HEARTLAND SNAPSHOT, OCTOBER 2008

CHICAGO CITY HIGHLIGHTS
Bill Sheehy, Michael Tirpak, Scott R. Maesel, Debbie Corson and Noel Liston

Chicago Office Market

Chicago’s office sector has remained steady despite national economic downturn. Recognizing not only its past, but also its present and future — a “place where there’s room to stretch” — FastCompany.com has named Chicago its U.S. City of the Year for 2008. The city’s commitment to going green long before it was fashionable was also cited as a reason Chicago was named City of the Year.

In addition, Chicago’s native son is making a strong dash for the White House, a move that has brought the city and Illinois into the forefront of the worldwide press. Regardless of who succeeds in November, however, Chicago is sure to reap the benefits.

A long-time favorite location for major corporations, the Windy City will continue to attract and retain businesses, a fact which is evidenced by the tightening real estate market.

During the second quarter of 2008, direct office vacancy rates in Chicago’s central business district reached a 7-year low of 10.7 percent. Contributing to the decline were several tenant expansions that took occupancy, including The Northern Trust Company, United Airlines and CBS, each taking more than 100,000 square feet.

In addition, the CBD continues to experience strong leasing momentum in its current, large-scale office development projects, including:

• Golub & Co.’s 22 W. Washington, which was delivered during the second quarter, has less than 15 percent of its space remaining.

• Hines’ 300 N. LaSalle is 86 percent leased and will deliver in 2009.

• Mesirow Financial’s 353 N. Clark is 68 percent leased and scheduled for a 2009 delivery.

• John Buck Company’s 155 N. Wacker, which is 52 percent leased, is scheduled for a 2009 delivery.

In direct response to demand for space in the West Loop, development activity has steadily increased along the Chicago River into the River North submarket. Its easy access to transportation and unobstructed views of the Chicago River offered from all floors — not just floors 25 and up — have made it a favorite location for developers and tenants alike.

BP recently announced plans to relocate a trading function from Chicago’s East/West corridor in the suburbs to approximately 240,000 square feet at Tishman Speyer’s 10 and 30 S. Wacker office tower. Meanwhile, Baker & McKenzie will lease between 250,000 and 300,000 square feet at 444 W. Lake, a 1.1 million-square-foot project being developed by Hines. William Blair & Company has also committed to 31 percent of the Hines building and will relocate from 222 W. Adams upon its completion mid-2011. The Prime Group is also active in the market and is currently in the planning stages for a 1.25 million-square-foot, 50-story West Loop office tower at 400 W. Randolph.

The Chicago office sector is expected to continue its steady growth throughout the remainder of 2008. In addition, with its rebounding economy, a new national administration taking office in January and the prospect of hosting the 2016 Summer Olympics, Chicago will remain a key real estate market for many years to come.

— Bill Sheehy, senior vice president, and Michael Tirpak, vice president, operate out of Jones Lang LaSalle’s Chicago office.

Chipotle Participates in LEED for Retail Pilot; Opens Chicago-area Store

Chipotle Mexican Grill is developing an environmentally friendly restaurant in the Chicago suburb of Gurnee, Illinois.

Denver-based Chipotle Mexican Grill has opened a freestanding restaurant that is going for a LEED rating of silver. The restaurant, located in the Village of Gurnee, Illinois, just outside of Chicago, opened in September.

“Everything we do starts with food and our mission for ‘Food With Integrity,’” says Scott Shippey, director of design with Chipotle. “Our vision for sustainability in development is to address all of our restaurants with the same integrity with which we view our food. This means selecting real estate, designing, constructing and maintaining high performance buildings that significantly reduce — and eventually eliminate — our negative impact on the environment.”

As the company planned and constructed the store, it participated in the U.S. Green Building Council’s LEED for Retail pilot program. As one of 80 retailers participating in the pilot program, Chipotle has provided feedback for the development of two LEED rating systems specific to retail design: LEED Retail for Commercial Interiors and LEED Retail for New Construction. Justin Doak, manager of the retail sector at the U.S. Green Building Council (USGBC) expects the final LEED for Retail rating systems to be balloted and approved by end of year and available to the market in early 2009.

