Matthews™ Spring/Summer 2021 Publication

S PR ING/ SUMME R 2021 TM

NAVIGATING A SELLER’S MARKET

WHAT IS THE STATE OF CRE FINANCING?

RETAIL CENTER REVIEW

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NAVIGATING A SELLER’S MARKET HOW ARE NET LEASE INVESTORS DEVISING NEW FORMULAS FOR SUCCESS?

BY CO U RTNE Y H AU B ACH & CH AD KU RZ

he arrival of COVID-19 caused retail deal activity to come to a grinding halt, and extended closures resulted in some of the nation’s top retail tenants’ inability to make rent payments.

Once people saw the news headlines covering permanent store closures and bankruptcies, many assumed COVID-19 was the nail in the coffin for retail brands struggling with the rise and dominance of e-commerce. Despite this, the net lease retail sector has held up relatively well, with essential businesses and tenants pivoting to new consumer needs. As a result, investors are devising new formulas for success. The demand for essential retailers with long-term leases and corporateguaranteed tenants has increased dramatically, but the supply is limited. The following article reviews today’s market conditions and why now is the best time to sell.

T

In 2020, e-commerce surpassed levels not expected until 2025, bringing in over $861.12 billion in sales, and representing 21.3% of total retail sales for the year SOURCE: DIGITAL COMMERCE 360

REBUILDING THE RETAIL LANDSCAPE The retail sector tends to be painted with the same broad brush. In 2020, over 80 brands closed a total of 15,542 stores, and 30 retailers declared bankruptcy, according to data released by Forbes. However, other retail brands fared better and even benefitted from the pandemic, including convenience stores, drugstores, grocery stores, dollar stores, and home improvement stores. As 2020 progressed, investors shifted investment profiles, paying attention to the tenants deemed essential and cautiously approaching the acquisition and

underwriting process. After the lull in 2020’s second quarter, national retail volume surged to $18.7 billion by the year’s final three-month period, according to CoStar. Despite national volume plateauing by year-end 2020, the increase reflected 62 percent of the sales volume averaged over the past three years. In 2021, there has been robust interest in net lease properties and increased 1031 Exchange activity.

Furthermore, according to a recent interview, five net lease REITs have gone public and are looking to place capital.

QUARTERLY TRANSACTION VOLUME BY SUBTYPE SOURCE: RCA

Centers

$30B

Shops

$25B $20B $15B $10B $5B $0 2016

2017

2018

2019

2020

2021

THE LACK OF CONSTRUCTION The COVID-19 pandemic further slowed investment in retail construction. Since 2016, retailers have tentatively halted footprint expansion, focusing more so on updating and improving existing facilities to

remain competitive. With e-commerce making further inroads, the long-lasting effects of COVID-19 could mean further deterioration in retail construction starts in coming years.

TOP RETAIL CONSTRUCTION MARKETS DURING THE COVID ERA Q2 2020 TO Q1 2021 SOURCE: RCA

Market

# Projects

Los Angeles

9

$896

70%

Dallas

19

$885

93%

Jacksonville

8

Boston

7

Northern NJ

11

$329

1%

San Francisco

2

$327

N/A

Orlando

9

$323

Raleigh/Durham

5

$294

Chicago

7

$234

Long Island

4

$217

Miami/Dade Co

6

$190

Houston

11

$187

Austin

4

$168

Salt Lake City

2

$164

Boise

5

$162

Denver

5

$159

Indianapolis

2

$150

Atlanta

9

$143

Naples

4

$143

Westchester

3

$137

Starts Volume ($M)

YOY Change

982%

$535 5%

$358

-5% 62% -48% 1% -12% -76% 46% 809% N/A 103% 314% -74% 124%

The United States has almost four to five times the amount of retail square footage compared to Europe. Over the next 10, 15, or 20 years the square footage in the U.S. will be similar to Europe.

472%

U.S. RETAIL CHAINS SPENDING THE MOST ON CONSTRUCTION STARTS SOU RCE: D OD G E DATA & AN ALYT IC S

Retail Chain

Jan-Sept 2019

Jan-Sept 2020

Percent Change

$916.2M

$782.7M

-15%

$215.3M

$194.3M

-10%

$189M

$190.4M

1%

$211M

$153.4M

-27%

$215.7M

$123.9M

-43%

$132.4M

$108.9M

-18%

$86.5M

$84.5M

-2%

$65.8M

$80.8M

23%

$104M

$79.6M

-23%

$62.4M

$77.3M

24%

An analysis of the top ten retail chains that spend the most on construction shows that seven experienced a decline in construction spending in the first nine months of 2020, compared to the first nine months of 2019. Only three of the ten tenants have increased construction spending, according to Dodge Data and Analytics 2021 Construction Outlook. In 2019, the top 20 U.S. retail chains broke ground on roughly $3 billion worth of construction, a decrease of ten percent from a year earlier. In 2020, retail starts among all brands dropped another 25 percent to $12 billion, and square footage was slashed 28 percent to just 55 million square feet, almost one-third below levels of the Great Recession. With many projects delayed in 2020, COVID-19’s impact on the retail industry has caused the renovation share of construction to grow, increasing to a record 51 percent of total retail starts in the first nine months of 2020. Thus far in 2021, construction loan activity has picked up, compared to the last five months in 2020. Net lease developers are soliciting construction loans, but in such a tight market, adequate supply isn’t anticipated for another 12 months.

SHIFT IN DEMAND As 2020 progressed, investors sorted out their investment approach for 2021, zeroing in on tenants deemed essential – with grocers, drugstores, home improvement, and dollar stores at the top of the list. As a result of their essential businesses, these retailers have maintained a significantly stronger financial position throughout the pandemic compared to non-essential businesses; thus, attracting investors.

Beyond their ability to thrive during the height of the pandemic, single tenant net lease properties typically have much longer lease structures with terms beyond 15 years and a corporate guaranteed lease.

This makes the product type extremely attractive for investors due to resilient income streams and timetested confidence in rent collection.

DEAL VOLUME AND PRICING SUMMARY SOU RCE: RCA

QUARTERLY VOLUME

PRICE AVERAGES

$B

YOY CHG

#PROPS

YOY CHG

$/SF

CAP RATE

YOY CHG

Rental Total

$7.8

-42%

1,016

-27%

$175

6.7%

0

Centers

$3.8

-50%

362

-36%

$132

7.2%

0

Shops

$3.9

-31%

654

-21%

$252

6.1%

-10

6 Major Metros

$2.4

-54%

260

-34%

$314

-

-

Non-Major Metro

$5.3

-34%

756

-25%

$149

-

-

Grocery

$1.7

-36%

148

-13%

$145

6.7%

-10

Unanchored Retail Center

$1.2

-46%

216

-40%

$194

6.9%

0

Single Tenant Retail

$2.5

-16%

404

-20%

$234

6.2%

-10

Drugstore

$0.6

14%

119

8%

$363

6.0%

-20

The cap rate, which investors use to gauge the profitability and return potential on a commercial real estate asset, is a subtle but crucial demand indicator.

Higher cap rates typically involve more risk, while the lower rates are associated with more stability and capture a higher sale price, which reflects strong, often competitive, investor interest. This demand has sent the property type’s annual yield to a historic low of 6.75 percent, a 25 to 35 basis point drop on active deals. By comparison, cap rates between 2018 and 2019 only fell by four basis points.

Commercial real estate professionals predict further cap rate compression in the market, although it will depend on the sector, location, and tenant quality. The pressure is now on buyers who are forced to accept lower returns in the form of lower cap rates to secure a pandemic-resilient net lease asset. In combination,

the low interest rate environment and economic recovery will drive up the value of net lease retail.

During economic dislocation and uncertainty, property owners typically hold on to investments, further driving a gap between buyers and sellers. For example, there aren’t many buyers for OfficeMax or Staples these days, so sellers aren’t putting them on the market. Further, institutional sellers aren’t selling in an effort to keep shareholders happy and maintain well-performing portfolios.

The low interest rate environment has also added pressure to the short supply as corporate sellers choose to refinance loans and hold on to properties they might have otherwise sold. Combined with the lack of construction, this shift tells an essential story about the current retail landscape and the disconnect between buyers and sellers.

CASE STUDY: DRUGSTORES Drugstores have very little competition amongst established players in the market as three companies dominate the drugstore sector – CVS Health, Walgreens, and Rite Aid. Walgreens recently acquired 2,000 Rite Aid locations; Rite Aid currently has around 2,500 locations. This makes the threat of a new competitor or concept slim; pair this with health being at the forefront of consumer minds, drugstores will continue to fare well.

Recently, Amazon announced its online pharmacy, where customers can place online orders for medication and prescription refills to be delivered to their homes. However, CVS Pharmacy and Walgreens both have a loyal customer base and already have delivery services in place. CVS Pharmacy and Walgreens also utilize local pharmacists that provide on-the-spot medical information and COVID-19 drive-thru testing. Before the

RITE AID HEAT MAP

SOURCE: MATTHEWS™ RESEARCH

MARKET KEY

HOT

WARM MIDDLE COOL

COLD

STORES TOTAL= 2,450

pandemic, drugstores were already making strides to improve customer experience through partnerships and technology investments. CVS has remodeled locations to focus on health services through HealthHUBs and has expanded and stepped up protocols through MinuteClinic. Walgreens recently partnered with VillageMD, a national provider of primary care, and PWNHealth, a national clinician network that provides safe and easy access to diagnostic testing.

Further, both brands have incorporated free prescription delivery as part of their services.

Recently, federal health officials have reached an agreement with pharmacies across the U.S. to distribute free coronavirus vaccines. With these continued improvements, it is evident that drugstores will remain recession and pandemic-resilient.

A SELLER’S MARKET Buying competition and pricing have curated an environment that favors sellers. These days, it’s a seller’s market for net lease properties for several reasons. For one, net lease investments are easier for investors to manage than multifamily, where maintenance is required. Therefore, many investors are exiting the apartment space. Second, they

provide long-term stable income streams. Single tenant net lease properties have longer lease structures with terms that can go beyond 15 years.

From a rent collections standpoint, this provides investors with much-needed stability and assurance. Third, demand for net lease properties outstrips supply.

RISK & UPSIDE POTENTIAL

SOU RCE: M ATTHEW S ™ RE S E ARC H Attribute

Overall Retail

Restaurants

Grocery

Drugstore

Dollar

Convenience

Auto

17.36

15.05

18.46

21.48

14.50

17.00

17.68

Average NOI

$193,126

$174,292

$1993,564

$354,241

$94,804

$198,397

$143,464

Average Cap Rate

5.49%

5.55%

4.96%

5.48%

6.66%

4.90%

5.37%

Average Property Size (SF)

9,565

6.007

17,342

14,036

8,614

4,617

6,775

Recession or Pandemic Sensitivity

N/A

High

Low

Low

High

Average

Low

Inflation Risk

N/A

High

Average

Average

Average

High

High

Average Lease Term (YR)

The substantial buyer demand for net lease properties will help convince more owners to sell, which will point the industry towards recovery. Investors anticipate an active acquisition year in 2021, with corporateguaranteed leases as one of the most popular avenues, especially for 1031 Exchanges.

business models. 1031 Exchanges provide an incentive for owners who are not in a position to make significant building modifications. This strategy transfers properties into the hands of buyers willing and able to invest fresh capital and optimize these properties for future tenant needs.

1031 Exchanges and sale leasebacks are poised to play a significant role in transaction activity in 2021.

As the future of 1031 Exchanges remains unclear, 2021 is anticipated to be a strong year for tax-deferred exchange transactional activity. The pandemic has created an unprecedented need to repurpose and renovate existing real estate to meet post-pandemic

Today’s environment is also an opportune time to consider a sale leaseback transaction. The frequency of sale leasebacks is increasing as a means to generate equity value. J.C. Penney is a prime example of a high-profile company utilizing sale leasebacks to unlock liquidity during tough times. Other examples include Bed Bath & Beyond and Big Lots.

The COVID-19 pandemic accelerated the inevitable digital distribution of e-commerce and has caused a significant consolidation of retailers, fundamentally altering the competitive market.

Investors look for investment-grade tenants with a history of longevity and a proven track record of staying profitable in all economic climates. This is an opportune time to take advantage of the opportunities available in the market.

For more information, please reach out to a Matthews™ specialized agent.

COURTNEY HAUBACH courtney.haubach@matthews.com (949) 336-3541

CHAD KURZ chad.kurz@matthews.com (949) 662-2252

Exceptional Service Exceptional Service

at Your Fingertips Fingertips at M AT T H E W S ™ S E R V E S Y O U R C R E N E E D S F R O M INVESTMENT SALES TO LEASING AND FINANCING.

Net Lease Retail

Industrial

Shopping Centers

Self-Storage

Debt & Structured Financing

Multifamily

Healthcare

Retail Leasing

™

W W W. M AT T H E W S . C O M

What is the State of CRE Financing?

Commercial and multifamily mortgage loan originations decreased 14 percent in the first quarter of 2021 compared to the same time last year, according to the Mortgage Bankers Association. This dip is a reflection of a loan origination lingering from the pandemic that disrupted markets last year. The good news, deal activity is climbing and lending conditions are improving as U.S. banks become more optimistic about the economic outlook for 2021. According to Real Capital Analytics (RCA), commercial property sales are up 73 percent from a year earlier in May. As the recovery matures, banks expect loan demand to increase even more.

