out the old playbook. I don’t think the business has changed; we still need to fill a need. We have to change the way we did business from 2003 to 2007.

Julmy: We are seeing major changes and we have to adjust. Who would have thought 5 years ago that we would have gas prices over $3.50 per gallon? We have been spoiled until a few years ago. Energy was so cheap that we never had to pay attention to prices. In Switzerland, as a child, I had to turn the lights off all the time because it was already expensive then. Public transportation [in Europe] is so much better because of this. It goes back to the cost of oil and utilities. We suddenly have to pay attention to this. It is a lifestyle change. It is great that the gas prices rose so suddenly because people are paying attention. If we had a 10 percent or 20 percent increase every year, people would get used to it; they wouldn’t adjust their lifestyles. I’m still very bullish – especially on Chicago and Michigan Avenue. We are branding Michigan Avenue as one of the greatest streets of the world. There has been a lot of movement on Michigan Avenue. General Growth has done a fabulous job with Water Tower Place. They have brought about 200,000 square feet of new retailers in the last 3 years. American Girl is moving to the old Lord & Taylor space in October. They have done a great job of bringing some exciting tenants. That’s good for the street as well. Some retailers are down a few percent, but some are up 10 percent. The sales are still very positive and we have little vacancy.

Rich Tucker.

Tucker: You also see that energy going outside Michigan Avenue. In the South Loop, we have a project that’s grocery-anchored. Rents are up 50 percent over a few years ago.

Taxman: Last year, I was cautious about all the optimism at the table. We are now the third component in this downturn. The single-family residential component was first, which went over to the condos as the second component. There was no way retail wasn’t going to be affected. My worst decision in 4 years was not retiring 2 years ago! We still run the Oak Park/River Forest projects at Lake and Harlem. We are looking at $14 per square foot just in real estate taxes. We have project that’s a full city block from Madison to Monroe on Halsted Street. We are planning to develop 126,000 square feet of retail on two levels, an 800-car garage, and a national hotel. This is against the trend. We are a niche player and we found that the West Loop was underserved with retail, parking and hotel space. We have a signed lease with Roundy’s for a 64,000-square-foot store. The lack of demand in the construction industry could carry over into Europe and Asia. China won’t be on this roll forever. We may see a rollback in commodity pricing. Another thing that’s changing: the financial institutions that we are used to doing business with are having problems. They aren’t there to fill the gap. So we have to find every means available to do that, whether it’s tax increment financing, sales tax rebate or a special district that will incentivize us to take a risk that is greater today than it has been for 40 years.  I just urge you not to put all your eggs in one basket. We’ve done this by becoming a major owner in the manufactured home industry.

HREB: Glen [Todd], as a retailer, what’s the perspective you take on the market?

(left to right) Glen Todd, Sy Taxman, and Tim Thanasouras.

Todd: U.S. Cellular has 6 million customers and we are going to generate $4 billion in revenue this year. We have $1 billion in operating cashflow, with $35 million in operating income. We will spend $350 million on capital projects this year. That sounds pretty good, but I’ve spent the last 90 days fighting to get money to build stores. I work for a conservative company and we’re taking a conservative approach to what’s happening. We’ve spent $50 million on our retail properties this year; we spend most money on our network and operating platform. Of that $50 million, it is about $25 million on new stores. The majority of my career I’ve represented corporate retail tenants. I think everyone needs to have a better education on their tenants’ business. How do we make money? How can we afford occupancy costs? We don’t talk about that. At some point, a tenant can’t afford to rent your space. Also, realize the corporate person you’re working with is a broker in his own organization. He’s trying to sell his deal — your development — to his company. The folks inside corporations right now are fighting to make deals. Right now, consumers are shifting to essentials. They have to buy gas to go to work; they have to buy food to feed their families. They have to pay the mortgage and utilities. Everything else is a luxury. It is affecting our business.

Opus is working on the development Burr Ridge Village Center in Burr Ridge, Illinois.

HREB: A number of you are developing projects in the area. Tim [Thanasouras], tell us about your projects.

Thanasouras: We are developing two projects: one is Burr Ridge Village Center, a 200,000-square-foot lifestyle center within a 650,000-square-foot development. There is residential component there as well. We are just starting on a 550,000-square-foot power center in Waukesha, Wisconsin, anchored by Target and Roundy’s. We have McDonald’s and CVS there as well as a number of big box guys.

Tucker Development is working on the development on a Super Wal-Mart-anchored center in Huntley Grove, Illinois.

Tucker: We have a project in Huntley that is a Super Wal-Mart center. It is at 47 and Kreutzer. Wal-Mart knows it is going to do a lot of volume, but we still had to go through the issues to get the development. We had to be careful because this area is going to have more than a million square feet of retail at some point between us and other developers.

Stein: Clark Street has closed on 30 acres at the southeast corner of Routes 60, 83 and 176 in Mundelein. When we bought that land we felt comfortable that it was a great infill market. It has really developed into a sub-regional market between Vernon Hills and Gurnee. We like the proximity to the neighborhoods as well. We’re still out looking for deals and land prices haven’t come down. You get more time to work the deals.

Opus is developing The Shoppes at Fox River in Waukesha, Wisconsin.

Schutter: I have been at M&J Wilkow but I’m moving to Newmark Knight Frank. At M&J Wilkow we always teamed with institutional investors. They are getting much more conservative. At Newmark, we have four or five new retailers who are taking a look at Chicago. There is still tenant activity, but it is niche driven.

HREB: Todd [Caruso], tell us about the Trump project.

Caruso: We hope to announce an anchor tenant over the next couple of months. It is really 90,000 square feet of retail and the focus is on restaurants and services.

HREB: Is downtown retail in the suburban areas becoming more important since gas prices have risen?

Tucker: All densely populated areas, whether they’re downtown or not, are becoming more important. We have been active in New Jersey because of the density there. Retailers want to be in densely populated markets.

Stein: That’s evidenced by what’s going on in the Bucktown corridor. There are an influx of new retailers who are paying big rents. Marc Jacobs, G-Star, Urban Outfitters and Levi Strauss are among them. A lot of the neighborhood corridors are evolving because of the pedestrian streets.

McCollom: I am the president of the Chicago Shopping Center Owners (CASCO), a group of about 40 owners. Our group, with regard to rent collection, has reported good results. Most of my colleagues have collected rent regularly. We do feel that this Christmas will be very important to us. The fallout after the holidays could also be a problem.

Duncan: At Green Courte, we’ve raised our second equity fund. We have a $250 million equity fund and one of our key focus areas is downtown retail. Over the last year, we have shifted our focus toward completed properties in irreplaceable downtown locations. We are long term investors.

Tucker: We have closed on our first $100 million fund. There is more money in funds like this today than there was last year because they can’t make the core investments. Institutional investors are out there, there is very little they can put their money into that is showing the kind of yields they want.

©2008 France Publications, Inc. Duplication or reproduction of this article not permitted without authorization from France Publications, Inc. For information on reprints of this article contact Barbara Sherer at (630) 554-6054.