“While we had much to learn about the LEED process, the USGBC had much to learn about restaurants,” Shippey says.

According to Doak, the USGBC has worked with project teams to assess the unique challenges that commercial kitchens present when it comes establishing baselines and prescriptive paths for energy efficiency. The LEED for Retail rating systems also take into account research and requirements established by organizations like Energy Star; the Food Service Technology Center; and the American Society of Heating, Refrigerating and Air-Conditioning Engineers.

“The benefit of LEED for Retail, and LEED in general, is that our rating systems bring together performance criteria that has been established by a multitude of organizations and industry experts, and encourages the adoption of sustainable green building and development practices through the implementation of these accepted tools and performance,” Doak says.

Shippey says participating in the pilot program was “a lot of work but very rewarding. We underestimated the time and energy it would take to bring the project to fruition. We knew it would take a concentrated effort, but it was a little more than we expected.”

“But,” he notes, “I believe that to be more a result of participating in the pilot program, being a restaurant and it being our first LEED project. With that said, it was worth every second and we are excited about what it will mean for future Chipotle restaurants.”

The Gurnee restaurant has an energy management system to monitor energy usage for rooftop units, lights, compressors and exhaust fans via the Web. The system monitors the natural light and adjusts the store’s lights accordingly, which creates tremendous energy savings. “We tested this in a couple of [earlier] stores and no one notices when lights dim because there is so much natural light,” Shippey says.

The store does not use any incandescent lighting. The entire restaurant is illuminated via LED lamps, fluorescent tubes and CFLs.

“The LEDs are a significant breakthrough for us,” Shippey says. “We have developed a par 5-watt par 20 lamp that will replace our 50-watt incandescent lamp. We also have a new 14-watt par 38 that replaces a 60-watt halogen lamp over the front serving line.”

According to Shippey, the company is conservatively estimating that the store’s wind turbine will supply approximately 5 percent of its power. The store will still draw on Xcel Energy to meet its power needs. Interestingly, Shippey notes, Xcel Energy offers net metering. This means that when the turbine makes more energy than the store needs, the meter rolls back. Chipotle will sell energy to Xcel at the same rate Xcel charges the store. When the wind blows in the middle of the night, the turbine will continue to offset the store’s energy usage.

The store has a 2,500-gallon underground cistern to harvest rainwater, which provides 100 percent of the landscaping water. High-efficiency plumbing fixtures also reduce water consumption.

Construction included eco-friendly products that had been tested at previous Chipotle stores, including paints, primers, sealers and caulks with the lowest VOC content to improve indoor air quality. In some stores, the company also uses tank-less water heaters, which take up less room and are more efficient.

“And,” Shippey notes, “we’ve found we can buy the highest efficiency HVAC unit for a marginal cost increase.”

Chipotle has also improved the engineering of its restaurants’ hood area after realizing it was over-exhausting and basically wasting conditioned air. Shippey notes that energy efficiencies like this improve the bottom line as well as the environment.

The Gurnee restaurant and a Ridgedale, Minnesota, restaurant that is going for LEED Gold-certification are the first projects for which Chipotle has spent more on design and construction in support of its green efforts. However, Shippey says, the company hopes to achieve a 5-year payback or less on its investments.

“It is important to be a responsible corporate citizen and to be successful,” he notes. “We must be concerned about the business model. Decisions must make good economic sense.”

— Jaime Lackey

Chicago Retail Market

In today’s challenging market, where can the Chicago retail real estate industry place its trust: in national or regional and local retailers?

You can’t open a newspaper today without reading all about notable national retailers closing locations or filing for Chapter 11 bankruptcy protection. Starbucks Coffee has plans to close 18 Chicago-area stores, Washington Mutual plans on closing 25 area branches and Bennigan’s plans on closing 15 locations, including its high-profile Michigan Avenue location. Where is the Chicago retail landscape headed — is it all pointing to doom and gloom?