CREFC Board of Governors CRE Finane Sentiment Index SOURCE: PRNEWSFOTO/ CRE FINANCE COUNCIL

118

118.7

114 111.9

110 106 102 98

104.4 100.1

100.0 4Q17

1Q18

94 90 86

2Q18

3Q18

4Q18

94.1 90.4

1Q19

100.6 2Q19

3Q19

94.4

93.9

4Q19

1Q20

2Q20

3Q20

4Q20

1Q21

89.2 86.5 84.4

82 78 74 70

71.6

The CRE Finance Council (CREFC) reported a strong upward surge in a positive outlook for lending. 88 percent of CREFC board members expected overall lending to be higher in 2021 than 2020, with more than half (56 percent) expecting volumes for full-year 2021 commercial and multifamily real estate lending to increase by at least 20 percent over 2020’s tally.

Increased Liquidity One year ago, the economic environment was vastly different than what it is today. Last summer, people nationwide saw no resolution in the slowing spread of COVID-19 as the pandemic resurged in many major markets.

Furthermore, the pandemic’s effect on commercial real estate was still largely unclear. In response, traditional commercial debt providers slowed their lending pace and tightened their lending standards.

Provisions will drop dramatically as credit outlook has improved ($B) SOURCE: S&P GLOBAL

140 120 100 80 60 40 20 0 -20

2016A

2017A

STATE OF CRE 2022P 2023P 2019A 2020A FINANCING 2021P

2018A

Provision for loan and lease losses Large U.S. banks saw their loan books shrink until now. Despite a three to four month lending stint in 2021, U.S. banks are now lending in full force. Besides the traditional players, newcomers are also entering the space, including private equity, debt fund vehicles, and even operators are investing into parts of the capital stack. Considering the low-rate environment, investors are looking at the risk-adjusted returns, and these new debt funds offer decent yields.

There is seemingly no end to capital markets’ reach these days as funds are grated for construction, office, and even hotels despite their poor performance in 2020. According to the Mortgage Bankers Association, industrial and multifamily properties continue to attract the most significant interest, scoring even better terms than pre-pandemic.

Net charge-offs

The Federal Reserve’s latest Senior Loan Office Opinion Survey on Bank Lending Practices showed that banks reported robust demand for construction and land development and multifamily loans. Multifamily fundamentals, including leasing and rent growth, have largely recovered from the pandemic, and lenders have noticed.

Multifamily Lending Trends An increase in bridge lending transactions A surge in equity & financing solutions A renewed emphasis on affordable housing Lenders are also completing more office deals, even though the future is admittedly still unclear. A similar situation is seen in retail, where strip

2024P

2025P

Provision less charge-offs centers and restaurants are attracting funding. Furthermore, there is money available in the hotel space from an equity and debt perspective. Although it might take longer for corporate travel to return, leisure travel is returning reasonably quickly. Another niche product type coming out of the woodwork is selfstorage, which proved more resilient to COVID-19 than expected. To say that competition is high in the debt market is an understatement.

However, although deals are getting done in the office, retail, and hotel space, most of the capital is chasing specific asset types. Lenders focus on the tenants’ health, analyzing tenant financials and the resiliency of cash flow coming out of the pandemic. A fall in loan originations for hotels, retail, and office led to the overall decrease in commercial lending volumes.

Distressed Investment Popularity

Leading Origination Hotel – decreased 82% Retail – decreased 45% Office – decreased 34% Multifamily – decreased 5% Industrial – increased 66% Healthcare – increased 5%

Even distressed asset borrowers are finding the necessary capital, thanks to the plethora of demand and funds dedicated to this particular asset class.

Preliminary RCA data shows that through the first five months of 2021, investors acquired 12 percent of distressed assets with the intent to redevelop. With most property owners well-capitalized before the crisis, many find success through repositioning assets that lack income prospects.

SOURCE: MORTGAGE BANKERS ASSOCIATION

Private Buyers in the Distressed Driving Seat SOURCE: REAL CAPITAL ANALYTICS

Buyer composition of US distressed assets, Covid era vs Global Financial Crisis Q2’20 to Q1’21

7%

20%

6%

64%

STATE OF CRE FINANCING 2010 to 2012

Cross-Border

8%

Institutional/Fund

40%

41%

8%

Listed/REITs

Facing Inflation Fears Investors have recently expressed inflation concerns. The Federal Reserve expects the personal consumption expenditures index (PCE) to rise three percent in Q4 2021. In the short run, owners and investors will need to confront management challenges if inflation pressures continue to build in the economy.

Investors worry that this change in the macroeconomic environment could undermine their investments.

However, over the long term, commercial real estate prices will keep pace with broader inflationary trends.

According to RCA, the last time the U.S. dealt with high inflation was in the 1970s. Owners who purchased before the inflationary spikes did well as they could pay off mortgages using devalued currency, and overall commercial prices kept up with and outperformed inflationary trends. However, this period was not an excellent time for lenders as mortgage rates increased to excessive levels as they struggled with high inflation

Private

User/Other

and high-interest rates. In the aftermath, commercial real estate prices underperformed relative to inflation for the next decade.

The underperformance was also contributed to by a new tax policy which led to a surge in new construction, with new supply coming to the market in the 1980s well above the pace needed by the economy. With too much supply, rents fell, and with high mortgage rates and cap rates, values plummeted.

Given this information, investors anticipate the same sort of lost decade for price growth experienced from the 1980s to the mid-1990s. However, supply is still under control today, and there is little risk in the near term that the regulatory changes that helped construction in the past will return. The Wall Street Journal’s economic forecasting survey shows that the CPI will grow at a 2.3 percent annual pace by the end of 2023.

Long-Term US Commercial Property Prices Price Growth

GDP Deflator

Recessions

YOY growth 20 15 10 5 0 -5 -10 -15 -20 -25 ‘51

‘55

‘59

‘63

‘67

STATE OF CRE FINANCING ‘71

‘75

‘79

‘83

‘87

‘91

‘95

‘99

‘03

‘07

‘11

‘15

‘19

SOURCES: REAL CAPITAL ANALYTICS, NREI, FEDERAL RESERVE BANK, NBER

Concerns with New Construction Financing Lenders remain cautious about new construction.

This, of course, has always been the case since the events seen in the 1980s. Further, there are numerous risks in the market today that could delay or halt project completion, including increased material prices, trouble with approvals, and labor shortage.

As a result, borrowers require more from lenders on ground-up development and vice versa. Therefore, the equity may not be able to achieve the necessary yield for ground-up construction. Typically, the loan-to-value for a construction loan is 60 percent, 65 percent, or 70 percent.

A new trend in the development space is developers turning to private equity providers, essentially removing the “middleman” to create more profit and less investment

Looking Ahead The capital markets have undergone a 180-degree turn from 2020 to 2021, but much remains to be seen as the pandemic’s recovery takes shape. In the coming months, the market will see the beginning of rising interest rates and a steeper yield curve.

For more information, please contact a Matthews™ specialized agent.

MULT I FAM I LY CO N ST RUC TI ON : W H AT ’ S T H E STAT U S

BY DANIEL WITHERS

NEEDS TO BE FINALIZED

Large volumes of new multifamily units are stretched across the United States, but delays make it difficult to get these properties across the finish line. With building material supply chain disruptions, a dire shortage of qualified labor, and difficulties obtaining approvals, developers face headwinds to complete projects on time and within budget.

While the impact of the COVID-19 pandemic has yet to be fully realized in the multifamily space, a housing shortage and demographic considerations indicate increased demand for multifamily in the foreseeable future. In this article, Matthews™ explores the constraints looming and opportunities present in the multifamily market.

CONSTRUCTION DEMAND & M U LT I F A M I LY S TA R T S According to the National Association of Home Builder’s Multifamily Market Survey, confidence increased in the market for new multifamily housing for Q1 2021, indicated by improved sentiment from builders and developers. This positive increase is measured by two indexes – the Multifamily Product Index (MPI) and the Multifamily Occupancy Index (MOI).

MPI - Measures builder and developer sentiment about current conditions in the apartment and condo market on a scale of 0 to 100. The index is scaled, so a number above 50 indicates more respondents report improved conditions than worsening conditions. It is a weighted average of three key elements – construction of low-rent units, construction of market-rate units, and newly constructed units listed for sale.

In Q1 2021, the MPI increased eight points to 51 compared to the previous quarter. This is the first time the MPI has been over 50 in seven quarters. The component measuring low-rent units rose four points to 46, the component measuring market-rate rental units increased six points to 54, and the component measuring for-sale units jumped 13 points to 52.

MOI - Measures the multifamily housing industry’s percent of occupancies in Class A, B, and C existing apartments. It ranges from 0 to 100, with a break-even point at 50. Higher numbers indicate increased occupancy.

In Q1 2021, the MOI increased one point to 59, improving over the last three quarters.

According to the National Multifamily Housing Council (NMHC), these surges in Q1 2021 coincide with a similar surge in the multifamily unit (5+) starts on a seasonally adjusted annual rate of 440,300, a 28.3 percent increase in the first quarter, down 12.5 percent from the previous year. Multifamily permits (5+ units) rose 28.1 percent in Q1 2021 from Q4 2020 to a seasonally adjusted annual rate of 597,000, up 18.5 percent from Q1 2020. Multifamily completions fell 7.6 percent from last quarter and rose 5.4 percent from a year before a seasonally adjusted annual rate of 362,700. The sizeable quarterly increase in multifamily permits and starts can likely be attributed to seasonal weakness in the fourth quarter and widespread signs of reopening economies. Based on these recent numbers, the National Association of Home Builders anticipates an increase in multifamily starts this year, with 2021 bringing a banner year for new completions.

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THE VALUE IN A

Dollar Store

BY JOSH BISHOP

The net lease retail sector has continuously grown in popularity among investors due to passive income and minimal management responsibilities. One of the favored segments is dollar stores, a popular discount retail sector that evolved during 2020 as consumers were shadowed with uncertainty. Dollar stores offer an advantage to investors as they target low-income shoppers and thus prove successful in all economic environments.

Two retailers dominate the dollar store world — Dollar General and Dollar Tree/Family Dollar — both of which have posted positive gains in 2020, released expansion plans, and new concepts for 2021. In this article, Matthews™ reviews future dollar store initiatives and activity.

PERFORMANCE REVIEW

Once largely overlooked by many investors, dollar stores saw a substantial increase in investment activity in 2020 as the product type offers essential retailers backed by longterm leases, investment-grade credit, high sales volumes, and comparatively low prices to other net lease properties.

The heightened demand compressed cap rates to 5.88 percent in Q2 2021, according to CoStar data.

D O L L A R S T O R E C A P R AT E COMPRESSION Source: CoStar 6.75% 6.50% 6.25% 6.00% 5.75%

Q2 Q3 Q4 Q1 Q2 Q3 Q4 Q1 Q2 2019 2019 2019 2020 2020 2020 2020 2021 2021

-----------------------Dollar stores were s among the few tenant rent that did not request ns io abatement or reduct as during the pandemic d operations ensued an business boomed.

------------------------

Transactions

profile for these assets are investors seeking longterm corporately guaranteed leases by an investmentgrade credit tenant at a higher rate of return. While Dollar Tree Inc.’s 10k report did not detail 2021 sale projections, the company noted that all future cash flow would be utilized for development, expansion, and paying down debt.

As dollar stores' revenue increased, so did investor interest. As shoppers from various demographics flocked to discount chains deemed essential during the pandemic, investors followed. Over the last 12 months, the dollar store sector achieved an average price of $2 million, recording an overall sales volume of $3.1 billion.

DOLLAR GENERAL Dollar General saw transactional volume of $4.1 billion in 2020, a $2.8 billion increase from 2019 volume.

As of May 2021, Dollar General has reached $477 million in transaction volume. Generally speaking, Dollar General most commonly signs 15-year absolute NNN leases, although its older lease structure was a 10-year NN. There are two very active buyer profiles for Dollar General – those seeking a higher return in shorter-term NN leases and those looking for 100 percent passive income at a lower rate of return in Absolute NNN deals.

D O L L A R T R E E & F A M I LY D O L L A R Dollar Tree Inc. saw $1.43 billion in transaction volume during 2020, a nearly $1 billion decrease compared to 2019 activity. However, it is worth noting that both Dollar Tree and Family Dollar saw an uptick in volume during the second half of 2020. Thus far, in 2021, Dollar Tree Inc. has achieved a transactional volume of $695 million. Dollar Tree and Family Dollar offer 10-year NN leases, and only a few hundred Family Dollar properties offer 15-year NNN leases. The buyer

SALES VOLUME & SALE PRICE PER SF $130 $120 $110 $100 $90 $80 $70 $60 $50

2012

2014

2016 ● Sales Volume

2018

2020

$1.6B $1.4B $1.2B $1B $800M $600M $400M $200M $0

Sales Volume

Sale Price Per SF

Source: CoStar

● Price Per SF

R E C E N T M AT T H E W S ™ A C T I V I T Y Source: Matthews™ Research Tenant

City

State

Sale Date

Cap Rate

Term

Type

Yr Built

Bldg Size

Dollar General

Beaumont

TX

6/15/21

5.35%

15

NNN

2021

9,100

Dollar General

Mountain Home

AR

6/9/21

5.50%

15

NNN

2021

9,100

Dollar General

Fairplay

CO

6/8/21

5.50%

15

NNN

2021

9,100

Family Dollar

Pensacola

FL

6/1/21

5.95%

9.5

NN

2021

9,180

Dollar General

Benton

AR

5/20/21

5.75%

9.5

NNN

2015

9,026

Dollar General

Madrid

NY

3/19/21

6.40%

15

NNN

2021

9,026

Dollar Tree

Cullman

AL

3/12/21

6.50%

10

NN

2021

10,000

Family Dollar

Ft Worth

TX

3/11/21

5.52%

11

NNN

2017

8,420

Dollar General

Owasso

OK

3/5/21

5.85%

14

NNN

2020

9,100

Tulsa

OK

1/29/21

5.50%

14

NNN

2020

9,100

Dollar Tree

Dollar General

Ft Worth

TX

1/23/21

5.65%

11

NNN

2017

8,330

Family Dollar

Kenner

LA

1/12/21

6.50%

10

NN

2020

12,000

Revenue

Since 2000, large discount stores have recorded tripled store sales, showcasing their rise in popularity among consumers. According to Bloomberg, the dollar store industry’s monthly store sales increased 12 percent year-over-year in 2020, more than the seven percent increase in 2019. The 2020 growth was bolstered by the incredible 35 percent growth rate seen in March 2020. While the majority of sales stemmed from repeat customers, new shoppers helped push overall consumer spending over the last 12 months.

Y E A R - OV E R -Y E A R S A LE S G R O W T H F O R D O LL A R S TO R E S Source: Bloomberg 60% 50% 40% 30% 20% 10% 0% -10% -20% -30%

Jan 2019

Mar

May

Jul

● Dollar General

Sep

Nov

● Dollar Tree

D O L L A R T R E E & F A M I LY D O L L A R Dollar Tree Inc. released its 2020 fourth quarter and fiscal year financial results, reporting $25.51 billion in revenue, eight percent higher than 2019’s $23.61 billion. The Q1 2021 results posted $6.48 billion in net sales, a three percent increase year-over-year from $6.29 billion. Combined, Dollar Tree and Family Dollar’s cumulative same-store sales rose 6.1 percent in 2020, with Family Dollar’s sales increasing 10.5 percent and Dollar Tree’s sales increasing 2.2 percent.

In Q1 2021, same-store sales for Dollar Tree increased 4.7 percent, and Family Dollar’s same-store sales decreased 2.8 percent compared to last year. Dollar Tree Inc. did not provide projections on same-store sales. Still, Dollar Tree’s earnings report expects to reach $1.2 billion in capital expenditures as it continues to chip at $3.25 billion in outstanding debt.

Jan 2020

Mar

May

● Family Dollar

Jul

Sep

Nov

Jan 2021

● Industry Average

DOLLAR GENERAL According to Bloomberg, Dollar General was the only company to outpace the industry average in annual sales growth. The dollar store accomplished a 21.6 percent increase from 2019 sales of $27.8 billion to $33.7 billion in 2020. According to the Dollar General CEO, Todd Vasos, the company accredited the boost to new, high-income customers “trading down” to discounted stores during these uncertain times. The Q1 2021 results showed a 4.6 percent decrease in same-store sales and a 0.6 percent decrease in net sales to $8.4 billion. The company’s earnings report projects overall sales to be stagnant or down by at least two percent, and same-store sales are off by four to six percent.

--------------------------------------Dollar General accomplished its 31st consecutive year of same-store sales growth in 2020.

Source: Todd Vasos, Dollar General CEO

--------------------------------

Logistics

The discount chains have started focusing on logistics by building distribution centers to better position themselves in the market. With solid operations and scalable distribution networks in place or in the works, the dollar store segment is committed to cutting costs by implementing new supply chain initiatives.

D O L L A R T R E E & F A M I LY D O L L A R Dollar Tree Inc. is in a strong position, with 28 distribution centers already in place. Yet, the company continues to focus on supply chain logistics and efficiency efforts. Just last year, Dollar Tree Inc. opened two distribution centers around 1.2 million square feet each, one in Rosenburg, TX, and the other in Ocala, FL. DOLLAR GENERAL Looking to cut costs on produce and drive sales, Dollar General started the DG Fresh initiative, a two-year-old program concentrating on shifting the company to self-distribute fresh and frozen food to its locations. So far, Dollar General’s distribution network delivers from eight dry distribution centers and ten DG Fresh (cold storage) facilities to 16,000 of its stores, surpassing its previous 14,000+ projection. It hasn’t stopped there, with DG Fresh warehouses currently underway in West Sacramento, CA, Ardmore, OK, and Bowling Green, KY. The company reported that the DG Fresh initiative is the most significant contributor to its realized gross margin benefit.

--------------------------About 45% of the 3,59 7 U.S. retail store op enings announced so far in 2021 are from Dollar General, Dollar Tree, and Family Doll ar.

Source: Coresight Research

--------------------

--------

RECENT ACTIVIT Y

Dollar General

Dollar General’s incredible momentum in 2020 pushed the company to launch various initiatives, programs, and expansions that have kept the retailer relevant and investors interested. The bargain retailer reached 17,177 store locations.

The deep discounter has announced plans to build 1,050 new stores, remodel 1,750 stores, and relocate 100 stores in 2021. Put into perspective, one store is within five miles of 75 percent of the U.S. population. Dollar General is working towards doubling the store count in the long term.

D O L L A R S T O R E S L E A D I N U . S . R E TA I L STORE OPENINGS IN 2021 Source: Coresight Research

1,035 1,035

Dollar General 393

Dollar Tree 198

Family Dollar Five Below

158

Casey’s General Stores

132

Aldi

100

Burlington Stores

92

Signet Jewelers

87

Tractor Supply

80

Aerie

76

B E T TE R F O R YO U The Better For You program aims to fulfill the discounter’s mission of Serving Others by partnering with a registered dietitian to create recipes with in-store items that are low on added sugar, sodium, and saturated and trans fats. Better For You focuses on utilizing healthier food and beverage choices from the brand’s private label, Good & Smart, further boosting its value.

---------------------------------Grocery staples and household essentials helped drive Dollar General’s sales growth throughout the pandemic as consumers cooked more at home and watched their budget during a period of economic uncertainty.

Source: CNBC

-------------------------

DOLL AR GENER AL PLUS Going in hand with the DG Fresh program, Dollar General Plus is another store format the dollar store is experimenting with. Dollar General Plus stores are typically around 10,640 square feet and formatted after its traditional stores, but with more floor space to offer fresh produce and expanded cooler doors and freezer space.

The store’s fresh produce is carefully selected based on the most commonly sold items in grocery stores. Additionally, the new store concept includes home décor and an expanded party preparation selection. This format is being implemented into existing Dollar General stores through remodels, dubbed Dollar General Traditional Plus (DGTP). When built from the ground up, it is referred to as Dollar General Plus. The DGP prototypes have outperformed the chain’s comp-sales and have seen considerably higher sales volume than traditional and DGTP stores. These DGP formats will account for more than 550 store projects in 2021.

POPSHELF As part of its Non-Consumables Initiative (NCI), Dollar General launched its latest new store concept, popshelf. Dollar General leveraged its robust customer insights from the NCI to create the specialty store, selling trendy home décor, beauty products, cleaning supplies, party goods, and more, all for $5 or less.

Popshelf targets suburban customers with a higher annual income between $50,000 and $125,000. The first store opened in Nashville, TN, in 2020, along with four other locations. So far, these 9,000 square feet specialty stores have outperformed the rest of the chain, and Dollar General has since bumped its original plans to expand popshelf by 30 locations to 50 by the end of 2021. The company plans to incorporate the concept in a smaller footprint in up to 25 Dollar General stores in 2021.

DOLLAR GENERAL EXPRESS After Dollar General’s 2016 extensive research revealed that millennials were part of the company’s shopper segmentation, the discounter started experimenting with a convenience-oriented concept store, Dollar General Express (DGX). There are currently 22 DGX stores throughout the U.S., including Nashville, Memphis, Chattanooga, Huntsville, Philadelphia, Cleveland, and Columbus.

DGX stores are smaller and more modern retail formats (7,300 square feet), primarily developed in downtown metropolitan areas, catering to city-dwellers. DGX offers grab-and-go products, ranging from lunch foods, household essentials, health and beauty supplies, and much more, at deeply discounted prices.

DG GO! Launched in 2018, Dollar General was the first dollar store to announce mobile checkout through DG Go! The app boasts an item scanner, coupons, and alerts for promotions, allowing the customer to avoid the checkout line altogether.

The dollar store giant recently went on a five-day hiring spree in April, bringing 20,000 employees to a wide range of positions to accommodate dramatic changes in customer’s shopping habits. Dollar General has since seen its pickup and delivery business grow and has ramped up efforts to transition its stores to operate as both fulfillment centers and retail spaces.

Dollar Tree & Family Dollar

Dollar Tree Inc. is implementing several new initiatives to improve sales, including new items, products of various prices, store renovations, and expanded frozen goods selection. Already, results are showing that these strategies are yielding more sales.

Currently operating over 15,500 stores, Dollar Tree Inc. announced plans to open 600 new stores (400 Dollar Trees, 200 Family Dollars), in addition to 1,250 Family Dollar renovations.

COMBO STORES & H2 STORES The discounter wants to combine the Family Dollar and Dollar Tree banners in one store location, dubbed combo stores. Combo stores are designed to serve small towns with populations ranging from 3,000 to 4,000. Dollar Tree Inc. plans to expand this concept to as many as 3,000 rural areas. To feature improved merchandising and an expansive refrigerated and frozen food offering, Dollar Tree Inc. has started renovating Family Dollar stores, called the H2 format.

Combining the two chains into one location helped minimize the COVID-19 impact. Instead of building two properties, the company saves by housing both brands in the same size building as one store. Further, customers get more bang for their buck without leaving the store, as they no longer need to visit different locations to complete their shopping needs.

These combo stores can see increased customer visits, cart size, and profits by optimizing shopper convenience. Already, the combo stores see samestore sales exceeding 20 percent, compared to traditional stores.

After seeing increased sales and customer satisfaction in its H2 store formats and combo stores, the company plans to incorporate these in its expanding strategies moving forward. H2 formats and combo stores are part of the 200 Family Dollar stores slated to open this year. Management reported that renovated stores saw ten percent higher sales, though COVID-19 may be a contributor.

-----------------------------The value-oriented retail sector performs well with price-conscious consumers, with dollar stores benefitting tremendously from that trend.

Source: CoStar

-----------------------

D O L L A R T R E E P L U S & I N S TA C A R T About 500 Dollar Tree locations are currently testing a new Dollar Tree Plus initiative, selling a range of items above the traditional $1 price.

This has allowed Dollar Tree to expand in-store offerings, including name brands, size and value of products sold, and new items. To stay within the ranks of major retailers like Walmart, Family Dollar partnered with Instacart last year and has plans to implement it in more than 6,000 of its 7,900 existing stores.

Outlook for Dollar Stores

Being an attractive investment alternative due to their strong performance throughout the pandemic, dollar stores continue to see heightened activity in the near term. With the announcement of the Biden Administration’s proposed tax plan targeting 1031 Exchanges, dollar stores have reigned supreme in 2021 as investors continue to hunt for stable, long-term, credit-backed tenants to place their capital. The dollar store segment is working diligently to remain relevant through initiatives, expansion plans, and new store concepts. Dollar stores are expected to see positive performance for years to come, thanks to their proven track record and new customer retention in 2020. For more information on dollar store investments, contact a Matthews™ specialized agent today.

Josh Bishop

josh.bishop@matthews.com (214) 692-2289

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THE FLIGHT TO TAX-FREE STATES

InveSTor Tax advanTageS

By Gavan SinGh & WeSley Connolly When it comes to investing in commercial real estate, it is crucial to understand prospective tax advantages.

Having an effective tax strategy can lower an investor’s overall tax burden and bring awareness to tactics like 1031 Exchanges and explore the maximum amount of deductions. One additional approach investors

consider is investing in states with no income or capital gains tax. In this article, Matthews™ presents various avenues for tax benefits to apply to current or prospective properties and investment goals.

Preserving capital and turning capital gains into more wealth should be top of mind for investors.

STaTeS WIThoUT InCoMe Tax No Income Tax

No Wage Tax

NEEDS TO BE FINALIZED

TaxaTion aT The STaTe LeveL A premium location with a corporate, credit-worthy tenant, like Dollar General, Advance Auto Parts, or KFC, is a starting point to finding success in investments. Typically, these absolute net lease (NNN) tenants are strategically located in areas with solid demographics and high visibility, attracting targeted customers that need their services.

Why is this important?

Absolute NNN leases require little involvement from the owner, which is why many investors consider purchasing net lease properties in states that don’t have a state income tax, no matter where the owner resides.

While investors are subject to federal income tax, each state handles income tax or capital gains individually. The majority of states have an income tax rate between two percent and 20 percent.

However, nine states do not tax personal income – Alaska, Florida, Nevada, South Dakota, Texas, Washington, and Wyoming. New Hampshire and Tennessee, do not tax earned income but instead tax interest income and dividend income. More recently, Tennessee eliminated its tax on investment income.

over The paST deCade, The nine STaTeS WiThoUT a perSonaL inCoMe Tax have ConSiSTenTLy oUTperforMed The STaTeS WiTh The higheST inCoMe TaxeS in gdp groWTh, eMpLoyMenT groWTh, and in-STaTe MigraTion.

SOURCE: AMERICAN LEGISLATIVE EXCHANGE COUNCIL

There is compelling evidence that states without income taxes outperform states that have them or even have relatively high rates. Therefore, investing in a state without income tax leads to the likeliness of a successful net lease investment and spares capital from income tax.

Many new investors are surprised to learn that they have to pay state income tax on their private placement income in their state of residence and the state(s) where their investment(s) are located. For example, a resident in California with an investment in New York will pay taxes in New York on the income earned, despite not residing there, and also pay taxes in California.

This differs for the taxation of public securities, such as Real Estate Investment Trusts (REITs). Investment offerings typically structured as partnerships don’t pay taxes at the partnership level; instead, the taxable income or losses are passed on to partners who pay taxes on dividends and capital gains in the states they reside.

2021 STaTe CapiTaL gaInS raTeS TabLe This table lists the capital gains rates for the 41 states where capital gains are taxed. Rates on investment income range from North Dakota’s 2.90 percent to California’s 13.30 percent. This does not include the nine tax-free states.