Considering the statistics for the last 6 months, it isn’t hard to believe we are currently experiencing one of the worst economic slumps in a long time, especially in the retail sector. Evidence of the trouble is found in the rising vacancy rates nationally for neighborhood and community shopping centers, which rose from 7.7 to 8.2 percent during the past 12 months, the highest vacancy rate since 1995. Because vacancies in this product type in the Chicago MSA eclipsed the national average and rose to 9.4 percent, it is easy to assume that retail expansion and deal velocity have come to a screeching halt.

But that is not entirely the case; like many other metropolitan cities, Chicago’s retail reports typically only focus on what national retailers are doing and often forgets the regional, local and specialty retailers that are active in the marketplace. Though many retailers are certainly sitting on the sidelines, in the right locations or in mixed-use developments, deals are getting done — they are just taking a considerably longer time to complete. At a recent Chicago ICSC event, which was held for more than 75 retailers looking to grow and expand within the Chicagoland, approximately half of the retailers had cut their expansion plans by at least 75 percent while some didn’t even have representation present because the retailer had no plans for new store opening this year.

So what does it all mean, and where are the bright spots? I once heard a very successful real estate entrepreneur say that Chicago was a unique city because it would always be the “first out of inflation and the last into a recession because it was such a strong entrepreneurial city.”

The national figures for retail vacancy rate don’t take into consideration the Chicago entrepreneurial spirit and how it is the historical fiber and backbone of this great city. Chicago lays claim to headquarters for approximately 30 Fortune 500 companies, but it is the entrepreneurial business owners that have helped keep the economic engine running for so many decades. More often than not these retailers are not mentioned when it comes to expansion, while the headlines are focused on store closings and the lack of consumer confidence.

Some of the most notable retailers that are currently expanding in the market were conceived and grown right in the city. Akira, a boutique with multiple styles and lines, recently opened its seventh store in the Lakeview neighborhood in Chicago, while Homemade Pizza has grown to 19 locations across the city and suburbs, and is actively seeking sites for future locations. There has also been a rash of local pet-related businesses, hair salons and restaurants opening additional Chicago locations. For the most part, these accomplished retailers are not getting averaged into the expansion rates, because they are not national players or taking a large enough footprint to be reported.

The struggle of national retailers and the activity by local retailers is just one example of how a strong mix of the two can keep the Chicago retail market moving forward. While national retailers have been expanding into areas of the city such as Lakeview and Bucktown, which have long been home to strong local stores, the local and regional players were waiting for new opportunities that made sense for them. Even with a slightly higher vacancy rate then the national average, Chicago still has a stable retail market, whether it is being driven by the traditional national brands or up-and-coming local and regional retailers.

— Scott R. Maesel is executive managing director of Sperry Van Ness Chicago|Commercial Real Estate Advisors
, a real estate investment sales and brokerage firm located in Chicago.

Chicago Multifamily Market

Downtown Chicago development continues to be a bright spot in the multifamily picture. Approximately 3,000 apartment units are currently under construction in the downtown market, and more than 6,500 more units are in the planning stages. With record condo inventory downtown, builders are scrapping plans for additional condo development, and either selling sites to apartment developers or undertaking multifamily developments themselves. More than 20 percent of new apartment development downtown can be traced to the softening condo market.

The implosion of both the new condo and condo conversion markets has prompted developers to sell off sites previously earmarked for condo construction to multifamily builders. This trend has resulted in an upturn of new apartment construction in Chicago’s downtown area. Much of the new construction is taking place is the city’s most expensive areas, which will result in great rent growth statistics for the central business district.

Development in suburban markets is less robust, due primarily to barriers to entry posed by a limited number of sites with appropriate zoning and the fact that condo development has dominated the suburban scene for the past 5 years. Approximately 1,000 units are under construction, with 3,500 more in the planning stages. While these statistics are lower than in the dense downtown market, they represent an improvement from 2004 to 2007, when new multifamily units brought on line averaged only 200 per year.

A major trend in the development of multifamily construction is the U.S. Green Building Council’s LEED certification, a rating system to ensure sustainable development practices and high performance in commercial products. Of course, this trend impacts all areas of construction, not just multifamily. There are some significant green multifamily developments underway currently in downtown Chicago.

Chicago-based Jupiter Realty Company has broken ground on its new 50-story, 389-unit rental apartment building at 215 W. Washington Street in Chicago’s Loop. The $157 million building will have the added appeal of an environmentally conscious design; it is expected to achieve LEED certification.