STaTe

raTe

STaTe

raTe

1.

aLabaMa

5.00%

15. KenTUCKy

5.00%

29.

norTh CaroLina

5.25%

2.

arizona

4.54%

16. LoUiSiana

6.00%

30.

norTh daKoTa

2.90%

3.

arKanSaS

6.90%

17.

Maine

7.15%

31.

ohio

5.00%

4.

CaLifornia

13.30%

18. MaryLand

5.75%

32.

oKLahoMa

5.00%

5.

CoLorado

4.63%

19. MaSSaChUSeTTS

5.05%

33.

oregon

9.90%

6.

ConneCTiCUT

6.99%

20. MiChigan

4.25%

34.

pennSyLvania

3.07%

7.

deLaWare

6.60%

21. MinneSoTa

9.85%

35.

rhode ISLand

5.99%

8.

georgia

5.75%

22. MiSSiSSippi

5.00%

36.

SoUTh CaroLina

7.00%

9.

haWaii

11.00%

23. MiSSoUri

5.40%

37.

UTah

4.95%

10. Idaho

6.93%

24. MonTana

6.90%

38.

verMonT

8.75%

ILLinoiS

4.95%

25. nebraSKa

6.84%

39.

virginia

5.75%

12. Indiana

3.23%

26. neW JerSey

10.75%

40.

WeST virginia

6.50%

13. IoWa

8.53%

27. neW MexiCo

4.90%

41.

WiSConSin

7.65%

14. KanSaS

5.70%

28. neW yorK

8.82%

11.

SOURCE: PROPERTY CASHIN

STaTe

raTe

The advanTageS and diSadvanTageS of inveSTing in a STaTe WiTh no inCoMe Tax Like any investment opportunity, there are pros and cons to investing in a state where the income tax burden is lower.

advanTageS

dISadvanTageS

Avoid Double Taxation: Double taxation occurs when an investor is taxed twice on the same amount of earned income. For example, an investor is forced to pay taxes on investment income in their home state and again in the state where the investment is located. It is important to note that most states provide a tax credit for the tax paid to another state. For example, a Pennsylvania resident owns property in Georgia. The investor will pay Georgia’s state income tax on the income earned, and Pennsylvania will give the investor a state tax credit for the taxes paid in Georgia from that investment. The credit is generally for the amount of the state tax paid to the nonresident state, or if the non-resident state’s income tax rate is higher, then it amounts to the tax that would have been paid in the resident state. Also, note that if an investment is made in a state with a higher income tax rate than the state of residence, the investor will pay tax at the higher rate.

Other Taxes are Higher: In states where the earned income tax is non-existent or lower, other taxes compensate to generate revenue and pay for roads, schools, and infrastructure.

These taxes include higher state and local taxes and property taxes. Tennessee ranks first on the list, with a combined state and local tax rate of 9.55%, the highest in the country.

Washington came in fourth with a rate of 9.21%, and the state levies a tax of 49.4 cents per gallon of gasoline, one of the highest rates in the nation. Florida imposes a 6% sales tax, and the average locality tacks on 1.08%, for a combined total of 7.08%. Wyoming, too, collects significant revenue from severance taxes, levies imposed on the extraction of natural resources. New Hampshire has no sales tax but takes the third spot on the list with an average property tax rate of 2.03%. In fact, 64% of New Hampshire’s revenue was from property taxes – the highest rate of any state. Texas received 44% of its revenue from property taxes. (Source: Tax Foundation)

Greater Investment Security: According to the American Legislative Exchange Council, states with a lower state income tax rate saw 109% greater population growth than those with a higher tax rate in the last ten years.

They also argue that job growth in those states grew 130% faster than their more highly taxed counterparts. These two statistics are important indicators of a booming real estate market, as the states are better at creating jobs and keeping a core of young, educated workers from moving to other states.

Higher Competition: NNN properties in these locations are accompanied by higher competition and a higher price point.

Although it may seem like money is saved due to no income tax, a premium price is paid for the property.

9 STaTeS WIThoUT an InCoMe Tax States without an income tax often make up for the lack of these revenues in other ways, such as: WaShIngTon

WyoMIng

nevada

SoUTh daKoTa

Low sales tax: 4.5% High gasoline taxes High state and local sales tax: 8.92% TexaS

aLaSKa

Low property tax: 0.58% Low sales tax: 4%

Imposes a gross receipts tax

No statewide sales tax but localities impose sales taxes: 1.76%

High property tax: 1.81% Exempts nonprescription drugs from sales taxes

fLorIda

Imposes a corporate income tax: neW 5.5% haMpShIre Tax on interest and dividend income

High sales taxes Highest beer tax

TenneSSee

STrong reaL eSTaTe fUndaMenTaLS in Tax-free STaTeS U.S. Population Percent Change (2010-2020): 7.4% U.S. Unemployment Rate (April 2021): 6.1% 16.00% 14.00% 12.00% 10.00% 8.00% 6.00% 4.00% 2.00% 0.00%

Washington

South Dakota

Nevada

Wyoming

Population Growth Rate

Texas

Florida

New Hampshire

Alaska

Tennessee

Unemployment Rate

SOURCE: U.S. CENSUS BUREAU, U.S. BUREAU OF LABOR STATISTICS

this Begs the question - is it Better to purchase an investment property in a state With average income tax levels or a mediocre deal in a tax-Free state?

If investing in a state with no state income is of interest, here are a few steps to get started. Step one, perform a market strategy and determine the strength of the market. Step two, contact a tax professional. Each state has varying income tax regulations, and it’s important to consult a tax advisor before making an out-of-state investment to understand how it impacts an individual’s tax situation based on residency and other applicable tax advantages.

addiTionaL Tax advanTageS for CoMMerCiaL reaL eSTaTe InveSTorS 1031 exChange-deferred CapiTaL gainS

As it currently stands, Section 1031 of the Internal Revenue Code allows investors to defer capital gains tax when they sell any property held for productive use in trade, business, or investment and reinvest one-hundred percent of the proceeds from the sale within specified time limits into a property or properties of like-kind and equal or higher value. Typically, the replacement property must be identified within 45 days and close within 180 days. Within this timeframe, an investor would be able to exchange an apartment building for a triple-net commercial property in a taxfree state.

note: Biden’s proposed american Families plan adjusts or eliminates some oF cre’s key policies regarding tax Breaks on 1031 exchanges. president joe Biden plans to “end the special real estate tax Break” When completing a 1031 exchange For gains larger than $500,000. this could result in signiFicantly diFFerent strategies, create less turnover, and decrease supply and demand.

CoST SegregaTion depreCiaTion

Commercial property will naturally age, require repairs, and inherently depreciate over time. Fortunately, an investor can take property depreciation deductions against income taxes to represent this loss in value.

Commercial properties are typically depreciated over 39 years.

A NNN lease investor may benefit from cost segregation or a 179 Deduction, a strategic planning tool used to assess an entity’s real property and identify a portion of costs that can be treated as personal property. By identifying personal property to be segregated from the building, a cost segregation study (CSS) can reassign costs that would depreciate

over 39 years to asset groups that depreciate more quickly. For instance, capital spent on non-structural improvements such as carpet, lighting, HVAC, and landscaping may be depreciated over five, seven, or 15 years rather than 39 years. This substantially shorter depreciable tax life frees up capital for other investment opportunities. If combined with an investment in a tax-free state, these additional savings help investors preserve capital, realize immediate cash flow, and achieve significant tax benefits on new and existing assets. opporTUniTy zone InveSTMenT

The Tax Cuts and Jobs Act introduced an incentive tax program, referred to as the Opportunity Zone program, allowing commercial investors to defer taxes on capital gains until December 31st, 2026, by reinvesting into a Qualified Opportunity Fund (QOF). The program is designed to encourage investment and economic growth in economically distressed communities, in turn offering federal tax incentives to the taxpayer who invests in a property located in one of these zones.

The program also offers the partial exclusion of previously deferred gains when specific holding period requirements in a QOF are met, and the permanent

exclusion of post-acquisition gains from a sale of an investment in a QOF is held longer than ten years. Investors who keep their money in a QOF for at least five years, before December 31st, 2026, are permitted to take a ten percent reduction in their capital gains tax basis, while those who keep their money in a QOF for at least seven years before December 31st, 2026, are permitted to take 15 percent reduction in their capital gains tax (meaning they would have needed to invest prior to December 31st, 2019).

note: the Biden administration is considering an overhaul oF the opportunity Zone program. although administration oFFicials have not settled on making adjustments, critics and supporters alike are pushing For measures that include more transparent reporting and Favor Working With the treasury department on Funding impoverished areas.

nUMber of opporTUniTy zone CenSUS TraCTS in Tax-free STaTeS SOURCE: THE OPPORTUNITY ZONE DATABASE

700

gavan Singh

600

gavan.singh@matthews.com (949) 777-5982

500

WeSLey ConnoLLy

400

wesley.connolly@matthews.com (949) 432-4512

300 200 100 0

nexT STop, Tax SavingS NNN investments offer many tax advantages and provide reliable monthly income and a steady, long-term return. The tax advantages previously mentioned provide an incentive to investors to preserve capital and reinvest in various commercial properties, which aids in portfolio diversification, and ultimately, wealth expansion. So, whether investing in a tax-free state is of interest or another strategy mentioned, remember, when it comes to real estate taxes, the more knowledgeable an investor is, the more money saved. For more information, please contact a Matthews™ specialized agent.

FL

NV

SD

TX

WA

WY

NH

TN

AK

*This material is not intended to provide and should not be relied on for tax, legal, or accounting advice. It is recommended to consult with tax, legal, and accounting advisors before engaging in any transaction.

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THE RISE IN SHORT-TERM APARTMENT RENTALS

BY J.A. CHARLES WRIGHT

OVERVIEW OF SHORT-TERM RENTALS

S hort-term rentals, otherwise known as vacation rentals, are typically furnished lodgings that are rented for short periods. These rentals can be more appealing than hotels because of the prices, furnishings, and space. Various companies, such as Airbnb and VRBO, serve as the “middle-man” between the renter and the host. The market for short-term rentals has reached all housing subsets, from single-family homes to condominiums to apartments. While the listing party typically has an ownership interest in the property being rented, that hasn’t always been the case. Many developers, owners, managers, renters, homeowners, and even homeowner associations have all joined the short-term marketplace to take advantage of the evergrowing “shared economy.”

This has many questioning what impact the COVID-19 pandemic has had on short-term rentals.

Unsurprisingly, short-term rentals currently rule the lodging sector as travelers demand clean, well-lit places with private space away from other people that provide location-based experiences. Other demands include kitchens, additional space, and unique accommodations and amenities.

Although the first couple of months of the pandemic presented some challenges across the board as businesses were forced to shut down, there have been spikes in bookings from July 2020 to the present, and recovery is not far behind. In fact, with COVID-19 as a constant backdrop, rentals in remote or rural areas have been highly sought-after as individuals seek vacations, weekend getaways, and new locations to work remotely. In 2020, the market share of total short-term travel lodging reached as high as 41 percent. This has helped Airbnb’s market cap surge to $130 billion, almost as much as the top five global hotel chains combined.

Multifamily has quickly evolved into a diversified sector with niche asset classes like student housing, senior housing, co-living, micro-units, and now, short-term rentals. These multifamily sub-sectors garner significant investor interest from private and institutional investors alike while driving change within the market and creating additional investment opportunities. The following article dives into the explosive growth in short-term rentals and how multifamily properties can leverage this business model to its benefit.

ARE SHORT-TERM RENTALS THE NEXT MULTIFAMILY NICHE?

W ith the emergence and increased popularity of Airbnb, multifamily owners have begun to embrace the short-term rental model. As it turns out, many long-term tenants are renting out their apartments to short-term guests, whether the landlord knows about it or not. Therefore, as these platforms take over the hospitality sector, new players have scaled the concept from private to institutional investment-grade multifamily assets. This moves the income away from the residents to the owners.

ROUGHLY 65% OF AIRBNB RENTALS ARE IN MULTIFAMILY BUILDINGS. SOURCE: NMHC

There are numerous young companies built around the short-term business model, with many catering to multifamily properties. These companies include Sonder, a professional accommodations provider, as well as WhyHotel, Stay Alfred, and HomeAway.

A representative from Sonder says in a Propmodo article that it has primary leases, partnerships, and agreements with all of its landlords of their properties, both apartment-style and hotel-style, for short and long-term guests. Despite Airbnb’s success, some predict that these master-lease communities will struggle post-pandemic. Either way, short-term rentals ultimately shift revenue from the hospitality industry to the multifamily asset class.

In recent news, RealPage announced their partnership with Airbnb to launch an apartment home-sharing app called Migo. Migo is designed to make it easier for residents and apartment owners to share their space on Airbnb and benefit from home-sharing.

The platform allows residents to recoup a portion of their monthly rent, while apartment landlords can differentiate their apartment offerings and share the financial benefit of home-sharing. The app will be available industry-wide in Q3 2021.

As short-term rentals draw more investor interest and the rising demand for them increases, many predict these rentals could be the next niche for multifamily.

Unlike traditional multifamily units, short-term rentals are leased to guests on a nightly, weekly, or monthly basis. Recently, Equity Residential indicated that a potential revenue-sharing deal with Airbnb might be on the horizon. Such a transaction would provide for a cut of rentals from Airbnb in exchange for the use of unoccupied units. Reportedly, AvalonBay Communities and Camden Property Trust have discussed similar potential deals.

Several factors have prepped the U.S. market for an influx of short-term rentals, including changes in travelers’ lodging expectations and business-related travels. This trend is most popular amongst millennials.

In fact, seven out of ten millennial business travelers prefer to stay in local rentals for reasons including staying in a unique place, feeling at home, and having access to a local neighborhood. Short-term rentals were also generally deemed safer than traditional accommodations by pandemic travelers.

MULTIFAMILY BENEFITS FROM SHORT-TERM RENTALS: Reduced Vacancies Diversified Revenue Stream Increased Demand

It is important to note that despite Airbnb gobbling up market share, short-term multifamily rentals are still down compared to standard numbers. According to AirDNA, a short-term rental analytics firm, the demand for short-term rentals in the U.S. is still significantly lower than 2019 levels. In December 2020, overall demand was down 21 percent, and multifamily demand was down by 30 percent. However, with 40 percent of multifamily units in urban areas, it doesn’t come as a shock. It is anticipated that once travelers stop avoiding major cities for leisure and business travel, demand will come back at a relatively rapid rate.

Experts expect demand to return by 2022, especially with half of the population having received at least one dose of the vaccine as of June and travel already beginning to recover.

CASE STUDY SOURCE: DEMAND SOLUTIONS

This case study includes data collected from Pillow Homes, a platform that analyzes the effects of shortterm rentals. The company surveyed the community and management team of two multifamily properties participating in the short-term rental model.

The communities experienced participation rates from 19% to 32% of their residents Those residents participating saw average net income of $835 and $1,075 per month, which helped them offset the growing cost of rent in an urban environment The communities received a monthly revenue share of $112 and $144 per participating resident, which went right to the bottom line

Through Craigslist advertising and the communities’ short-term rental policies, they received 16 incremental leases

Using a 6% cap rate, a stabilized community’s value will increase $1.3M from the incremental leasing and revenue while the lease-up increased its value just over $450K (on its first 50 units)

MARKETS POISED TO BENEFIT

G eography plays a vital role in determining if shortterm rentals will succeed. According to AirDNA, short-term rentals in urban areas are down 15 percent compared to 2019, but there is an increase in destination markets and small cities throughout the U.S. The most popular cities for short-term multifamily rentals include Fort Worth, Texas, and Jacksonville, Florida. These cities have seen robust recovery for multifamily units, and demand is 20 to 25 percent more than it was in 2019, according to AirDNA data.

Other popular markets for short-term multifamily rentals include Westchester and the Hamptons in New York, Greenwich, Connecticut, and warm-weather cities like Phoenix, Arizona, Las Vegas, Nevada, Charlotte, North Carolina, and states like Florida and Texas.

NEXT STEPS FOR SHORT-TERM APARTMENT RENTALS

T he number of short-term rentals absorbed by real estate investors and owners will depend on how the rentals are managed. Building owners can utilize Airbnb’s interface to independently manage listings or plenty of startups in the space who have created management tools for multifamily rentals. As shortterm multifamily rentals slowly come to fruition, owners should carefully weigh both the risks and benefits of these types of rentals and organize well-drafted contracts and regulations to absorb the significant benefits.

FOR MORE INFORMATION ON SHORT-TERM APARTMENT RENTALS, PLEASE CONTACT A MATTHEWS™ SPECIALIZED AGENT. J.A. CHARLES WRIGHT charles.wright@matthews.com (310) 295-4374

EVERY TENANT DESRVES CUSTOMIZED REAL ESTATE REPRESENTATION.

Regardless of size or location, Matthews™ is here to help!

MATTHEWS™ RETAIL LEASING TENANT REPRESENTATION We currently represent and assist local businesses, regional franchises, and national corporate tenants in identifying, negotiating, and securing lease locations.

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southern california Acapela Modern Mex

Gina’s Pizza

Mayweather Boxing & Fitness

Sweetfin

AKT

Great White

Papi Tacos & Churros

The Drunken Crab

Arby’s

Gyu-Kaku

Pure Barre

The Now

Bangin Buns

Health Nut

Remedy Place

The Stand

Burnin’ Mouth

Jersey Mike’s

Rockbird

Tu Madre

Chick Me Out Grill

Kiddie Academy

Row House

UrgentMed

Club Pilates

King & Queen Cantina

Silverlake Ramen

Veg’d

CycleBar

La Fresheria

Spruzzo Restaurant & Bar

YogaSix

Devil & Angel

Las’ Lap

StretchLab

Dog Haus

Le Macaron

Stride

Cleveland Barkour

David Berkley Insurance Group

Pro Martial Arts

Benjamin Moore

Day & Night Cereal Bar

RYBA Dentistry

Boss Chick N’ Beer

Express Employment Professionals

Sauce the City

CLE Brewing

Fifty-Six Kitchen

Scout & Mollys’ Boutique

Cookies

Health Source Chiropractic

Shelter Insurance

Corner Cup Coffeehouse

Just In Time Staffing

Smoothie King

Cricket Wireless

Krazy Bins

Teddy Baldassarre

Crumbl Cookies

Lakeside Laundry

Dave’s Cosmic Subs

No Fork Cafe

Dallas Baja Cantina

DRIP Bar

Marvel Car Wash

Bakers Dozen Donuts

Dutch Bros

Mochinut

bb.q Chicken

Egg N Bird

Nest Burger

CityVet

Feng Cha

World of Beer

Cold Stone Creamery

HTeaO

Curry Up Now

i Fratelli Pizza

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Leasing Strategies & Trends The Ultimate Guide to LEASING Leasing a NEW CONSTRUCTION

New Construction Shopping Center

BY XXXXXXXXX

Shopping center owners in 2021 are approaching retail leases cautiously and selectively due to the rent instability that occurred in 2020. Many landlords suffered as collection issues and vacancies rose because of the pandemic. As a result, new construction shopping centers welcome tenants based on their essential nature, income, and pricing transparency.

As consumer shopping patterns change, tenants also have to choose their location carefully. A common trend is a flight to quality centers. Moving forward, tenants are looking for unique outdoor space, safety, and tech infrastructure in both urban and suburban developments.

Although landlords would rather fill space than having space sit vacant on the market, there is a pricing disconnect between landlords and tenants. This gap keeps long-term retail leasing stagnant as more tenants opt to sign short-term leases, and landlords take on the risk, betting on the future of retail.

An B YOverall X X X XUpdate X X X X Xon the Leasing Environment

For shopping center landlords, the goal is to find well-performing tenants that can commit to long-term leases, ensure a steady stream of cash flow, and contribute to the center’s community.

However, the COVID-19 pandemic brought some changes to the shopping center space, including the rising trend in short-term leases and a lack of clarity regarding the value of retail properties.

As retail leases come up for renewal, the duration is shrinking to shorter terms. A long-term lease can last anywhere from ten to twenty years, or around four years for an average retail lease. But landlords were succumbed to the pressures brought on during COVID-19, as vacant space increased across the country, and tenants found themselves in a great position of power, signing new agreements with shorter lease terms and searching for space with less square footage.

NEW CONSTRUCTION LEASING

Shopping centers encapsulate every business from small businesses to nationally-recognized big-box tenants. In Texas, 70 percent of shopping center tenants are small businesses, one of the largest percentages nationwide. As such, each tenant holds a different value on what drives their performance in a shopping center. In this article, Matthews™ explores the relationship between landlords and tenants, the leasing trends occurring in the shopping center space, focusing mainly on new construction shopping centers in the Dallas-Fort Worth metroplex.

While short-term leases can pose unpredictable waves of tenants moving in and out, landlords shouldn’t view this lease type as unfavorable.

Even just having a tenant boasts occupancy, which can help when other tenants are looking for space. For example, tenants renegotiating their rents will have a challenging time arguing lower rent when the shopping center is full, albeit with some short-term leases. Tenants could also sign short-term leases, and rent could trend higher in the future when the market strengthens.

Tenants are looking for ways to slash costs, stay flexible, and maintain leverage over their landlords.

It’s currently a high-stakes game for landlords; however, the risk is a two-way street. In two to three years, shopping center owners can turn the tables on tenants by hiking rents to match the market rent or booting retailers out for other tenants.

On the other hand, more short-term deals could also leave landlords with greater vacancies.

and lease restructuring throughout 2021 and into early 2022, as some retailers will be unable to make balloon payments that were deferred and require additional deferral or abatement.

According to Costar, roughly 1.5B square feet of retail

space in the U.S. is set to

expire this year, equating to

about 14% of the retail market.

It is not uncommon to see a tenant with a pop-up or

short-term lease extend the

terms of their lease when the landlord provides flexibility.

There will be a higher threshold on renewing leases in the near term, as stores evaluate their role in the market and the investment required to meet new consumer needs. The way that tenants structure the lease will allow them to pivot as consumer behavior changes. It is anticipated that tenants will continue COVID-related rent negotiations

There is a divergence between shopping center assets and markets. Suburban neighborhood and grocery-anchored centers along the Sunbelt and in secondary cities will continue to be the most resilient. Malls and urban-core retail, however, face declines in occupancy, lease term, rent, and valuation.

As a result, investors are reluctant to make shortterm commitments in urban areas or malls until uncertainties regarding new customer trends are clarified and whether or not the current suburban migration patterns will continue post-pandemic.

It is anticipated that the amount of distressed properties will also increase throughout the nation.

NEW CONSTRUCTION LEASING

CASE STUDY:

DALLAS-FORT WORTH The DFW retail market will begin to recover in 2021, but landlords need to help tenants, experts say. The DFW market ended the year with above 90 percent occupancy in the region’s over 200 million square feet of retail. The shopping centers that lost tenants due to the pandemic will bounce back as retail entrepreneurs and strong chains regain confidence and acquire the space. DFW boasts some of the nation’s best economic fundamentals, with population and job growth exceeding other primary markets, allowing the bounce back to be higher. Absorption will record at about one million square feet in 2021, one of the lowest levels recorded, and new construction will also be down at 1.4 million square feet. Occupancy is expected to end the year at 92.5 percent and climb to 94 percent in 2022. In 2021, new construction will add 1.7 million square feet to the market. DFW reflects a trend throughout Texas and the United States where less new retail construction is underway because anchor tenants aren’t expanding, retailers are looking for smaller square footage, and there is a rise in construction costs impeding timelines. Compared to a decade ago where the size of a new retail project was 125,000 square feet, that number had decreased over 50,000 square feet to an average size of 70,900 square feet in 2020. This drastic decrease, plus population gains, help lower DFW’s leasable retail space per capita, a measure that experts use to illustrate that America is over-stored versus other countries, with DFW being one of the most over-retailed markets in the U.S.

NEW CONSTRUCTION LEASING

KEY TENANTS BACKFILLING

1. Food Halls

2. Restaurants with Outdoor Patios

3. Quick-Serve Drink, Dessert, and Snack Restaurants

4. Grocery Stores

5. Pet Specialty Stores

B Y X X Where X X X X Xare X X Tenants Looking for Space?

It is no surprise that tenants are looking for space in new developments that feature open-air shopping experiences. Developers are placing greater value on creating unique outdoor spaces for social and alternative shopping environments. Further, many retail centers now cater to the mixed-use, which means there is additional traffic from residents or office workers.

As shoppers gravitate

towards these types of

spaces, so do tenants as they deliver higher traffic volumes.

Gone are the days when tenants searched for space in urban malls. Today, suburban locations lend significant opportunities. However, it is essential to note that urban developers are taking more precautions as far as health standards by investing in high-quality air filtration HVAC systems and implementing technology for more connectivity with consumers.

Aside from new developments, tenants also seek second-generation shopping center space opportunities as these centers are already established and consumer-friendly. The landlord is also familiar with what tenants work within the neighborhood, space, and complement other tenants in the center.

NEW CONSTRUCTION VS. 2ND GENERATION SPACE SOURCE: XXXXXXXX

NEW CONSTRUCTION LEASING PROS For Tenants

CONS For Tenants

Build out space to fit tenant’s needs

More cost-intensive upfront due to the “shell” nature and space not always being white boxed

Potential for free rent for the first couple of months Attract more customers due to new customer-centric features More Tenant Improvement Allowance

Already built out with former tenant’s needs

No pre-existing fixtures Dependent on location, but typically more expensive rent

Less Tenant Improvement Allowance

Less cost-intensive upfront

If necessary, space will have to be rearranged

Dependent on location, but typically cheaper rent

Not the best solution for a tenant with a particular functionality Standard selections are based on the pre-existing building

B Y Considerations X X X X X X X X X for New Construction Space FINDING THE RIGHT TENANT MIX Tenant placement is vital in influencing shopper circulation. There is a spatial relationship between the anchor and non-anchor tenants and low impulse and high impulse retailers in tenant placement strategies. High impulse retailers should be placed in areas with more pedestrian flow because better

locations help sustain their business models.

In conjunction, the higher impulse retailers and non-anchors would be allocated on lower levels, whereas lower impulse shops and anchors are on upper levels. Thus, shops on lower stories would be smaller in size, and shops on upper stories would be larger.

TENANT IMPROVEMENT ALLOWANCE The most significant difference between brand new construction and 2nd generation space is the tenant improvement allowance (TIA). This allowance is typically calculated by a cost per square foot basis of the space. For example, a tenant leases a 5,000 square foot store-front with a $20 per square foot improvement allowance, which amounts to $100,000 for the tenant to put towards build-out expenses. The tenant is responsible for these costs upfront and most leases will require proof of completion, before the landlord reimburses the tenant for their work.

NEW CONSTRUCTION LEASING

To offset build-out costs and get tenants preleased for new construction, landlords sometimes offer tenants a rent abatement period or the deferral of rental payments until space is built out. Other incentives include white boxing space in leu of AIT. A white box finish signifies a tenant space that includes exterior walls, windows and doors, roofing, standard lighting and electrical, basic heating, ventilation and HVAC, concrete floors, restrooms, etc. Although this may seem like a bare-minimum construction project, all the above components are built to code and ready for tenant improvements (TIs) to be implemented on the interior – and in some cases, even the exterior. Keep in mind, having a consistent look from the outside is paramount to maintaining a professional commercial property.

in the Market B Y X X X X X X X XTrends X Preparing newly built property for a new commercial tenant can be time-consuming for landlords/developers, especially when they don’t want a massive gap between completing a project and getting a lease signed. As such, landlords and developers have become creative and are working alongside tenants for solutions.