AMLI Residential Partners is developing AMLI 900, a 24-story, 440-unit apartment tower in downtown Chicago. The project is seeking LEED certification.

“With the growth of the West Loop office market, the addition of greater amenities in the area and its proximity to transportation hubs, downtown living is becoming more desirable every day — especially for young professionals,” says Donald Smith, a Jupiter Realty principal. “As an added plus, 215 W. Washington offers people the opportunity to do something smart for the environment by living in a sustainable, energy-efficient building.”

Another significant development is AMLI 900, a 24-story, 440-unit tower in the South Loop. The project is AMLI Residential Partners’ first downtown Chicago development. Residents began moving into lower floors in June and, as of mid-August, the project was already approximately 30 percent leased. AMLI 900 will be the first new construction rental building in the city of Chicago to receive LEED certification, and is also the first completely smoke-free apartment building in Chicago.

Other components of the LEED certification include providing access to I-GO car-sharing cars, preferred parking for hybrid cars, bike storage, a green roof, and use of low voc-emitting materials such as paint, adhesives, sealants and carpets to reduce the quantity of indoor air contaminants.

RREEF and McCaffery Interests are developing Flair Tower, a 27-story, 198-unit high-rise in the River North section of downtown Chicago.

RREEF and McCaffery Interests are partnering on Flair Tower, a luxury high-rise in the River North section of downtown. The 27-story, 198-unit project, which is projected to be complete in 2010, is being constructed to achieve LEED certification and will include 9,500 square feet of retail space. The development team is the same partnership that developed The Bernardin in 2005, and later sold it to UBS for $523,000 per unit, one of the highest per unit prices ever paid for a Chicago multifamily property.

Also noteworthy are the larger-than-typical multifamily projects scheduled for the downtown market, including Fifield’s K Station, a $750 million, 2,400-unit master-planned development in the West Loop, where the last two buildings, Alta and Cirrus, are projected to be completed in the fall of next year. Avalon Bay is also developing up to 1,000 apartment units in the South Loop on a site formerly owned by Lennar and originally planned for a huge condo project. In the suburbs, Opus North Corporation is developing a 378-unit, mixed-use complex in Lisle, Illinois, potentially the largest suburban multifamily project to be developed since 2003.

In the suburbs, areas such as northwest Cook County, Illinois, which have seen a large amount of condo construction in recent years, are ripe for new apartment development. Bear in mind, however, that the tumultuous conditions in the financial and debt markets are leading some apartment owners towards renovation rather than new construction.

Northwest Cook County has not seen any new multifamily developments since the early 1990s. Approximately 1,300 units are on the drawing board for this area, including a mixed-use joint venture between Pine Tree and Draper & Kramer, and a 330-unit project approved for development by Lincoln Property Company in Rolling Meadows.

Downtown occupancy is averaging about 92.5 percent, with average rents per square foot around $2.15. The projected rents for most new construction range between $2.15 and $3.30 per square foot, depending on the location of the project and the amenities offered.

Suburban occupancies vary by sector, but the overall average is about 92.69 percent, just a little above downtown. Rents are significantly lower in the suburbs, ranging between $1.00 and $1.20 per square foot.

The downtown area is the market to watch. The Windy City is seeing record numbers of new unit deliveries, the most since the early 1990s. Even with the economy slowing down, the downtown job market is expected to show growth next year. These projections, coupled with the increasing desirability of downtown living for certain population demographics, should enable stable rents and occupancy, even with increased supply.

— Debbie Corson is a principal with Apartment Realty Advisors, the largest privately held advisory firm in the nation that focuses exclusively on multifamily brokerage.

Chicago Industrial Market

As the third quarter of the year comes to an end, I would characterize 2008 to date as a year that has prompted both cause for optimism and caution. Lending practices have become increasingly conservative, the government has recently bailed out some of the troubled lending institutions, the real estate market, as a whole, has scrambled for stability, and the media has created a recession that is, in my opinion, much more psychological than structural.

Despite what some call a recession — but what I would call a slight down turn — the Chicago industrial market has remained relatively healthy throughout all of 2007 and 2008. During relatively tumultuous economic times, the Chicagoland industrial market has experienced continued absorption and encouraging benchmarks. With a total market of approximately 1.3 billion square feet, the Chicagoland industrial market closed 2007 with an 8.7 percent vacancy rate. While that number has increased this year through the third quarter, some may be surprised as to where the market will finish this year. While many major institutional investors and developers remain on the sidelines, it is important to consider some of the significant transactions and milestones that have occurred so far this year.

CenterPoint Properties closed its fiscal year for 2008 at the end of June. The industrial developer and owner exceeded its goals with total acquisitions of $259 million, acquiring $115 million of property in the second quarter alone. Even after meeting its goals, CenterPoint has remained in continued acquisition mode, and has significant capital available to meet or exceed a similar acquisition volume for the balance of 2008 and the first half of 2009. Additionally the company has recently completed a 1.2 million-square-foot speculative facility in Elwood, Illinois, and has another speculative facility of 1.2 million square feet planned for development on the adjacent site.

In the first quarter, Panattoni Development sold four industrial facilities totaling approximately 1.92 million square feet in the Windham Lakes Business Park in Romeoville, Illinois, for an estimated $101 million. The estimated cap rate (blended) for the transaction was 5.75. At the time of the sale, two of the four buildings were empty shells of 136,000 and 260,000 square feet, with approximately 1.5 million square feet leased within the other two facilities. Heitman Financial purchased the buildings from Panattoni for approximately $52 per square foot.

While there is concrete evidence that cap rates have increased, there is still a competitive market for Class A product that is developed in the right location. In reality, the $52 per square foot sale price probably represents a discount from the replacement cost today. Additionally, these facilities are in one of the top industrial markets in the country. The four buildings were state-of-the-art construction, and featured ample trailer parking and other attractive amenities that allowed Panattoni to quickly lease 1.5 million square feet before disposition and helped Heitman to subsequently lease a portion of the two vacant spec facilities.

With the completion of the Windham Lake sale, Panattoni has moved on to a new spec project in partnership with LaSalle Investment Management. At present, Panattoni is constructing two 140,000-square-foot speculative facilities within Turnberry Lakes Business Park in Roselle, Illinois.

In other positive news, Opus North Corporation has executed the first lease within Oakview’s Building I, a speculative building in Oakview Corporate Park, which is located north of the Interstate 90/Randall Road interchange in Elgin, Illinois. Opus has completed the construction of the 154,000-square-foot speculative facility, leasing a third of the building to Plastival Inc., a distributor of aluminum products. The developer has been quoting other deals for the speculative facility and expects to move on to the second speculative facility within the business park either late this year or early 2009.

In addition to Oakview Corporate Park, Opus is also constructing two speculative facilities in Cicero, Illinois. The state-of-the-art industrial facilities will be complete late in the fourth quarter or early 2009. Opus is constructing both buildings at the same time to cater to different size tenants and to take advantage of the project’s infill site, which is located minutes from downtown Chicago.

Despite the significant accomplishments and aggressive speculative developments, there is cause for caution moving forward. The flood of capital into the Chicagoland industrial market throughout 2005 and 2006 artificially increased the value of certain assets. As a result, there was the need for a slight correction, which, in my opinion, is what we are experiencing now. This correction is certainly a healthy occurrence and will bring stability to pricing in the very near future. Secondary and tertiary markets may experience the correction for a longer period of time, and certain infill markets such as the O’Hare industrial submarket will experience it more abruptly.

Moving forward, the Chicagoland industrial market will remain relatively healthy due to its centralized location and access to intermodal facilities, as well as the diversity of its tenants and buyers. Overzealous investors may find their way to other markets and other investment vehicles, but the local institutions, developers and brokers should be optimistic about the industrial market in the greater Chicagoland market. Foreign and out-of-state institutional investors and their advisors may proceed with more caution, but industrial real estate has always been a heavily localized, ever-changing market and never an exact science.

— Noel Liston is principal of Elmhurst, Illinois-based Darwin Realty & Development Corporation, a Chicago-area broker and developer of industrial properties.

©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.