NEW CONSTRUCTION LEASING

NEW CONSTRUCTION LEASING New construction shopping centers that disregard the retail tenants’ needs will not succeed in today’s environment. Therefore, a pre-leasing approach is critical as anchor tenants are forced to stretch rentals to their limits. Over the past few years, residential and office developers have entered the space for the first time, contributing to the mixed-use aspect. Experienced developers will carefully line up the anchors and pre-lease based on a conceptual site plan before to submitting detailed plans for approvals.

FOR MORE INFORMATION ON LEASING ACTIVITY AND TRENDS, PLEASE CONTACT A MATTHEWS™ SPECIALIZED AGENT.

AGENT NAME

AGENT NAME

agent.name@matthews.com (xxx) xxx-xxxx

agent.name@matthews.com (xxx) xxx-xxxx

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Industrial

service

facilities

The Next Wave in Industrial Real Estate B Y N I C K W AT S O N Due to various external factors that exist in the marketplace today, the U.S. industrial segment has grown to be one of the most sought-after product types amongst investors. The excess demand has caused interest to spill from traditional warehouse investments into niche industrial assets. One of which is industrial service facilities (ISFs), mission-critical properties used to store, maintain, or dispatch vehicles, equipment, and materials. To some investors, ISFs might not be as appealing as concrete construction Class A warehouses; however, these facilities provide must-have services for supply chains that support multiple industries.

They are primarily occupied by companies engaged in the transportation, equipment rental, or service and repair industries. Net lease investors favor these facilities to park capital amongst the ever-changing postCOVID-19 tenant landscape. ISFs are leased to many national credit tenants, including United Rentals, HERC Rentals, Sunbelt Rentals, and H&E Equipment Services. ISFs boast one of the lowest vacancy rates in the industrial subsector, housing mature and stable tenants, which benefit from e-commerce, but don’t depend on e-commerce-driven growth.

What are industrial service facilities?

The rise in popularity

Industrial service facilities (ISFs), sometimes called outdoor storage facilities or industrial outdoor storage, serve numerous purposes ranging from storage and maintenance of rigs, trailers, containers, and chassis to housing bulk materials, such as roofing supplies, stone, or construction materials. Any firm with a large fleet, like utilities or companies with field technicians, may also use these sites.

E-commerce sales hit $209.5 billion in the third quarter last year, a 36 percent jump from the same time in 2019, according to the U.S. Census Bureau.

It is estimated that every $1 billion increment in e-commerce sales necessitates about 1.25 million square feet of additional warehouse space.

Th e ISF ecosystem is incredibly fragmented.

H E RE ARE DI FFE RE NT T YPE S/USE S:

Truck Terminals Transportation Storage Trailer/RV Storage Shipping Containers Drop Lots/Terminals

ISFs serving the warehouse and logistics sector will likely grow in demand as companies try to make their supply chains more flexible. This asset class could fit into the last-mile supply chain and contribute valuable resources depending on location and proximity to consumers, ports, or transportation hubs. As industrial users opt to store more inventory to avoid disruptions in the global supply chain, these versatile properties will grow in popularity among users, particularly with vacancy as low as it is among other last-mile properties. ISF assets are mission-critical to the speed and efficiency of the global supply chain, and the pandemic has only further underlined the critical role these assets serve.

Fleet Vehicle Storage Construction Materials Bulk Materials Equipment Rentals Commercial Truck Repair

ISFs are distinguished from more traditional industrial assets in several ways, including: Lower floor to area ratio (FAR) Higher price per square foot Flexible use

Typically, this industrial segment is overlooked as investors focus on the heavily publicized warehouses and distribution centers. ISFs provide lucrative and more significant aggregated square footage and also capitalize on the surge in e-commerce activity. These assets have been around for years, and on average, house smaller structures that occupy between five percent and 20 percent of a parcel of land. ISFs are often found in infill industrial areas to facilitate storage near metropolitan centers. Additionally, location requirements typically include freeway, rail, or port access for quick and easy storage and access.

Minimal capital expenditures Redevelopment/reconversion potential

On-Market Data Price tags on these properties range drastically based on the size and proximity to trade areas, however, they are typically between $1 million to $10 million. Currently, there is about $115 billion to $130 billion in ISF properties nationwide, according to data from CoStar and the Bureau of Economic Analysis. This compares to $45 billion to $50 billion for Class A warehouse space. The ISF network has previously been ignored by some institutional capital because of the smaller average deal size and unique nature of these assets. As excess industrial land in urban centers has become increasingly hard to come by over the past decade, private and institutional investors are now re-examining the sector for opportunities.

Infill locations are im portant & th e two main factors are zoning and th e Floor area ratio

Wh ile rents may be consistently h igh er, cap rates can vary across th e subsector.

On the surface, ISFs look flexible enough to be considered the prime candidates for conversion into other uses; however, zoning restrictions limit redevelopment potential. There are high barriers to entry, such as limited utility infrastructure.

Even though the tenants these facilities serve are relatively mature industries without rapid growth, they benefit from superb supply-demand fundamentals because of zoning restrictions.

The tenants for these sites are typically longterm, with many being ten-year leases. As such, they often command higher rents per square foot than warehouse and distribution centers because tenants derive additional value from the storage capabilities and the building itself.

The floor area ratio (FAR) is a measurement of a building’s floor area in relation to the size of the lot/ parcel that the building is located on. In this case, ISF FAR values typically range between 0 to 20 percent, whereas more traditional warehouses generally have FAR values between 20 and 60 percent.

Essentially, ISFs are low-FAR assets that generate value from the land as opposed to the structure.

Users of traditional industrial space are primarily interested in the property’s indoor storage capabilities, placing value on ceiling heights, column spacing, and distribution access through docks and drive-in doors. Users of ISFs, on the other hand, find value not only in the building itself but also in the storage capabilities of the ground the building sits on.

The cap rates for these property types are dependent on the nature of the tenant’s credit profile, the length of the lease term, and the intrinsic real estate value. A well-located property leased to a national tenant with a long-term lease of ten years can more easily trade with a cap rate in a low to mid-six percent range. For non-credit and privatecredit tenants, cap rates are 50 to 75 basis points higher, all else being equal. For properties without a credit tenant, the cap rate depends on lease terms, quality of the property, location, size of the outdoor storage component, and the ability to achieve replacement rents at or above the current rent level.

Industrial service facilities are in short supply, making th em attractive to investors and tenants.

In combination with the high rents, the impact transportation and logistics have on the real estate sector contribute to the low vacancy for the overall industrial market. The national vacancy rate for traditional industrial buildings is about five percent in major markets, while ISFs boast a tighter availability with an average of three percent national vacancy, according to CoStar.

Due to COVID-19, a slowdown in investment sales activity has come to fruition. However, the pandemic has not had a detrimental impact on pricing trends for ISF properties.

There is limited supply of this asset type which results in residual values being greater than traditional properties. The renewal rate for tenants in this property sector is high due largely to the constrained supply and higher-than-average replacement costs. As such, investor demand has increased for this unique asset class, and pricing has tightened as net lease investors have pulled away from non-essential retail assets and more capital flows into the industrial sector.

Th e Big Players

United Rentals

1,100+ locations

HERC Rentals

275+ locations

Sunbelt Rentals

700+ locations

H&E Equipment Services 110+ locations

XPO Logistics

1,540+ locations

The activity occurring in the space demonstrates that this product type is desirable.

ISFs rest on a solid foundation with well-occupied tenants. This niche market is not understood by many, as national industrial players build or invest in warehouse or distribution space instead. However, as single-tenant, triple net lease properties, ISFs have the potential to bolster any portfolio. The users are mature and stable, and the increasing performance of logistics-related real estate means that these property types will only trend upward.

For more information, please contact a Matthews™ specialist.

NICK WATSON

nick.watson@matthews.com (404) 474-1684

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RETAIL PAD SITES THE SHOPPING CENTER MUST-HAVE

BY DEVON DYKSTRA

G

iven the whirlwind of events in 2020, retailers are reconsidering their locations and space needs, indicating a change is on the horizon. Now that retailers understand their business model after re-examining shopping behavior through online habits, a new generation of shopping centers is anticipated to emerge.

One highly sought-after asset class is multi-tenant net lease retail pad sites because it offers attractive financing options, drive-thru capabilities, and healthy foot traffic. These types of centers also often include essential retailers, which quickly grew in demand following a year that involved temporary and permanent store closures. Retail centers will become more balanced and diverse, with the addition of drugstores, restaurants, discount retailers, and even healthcare facilities. In this article, Matthews™ will discuss the nature of retail pad sites, the tenants they attract, and how they evolve the shopping center landscape.

NEEDS TO BE FINALIZED

THE CURRENT STATE OF SHOPPING CENTERS Throughout 2020, investors were given the opportunity to monitor which retailers survived and thrived in light of COVID-19. Among those retailers include grocery stores, drugstores, quick-service restaurants with drive-thrus, convenience stores, home improvement stores, auto part and service retailers, and healthcare. These properties saw substantial demand as other non-essential net lease assets were forced to close for a period of time in 2020.

Experts anticipate that these well-performing tenants will continue to achieve consistent investor interest throughout 2021.

RETAIL CENTERS THAT SAW THE HIGHEST DEMAND IN 2020 AND SO FAR IN 2021 INCLUDE: GROCERY-ANCHORED CENTERS JEWEL BOX RETAIL PADS DRUGSTORE ANCHORED CENTERS WITH LIMITED SHOP SPACE

Some variables could affect shopping center recovery, including the scale of the

property

HEIGHTENED DEMAND FOR RETAIL CENTERS While retail-focused institutional buyers temporarily migrate from multi-tenant centers, this has presented more opportunities for private buyers. Pricing among stable assets has become competitive as availability is deficient, and investors have extensively hunted for essential use investment-grade retailers. The limited retail supply has compressed cap rates, especially among the more popular essential tenants, like quickservice restaurants and coffee-oriented businesses.

1031 Exchange buyers contributed to the cap rate compression as they searched for higher yield options while remaining cautious. Retail centers encompassing investment-grade and essential tenants offered a safe space for capital. At the same time, non-essential property owners have held onto their assets to ride out the storm, playing into the stabilized pricing.

Retail pad assets often feature annual rent increases due to the nature of their triple net leases. For the most part, freestanding retail is highly desired for its location, prominent visibility, and foot traffic from anchor shops. National investment-grade tenants commonly chase these spaces, such as banks, convenience stores, and quick-service restaurants.

Therefore, properties that already had online order fulfillment processes in place either held value or are worth more than they were a year ago.

location operations

PARCELIZATION TRENDS Multi-tenant retail owners and buyers are re-evaluating their investment strategies, including parcelization, a break-up sale strategy impacting the market. By dividing the shopping center into multiple parcels, sellers can list at better prices, more aggressive cap rates, and expand the buyer pool to new and unseasoned investors. In some cases, selling off parts of the center unlocks more value than if it were sold as one asset, and financing is no longer an issue once the property becomes a smaller price point. Additionally, selling off a parcel will help lower an investor basis, making this trend very attractive today. A shopping center in San Francisco finalized its fourth and final transaction in April, totaling $11.4 million, thanks to this parcelization strategy. The four sales entailed a 54,000 square foot anchored center, a 4,144 square foot retail pad with two tenants, a 6,755 square foot pad with five tenants, and a 26,520 square foot vacant retail building.

The seller achieved approximately $2.5 million more than if they were to have sold the property altogether.

SHOPPING CENTERS OPTIMIZE PARKING LOTS Another trend dominating multi-tenant pad sites is landlords selling a portion of land in front of a big-box, often unused space in the parking lots, to convert into an outparcel. This opens the opportunity to optimize sales, profits, and revenue by developing a property on a plot of land that was otherwise unused. Often, outparcels are standalone sites located near the main road that shares a parking lot with a shopping center or are redeveloped from a retail center’s parking lot. With their store frontage facing the main road, these multitenant pads benefit from vehicle traffic driving by or into the shopping center. By adding essential and national tenants to the tenant mix, landlords will increase their net operating income, thus increasing their property’s value. Additionally, landlords of distressed multi-tenant centers can pay down debt or focus on other strategies by selling their outparcels.

Demand for multi-tenant net lease pads can be attributed to the higher yield options for investors.

Shopping center owners are presented the opportunity to monetize a valuable piece of land that draws in more customers and maximizes profits. By executing a ground lease with a tenant or developer, an owner can reap the monetary benefits without the risk of developing the site.

Creative ways to make the most of versatile parking spaces can help retailers differentiate themselves and thrive during uncertain times.

SOURCE: RETAIL TOUCHPOINTS

THE EVOLUTION OF SHOPPING CENTERS Although online shopping bolstered in 2020, it still hasn’t completely replaced brick-and-mortar retail. Once consumers feel safe to resume their everyday routines, in-store shopping is predicted to normalize to pre-pandemic levels. The shopping center real estate environment is currently undergoing a critical transformation. Outparcels will likely become more common in multi-tenant real estate as they further enhance the open-air shopping format, optimize store visibility, and lure in shoppers.

DRIVE-THRU ACTIVITY Prioritizing accessibility, Chipotle is making headlines with plans to implement drive-thrus, or “Chipotlanes,” to 70 percent of its new locations. Already, “Chipotlanes” are proving successful through higher store sales.

THE COVETED DRIVE-THRU Restaurants experienced a monumental year in 2020, especially if they had a drive-thru. It’s become an essential selling point for retail developers to incorporate drive-thrus to maximize value in their new investments. For example, in Willis, Texas, an HEBanchored center will be accompanied by outparcels, all equipped with drive-thrus. Developers are eyeing existing retail locations to add drive-thru capabilities due to substantial demand. Additionally, strong national tenants, such as Starbucks and Chipotle, are looking to move out of inline strip centers to end cap locations where they can have a drive-thru component.

Tenants are downsizing and reducing their footprints to accommodate consumer needs post-COIVD-19 and focusing on gaining drive-thru exposure. In summary, drive-thrus bring in more customers to the shopping centers they accompany, boosting sales and foot traffic to the neighboring stores.

Successful shopping center tenants, like grocery stores and dollar stores, are expanding to accommodate the demand while boosting sales of other non-essential items.

In Boardman, Ohio, a 179,000 square foot shopping center was purchased for $16.5 million, with four accompanying outparcels occupied by quick-service tenants, such as Chick-fil-A, McDonald's, and Panera Bread.

TENANTS EXPANDING OR RIGHT-SIZING According to PWC’s Emerging Trends in Real Estate, the vast majority of shoppers still purchase products and services in-store. Therefore, successful shopping center tenants, like grocery stores and dollar stores, are expanding to accommodate the demand while boosting sales of other non-essential items. Some non-essential retailers, like apparel stores, are finding that online sales are soaring compared to in-store sales and are reacting appropriately by right-sizing and increasing online ordering efficiency. Right-sizing is when a business considers its real estate footprint and determines to reduce or increase store size to optimize profit. In the case of the Container Store, with an average store size of 25,000 square feet, e-commerce sales grew 109.5 percent with the help of curbside pickup. Despite this, the storage and organization company will begin implementing smaller store formats in 2021 and possibly even smaller designs in 2022. Savvy investors will monitor the activity of non-essential tenants for potential future value, particularly those located in non-credit big-box properties with underlying solid real estate or belowmarket rents.

THE DOCTOR IS IN Multi-tenant center landlords have extended their reach beyond traditional retailers and look to businesses, such as healthcare-oriented tenants, to add to their retail centers. Similarly, healthcare tenants have changed their outlook on clients, targeting shopping centers with high foot traffic to expand their market share. The most common example of a healthcare tenant moving into an outparceled pad is urgent care facilities, which are looking to maximize visibility. Urgent care clinics are easier to access than hospitals because of their ground floor locations and same-day appointment scheduling options.

Urgent care properties in shopping centers maximize accessibility as they are closer to neighborhoods and their patients’ homes.

Further, urgent care patients pay less for a visit than hospital patients, a study by Annals of Emergency Medicine revealed. The average cost for an urgent care visit is $168, compared to $2,259 to $2,199 for hospital emergency department visits. By prioritizing the customer and optimizing accessibility and affordability, an urgent care is an excellent option for outparcel tenants.

No longer the 'outliers' of shopping centers, these now coveted outparcel spaces are particularly popular in California due to the supply-demand imbalance, high entry barriers, and lack of available land.

SOURCE: CALIFORNIA CENTERS MAGAZINE

Top Retail Sales by Shopping CategorY SOURCE: HOYA CAPITAL REAL ESTATE

RETAIL CATEGORY

YOY % CHANGE

MOM % CHANGE

FY2020

FY2019

7.4% 5.3% 0.6% MULTI-TENANT SHOPPING CENTER Retail (Excluding Food) 10.8% 5.1% 3.5%

3.6%

Total Retail ex. Auto & Gas

Total Retail & Food Services

3.5%

7.6%

6.1%

2.4%

3.8%

Sporting Goods, Hobby, & Book

22.5%

8.0%

5.7%

-2.2%

Building Material & Garden

19.0%

4.6%

14.0%

0.6%

Food & Beverage Stores

11.8%

2.4%

11.5%

3.0%

Furniture and Home Furnishings

11.7%

12.0%

-5.4%

0.7%

Grocery Stores

11.4%

2.5%

11.2%

3.1%

Miscellaneous

7.3%

1.8%

-1.2%

3.9%

Health & Personal Care

6.2%

1.3%

1.7%

3.1%

General Merchandise

5.9%

5.5%

2.7%

1.3%

Department Stores

-3.0%

23.5%

-18.1%

-5.5%

Electronics & Appliance

-3.5%

14.7%

-14.6%

-3.5%

Clothing & Clothing Accessories

-11.1%

5.0%

-26.4%

-0.6%

Food Services & Drinking Places

-16.6%

6.9%

-19.5%

4.4%

Nonstore/E-Commerce

28.7%

11.0%

22.1%

13.1%

Motor Vehicle & Parts

13.0%

3.1%

1.1%

4.0%

Gasoline Stations

-7.8%

4.0%

-15.9%

0.5%

Brick & Mortar Categories

Online & Auto Categories

OFF-PRICE LEADERS WEEKLY VISITS - 2021 vs 2019 SOURCE: PLACER.AI 40% 30% 20% 10% 0 -10% -20%

Week of Feb 1

Week of Feb 8

Week of Feb 15

Week of Feb 22

Marshalls

Week of March 1

T.J. Maxx

DISCOUNT RETAILERS FIND THEIR PLACE While off-price retailers rely solely on foot traffic due to the lack of online presence, the sector still witnessed a healthy recovery in both foot traffic and reported revenue. Shoppers have a new mentality that is mission-driven and necessity-focused, pushing discounters as top contenders among shopping options. Dick’s Sporting Goods is following the lead with a new off-price concept, Going, Going, Gone!, which will offer deep discounts on footwear and apparel brands sold at the store. Placer.ai found consumers have prioritized a store’s proximity to home, and suburban shopping centers with large discounters have profited from their familiarity with routine shoppers. Discount chains positioned in outparcel pad sites can bolster the overall consumer base for a shopping center.

Department store sales declineD 40% since 2000, while large discounters have tripled.

SOURCE: PWC EMERGING TRENDS IN REAL ESTATE 2021

Week of March 8

Week of March 15

Burlington

Week of March 22

Week of March 29

Week of April 5

Ross

CALIFORNIA OWNERS LOOK OUT OF STATE FOR OPPORTUNITIES Although California offers an abundance of welllocated and highly sought-after retail, available outparcel and multi-tenant pads are scarce. The lack of developable land, paired with the exceptional demand for freestanding retail, has enabled landlords to hike up sale prices and rental rates in the last few years. Further, the strict zoning laws in California have made it difficult to create optimal outparcels equipped with a drive-thru. San Luis Obispo, Long Beach, Santa Monica, Burbank, Baldwin Park, Corte Madera, and Walnut Creek all have varying restrictions on drivethrus, some of which involve a new construction ban ranging from six months to 40 years.

These reasons, and more, are why California investors are fleeing the state to search for better deals.

Specifically targeting states with no income tax, California buyers have found higher yields outside of California. In cities like car-dependent Houston, Texas, the low tax environment and relatively affordable real estate have drawn investors from across the nation.

Additionally, the city boasts a population of 2.3 million in the span of 600 square miles.

Multi-tenant pad sites have been a coveted retail asset for some time now, but their smaller footprint, drive-thru optimization, and underlying fundamentals have pushed them to the spotlight. With retail sales expected to grow 6.5 to 8.2 percent this year and reaching $4.3 trillion, according to The National Retail Federation, there is no better time to invest in retail. Experts anticipate the upcoming years to play out as a transitional period for retail. The combination of adaptation and increased retail spending alludes to a favorable outlook for multi-tenant net lease pads. For more information, please speak with a Matthews™ specialized agent today.

DEVON DYKSTRA devon.dykstra@matthews.com (949) 662-2266

SOCIAL MEDIA AD

UNDERGOING AN

WHY OFFICES ARE BEING CONVERTED FOR MEDICAL PURPOSES

BY MICHAEL MORENO, RAHUL CHHAJED & RYRAN BURKE Medical office buildings (MOBs) have exhibited significant demand from investors over the past decade, buoyed by consistent occupancy and rent growth. With technology allowing advanced procedures to be performed outside of centralized facilities and the increased demand for outpatient services, many health systems are opening medical facilities outside of centralized campuses. In search of more space, affordability, and new patients, health entities have turned to unused traditional offices for MOBs. Existing office buildings save healthcare providers from building ground-up and are conveniently located in neighborhoods to serve families closer to home. In this article, Matthews™ highlights why investors are targeting offices for medical conversions.

The State of the Medical Industry

Health Foundation and Alliance for Aging Research, healthcare costs for retired couples are projected to range between $260,000 to $600,000, depending on the retirement age. These projections, paired with favorable demographic trends, indicate that healthcare will be very busy in the upcoming years – and investors have taken notice.

With an aging population and expanding healthcare access, the demand for health services is expected to multiply in the U.S. in the next two to three decades.

Patient Preference for Outpatient Facilities

Healthcare is a resilient industry, even during economic uncertainty, because the demand for health and wellness services is always present, as treatment is often necessary. However, the latest technologies have improved convenience and affordability, revolutionizing the industry.

NATIONAL HEALTH SPENDING IS PROJECTED

TO GROW 5.4 PERCENTANNUALLY FOR THE NEXT SEVEN YEARS, REACHING $6.2 TRILLION BY 2028.

S O UR CE : C E NT E R S F OR M E DI CAR E AN D M E DI CAI D S E RV ICES

Coinciding with this, the population of insured patients is expected to decrease 1.2 percent within the next seven years to 89.4 percent in 2028. These statistics point to higher out-of-pocket expenses, as uninsured patients spend a higher portion of their income on healthcare than insured patients.

The rapidly increasing senior citizen population has also fueled growth in the healthcare market. For a single physician visit a millennial requires, a baby boomer requires almost six times the amount of visits. Moreover, according to Pew Research, the 75 million baby boomer population records nearly 10,000 retirings every day. In a brief released by the United

The need for convenience has transitioned into the medical setting as patients seek a local one-stop destination for examinations, labs, and procedures. This has sparked a shift in medical office space away from their hospital campus to outpatient facilities.

Outpatient medical offices have continuously recorded strong performance metrics, drawing in the interest of institutional investors seeking long-term stability and passive income. Investors once viewed inpatient facilities (medical offices on or nearby hospital campuses) as lower-risk investments due to generating high-priced leases, retaining long-term tenants, and maintaining healthy rent increases. However, data from Revista, a medical real estate data platform, indicates that may not be the case.

When looking at outpatient medical offices under 35,000 square feet, these assets saw a 1.9 percent appreciation in rent year-over-year, compared to 1.7 percent of inpatient buildings. Although it may seem like a small percentage, there is a 65-basis point difference when looking at occupancy, and both trended over the top 50 market’s average of 91.4 percent in Q4 2020.

OUTPATIENT vs. INPATIENT F A C I L I T I E S

OUTPATIENT MOBS

INPATIENT MOBS

ALL MOBS

NUMBER OF PROPERTIES

5,970

5,976

36,462

SQUARE FEET

429M

441M

1.5B

SOU RCE: REVI STA

AVERAGE RENT GROWTH & OCCUPANCY O U T PAT I E N T

F A C I L I T I E S

AVERAGE SAME-STORE RENT GROWTH

AVERAGE OCCUPANCY

3.5% 3.0%

95% 94%

2.5%

93%

SOU RCE: REVI STA

20

20

4Q

20

3Q

20

2Q

19

1Q

19

4Q

19

3Q

18

INPATIENT FACILITIES

1Q

18

4Q

18

3Q

1Q

1Q

2Q

18

88% 17 3Q 17 4Q 17 1Q 18 2Q 18 3Q 18 4Q 18 1Q 19 2Q 19 3Q 19 4Q 19 1Q 20 2Q 20 3Q 20 4Q 20

89%

0% 17

.5%

OUTPATIENT FACILITIES

92.6%

92% 91% 90%

2Q

1.9 1.7

2.0% 1.5% 1.0%

93.3%

19

V S

2Q

I N PAT I E N T

Traditional Office vs. MOB

While traditional offices emptied during the pandemic, office investors paused activity as several companies migrated to remote working. Alternatively, medical offices saw continued interest even as patients opted for video appointments over in-person visits.

Healthcare providers are increasingly seeking to expand their reach to new customers and retain current ones, and the costs associated with developing an outpatient asset can be intimidating. One popular solution is retrofitting existing office buildings for medical purposes.

With medical providers increasingly targeting traditional offices for conversions, it’s important to weigh the strengths and weaknesses of the two different asset classes.

Traditional office space buildings can encompass various revolving businesses, while medical offices house long-term primary care physicians, plastic surgeons, dialysis centers, and more. The strong credit tenants in MOBs attract other medical-related credit-grade tenants who prefer to be near complimentary services. According to Revista, medical office landlords collected 95 percent of rents owed in 2020, compared to traditional office landlords who received less than 85 percent. MOBs have particular physical features, such as operating rooms and waiting rooms. Therefore, tenants will sign longer leases to avoid pricier buildouts and relocating costs.

According to Health Carousel, healthcare is one of the few sectors to see continued rapid growth. For this reason, investors view MOBs as a durable investment with quality tenants.

TRADITIONAL OFFICE VS. MEDICAL OFFICE BUILDING C A P

R AT E

C O M PA R I S O N

7.9% 7.8% 7.7% 7.6% 7.5% 7.4%

The cap rates for office and MOB properties generally follow the same pattern, but CoStar data shows the cap rates for medical office

buildings trending below traditional offices as of Q2 2021.

7.3% 7.2% 7.1%

16

17

18

19

20

SOU RCE: COSTAR MEDICAL OFFICE BUILDING

TRADITIONAL OFFICE

According to Revista, commercial real estate sales volume fell 32 percent in 2020, but investors still spent $11.2 billion on medical office buildings, compared to $12 billion in 2019.

Office transactions fell roughly 44 percent in 2020, with more than $90.2 billion in trades, compared to $141.4 billion in 2019, according to CoStar data. The ongoing activity in medical offices has driven prices, with Revista reporting yields on acquisitions posting a median of 5.7 percent, compared to 6.2 percent in 2019.

$230

$8B

$220

$7B

$210

$6B

$200

$5B

$190

$4B

$180

$3B

$170

$2B

$160

$1B

$150

16

17

18

19

20

$0

SOU RCE: COSTAR SALES VOLUME

PRICE/SF

SURVEY RESPONSES TO OFFICE LEASING DECISIONS Lease negotiations have been put on hold

48%

Landlord or tenant pulled out of pending lease negotiations

47%

Landlord pulled vacant space off the market

10%

Significant changes to lease terms

6%

Other

5%

Note: Changed lease terms included co-tenancy, release provisionsm rent and allowance terms, securitym fource majeure, assignment, continuous operations, delivery or closing date, termination, insurance, and move-in date SOURCE : LE XISNE XIS

Most office tenants opted to modify or cancel their lease agreement during the wake of COVID-19, including Google, Facebook, and more. As a result, offices saw a wave of sublet space flood the market. This led investors to a bearish outlook on the industry, resulting in rent cuts as steep as 20 percent, according to CoStar. In Q1 2021, office vacancies reached 15 percent, and Moody’s Analytics expects that figure to increase to 19.4 percent in 2021.

Given this background, office landlords have been inspired to reconsider their space needs beyond the traditional business tenants and shift towards medical providers.

Sales Volunme

Sale Price Per SF

MEDICAL OFFICE BUILDING SALES

The Medical Office Inventory

Even with the use of inpatient facilities declining, the healthcare industry is booming with a plethora of new and different types of facilities. This necessitates more MOB space to house the growing variety of services.

Subsequently, investors are buying up any and all available medical offices, and on-market supply is dwindling.

Moreover, healthcare development reached a multi-year low in Q1 2021, completing 18.6 million square feet compared to 24.8 million square feet in Q1 2020.

MEDICAL OFFICE BUILDING INVENTORY GROWTH 0

SF COMPLETED TRAILING 12-MONTHS VS INVENTORY (%) 0.4 0.6 0.8 1.0 1.2

0.2

1.4

1.6

1.8

Q4 2014 Q1 2015 Q2 2015 Q3 2015 Q4 2015 Q1 2016 Q2 2016 Q3 2016 Q4 2016 Q1 2017 Q2 2017 Q3 2017 Q4 2017 Q1 2018 Q2 2018 Q3 2018 Q4 2018 Q1 2019 Q2 2019 Q3 2019 Q4 2019 Q1 2020 Q2 2020 Q3 2020 Q4 2020 Q1 2021 0M

2M

4M

6M

8M

10M

12M

14M

16M

18M

20M

22M

SF COMPLETED TRAILING 12-MONTHS SF COMPLETED PAST 12 MONTHS

SF COMPLETED TRAILING 12-MONTHS VS INVENTORY

SOU RCE: REVI STA MED

24M

26M

Office Conversion Considerations

As the pandemic accelerated telework trends and offices were left vacant, an opportunity was presented for healthcare providers looking for cheaper real estate. Despite the challenges that traditionally come with a repurposing project, selecting the right property can significantly improve the process by decreasing the development timeframe, bringing services to the community quicker, and saving on construction costs. Adaptive reuse projects are a cost-effective strategy for healthcare providers to enter the market before the competition.

There are several economic benefits when utilizing an unused building to support communities. Before deciding if an office conversion is suitable, consider the following pros & cons:

PROS

CONS

DEVELOPMENT COSTS Starting with the most apparent advantage, renovating a once-occupied office building to a medical office can save on ground-up development costs. With a waiting lobby and offices already in place, healthcare tenants can delegate their savings onto patient care or other technologies.

PLUMBING/ELECTRICAL While the development costs aren’t cause for concern, other costs come into play. Medical offices usually require more robust plumbing and electrical systems compared to traditional office real estate.

ACCESSIBILITY Whether the office building is in an urban or suburban location, they often already have access to main roads or transportation networks. This allows healthcare providers to access patients more efficiently.

LOCATION If the building is located in a shopping center, medical offices have the advantage of referral clientele from neighboring tenants that are likely not viewed as competitors. This benefits the neighbors as the providers will have strong patient retention.

ESTABLISHED TENANT-BASE Repurposing a building has the added benefit of being recognized as a community destination. This also provides the opportunity to serve communities close to home.

HEALTHCARE CODES When repurposing an existing space, there are specific healthcare codes the property must meet to support clinical practices effectively. Consider the building’s height, structural capacity, and electrical systems before buying an unoccupied office building.

ZONING LAWS The location of traditional offices may conflict with the zoning laws required for medical office buildings. It’s essential to be knowledgeable of local zoning laws before starting renovations.

PARKING Another consideration is the amount of parking available. A traditional office only requires four parking spots per 1,000 square feet of real estate; medical offices require six spaces per 1,000 square feet.

Telehealth Trends & the Influence on Real Estate Decisions

Technology has played a vital role in revolutionizing the healthcare industry. As in-person visits and elective procedures were put on hold, video conferencing and drive-up appointments were introduced. The widespread adoption of telehealth has allowed practitioners to expand their clientele to more rural communities often unreached. However, that’s not to say that telehealth will substitute for in-person appointments, as procedures and treatments beyond pharmaceuticals require a patient’s physical presence.

By expanding healthcare to underserved rural communities, telehealth has driven the demand for increased healthcare services.

THE TELEHEALTH MARKET WAS WORTH $61.4 BILLION

IN 2019 AND IS PROJECTED TO REACH $559.52 BILLION BY 2027.

S O UR C E : F O RTUN E BUS I N E S S I N S I G HTS

Moreover, the newly found point-of-entry to millions of Americans increases patient commitment and retention, thus in-person visits. Before the pandemic, only 11 percent of patients used telemedicine. Since the arrival of COVID-19, that figure has jumped to 46 percent.

MICHAEL MORENO

michael.moreno@matthews.com (949) 432-4511

Healthcare has never been more accessible in the United States, according to the New York Times.

The demand for conveniently accessible medical office buildings throughout the United States will inherently increase. The ongoing debate surrounding telemedicine regards the effect it will have on healthcare real estate’s footprint. Some experts argue that telehealth will result in increased office acquisitions with less square footage. Conversely, others believe it could drive square footage because telehealth appointments lead to in-person visits. Yet, as more providers incorporate telehealth into their practices, exam rooms could be retrofitted for telehealth purposes, keeping square footage the same. With the telehealth sector projected to grow ten to 15 percent annually, we will evidently see the role telehealth plays in the industry.

The medical office market is going through significant strides as investors continue to target the niche sector, and technology is increasingly utilized from setting the appointment to performing the procedure. Capitalizing on the movement of services to outpatient settings, health systems will become more involved in overall community healthcare services. By repurposing an office building, healthcare providers use less capital, become operational quicker than with new construction, and can potentially reinvigorate a neighborhood by bringing care closer to home.

For more information, please contact a Matthews™ specialized agent today.

RAHUL CHHAJED

rahul.chhajed@matthews.com (949) 432-4513

RYAN BURKE

ryan.burke@matthews.com (949) 226-8385

National Presence. Local Specialization.

Your Connection to Retail Leasing in the midwest

COMMITTED TO IMPROVING THE PROFITABILITY AND VALUE OF TENANTS & LANDLORDS

Our proprietary technology and marketing platform ensures a thorough understanding of the retail market and key performance indicators.

W W W. M AT T H E W S . C O M

™

e c k e u l l e n i r e h t a c y b

The Midwest boasts some of the largest industries in the nation, with manufacturing and healthcare topping the list. In addition, the region hosts almost ten percent of U.S.-based tech start-ups and houses 139 Fortune 500 Companies. Entailing one of the largest populations in the U.S., about 21 percent of the population, or 68 million people, reside in the region, compared to 56 million in the Northeast and 39 million in California. Coming before Germany, India, the UK, France, Italy, Brazil, and Canada, the Midwest boasts the fourth-largest global annual GDP of $4.2 trillion. New companies and residents are the main contributors to the region’s thriving economy, as they follow the area’s opportunities. In this article, Matthews™ discusses how the Midwest became a target region for investors and the leasing trends dominating the area.

MIDEWST POPULATION BY MSA SOURCE: U.S. CENSUS BUREAU

9.5M

4.3M

3.6M

2.8M

2.3M

CHICAGO

DETROIT

MINNEAPOLIS

ST. LOUIS

PITTSBURGH

2.1M

2.1M

2.1M

2.1M

2.0M

CLEVELAND

CINCINNATI

KANSAS CITY

COLUMBUS

INDIANAPOLIS

1.6M

1.3M

1.1M

0.9M

MILWAUKEE

LOUISVILLE

GRAND RAPIDS

OMAHA

ND MN SD

WI

NE

IA IL

KS

MI IN

OH

PA

MO

ACTIVE RETAILERS IN THE MIDWEST In nearly every major metro in the Midwest, the most active tenants expanding, leasing, or developing involve grocers, discount retailers, fitness centers, home improvement stores, and outdoor activity stores. The majority of activity in the Midwest is reflective of the broader trend in shifting consumer demands, away from wants and more towards needs and services.

MIDWEST TENANT ROSTER | SOURCE: COSTAR, MATTHEWS™ RESEARCH

OMAHA, NEBRASKA

Availability Rate: 5.6%

MINNEAPOLIS, MINESOTA

Availability Rate: 5.0%

MILWAUKEE, WISCONSIN

Availability Rate: 6.0%

MADISON, WISCONSIN

Availability Rate: 5.2%

KANSAS CITY, MISSOURI

Availability Rate: 7.2%

INDIANAPOLIS, INDIANA

Availability Rate: 6.7%

DETROIT, MICHIGAN

Availability Rate: 8.3%

COLUMBUS, OHIO

Availability Rate: 4.8%

CLEVELAND, OHIO

Availability Rate: 7.7%

CINCINNATI, OHIO

Availability Rate: 5.7%

TOP

five

MIDWEST LEASING TRENDS 1

BREWERIES

2

HEALTHCARE

3

DISCOUNT RETAILERS

4

DRIVE-THRU ROLLOUT

5

DEVELOPMENT VENTURES

s e i r e w bre

The craft brewing trade garnered a lot of popularity among a broad adult demographic, especially millennials drawn to experience-based locations.

There are currently 8,764 operating craft breweries in the U.S. Recently, nearly half of adults under 30 reported increased craft beer consumption compared to two years ago. Craft breweries have made an incredible impact on local economies, serving as communal areas for locals and travelers seeking a laidback ambiance and unique experience. The producer of the documentary “Blood, Sweat, and Beer,” Chip Hiden, claims “a brewery can inspire a real sense of community in a place that otherwise might not have it. People like to have them in their town; they like to spend that beer money with people they know.”

SMALL & INDEPENDENT AMERICAN CRAFT BREWERS CONTRIBUTED

$82.9 BILLION TO THE U.S. ECONOMY IN 2019.

SOURCE: BREWERS ASSOCIATION

With the region hailing some of the most popular drafts

With the region hailing some of the most popular drafts in the U.S., such as Budweiser, Pabst Blue Ribbon, and Miller Lite, it makes sense that breweries are popular in the Midwest. The region hosts annual beer festivals and consistently invents new brews, evidencing that craft beer is a local passion, spurring brewery development and leasing in the area.

What possibly stands out the most from an investment perspective is a brewery’s ability to transform a once distressed area. Abandoned neighborhoods and small towns are prime candidates for breweries. Tenants have targeted industrial warehouses due to their cheaper real estate and sizeable space to house large and expensive machinery and equipment. Depending on the type of brewery, square footage can range anywhere between 500 to 3,000, compared to the average retail chain ranging between 1,000 to 10,000+ square feet.

In many cases, breweries serve as assets that have resurrected and enhanced communities, attracting tourists, thus bringing money to the economy.

Zoning laws largely determine where breweries can be located, but these neglected areas can support a brewery installation.

2020 CRAFT BREWER BARRELS PRODUCED SOURCE: BREWERS ASSOCIATION

23,069,854 Barrels Produced by Craft Brewers U.S. sold - 22,815,258 barrels

2016

$24.3M

2017

$25.0M

2018

$25.5M

2019

$26.3M

2020

$23.1M

2020 U.S. OPERATING CRAFT BREWERIES SOURCE: BREWERS ASSOCIATION

8,764 Overall Operating U.S. Craft Breweries

OPERATING U.S. CRAFT BREWERIES BY SUBTYPE

Taproom

3,471

Brewpub

3,219

2016

5,622

2017

6,661

Micro

1,854

2018

7,618

2019

8,391

Regional

220

80% OF AMERICANS 10 MILES OF A BREWEREY LIVE WITHIN

SOURCE: BREWERS ASSOCIATION

In Petersburg, IL, a small taproom brewery, Hand of Fate Brewing, has brought good fortune to the small town. Once a dollar store, the owner took over the lease to create a community hub, where customers can find a sense of local identity and pride. The taproom encourages surrounding businesses to stay open later after drawing visitors from all over the Midwest and accounts for economic development to the area.

e r a c h t heal

Healthcare is met with incredible opportunities, and equally, challenges with expanding tenancy to other geographical areas. Mature secondary markets in the Midwest can benefit healthcare real estate tenants, as the markets already house large specialized medical office buildings. The asset class attracts local, regional, and institutional investors, opening opportunities to work with and represent various healthcare tenants with differentiating objectives.

The Midwest region holds some of the best health systems in the U.S. and accounts for a large portion of employers. However, challenges ranging from market competition to brand unfamiliarity are top of mind for healthcare tenants as they work to solidify a new patient roster in the area.

Healthcare is penetrating the shopping center space, as indicated by the increasing presence of healthcare clinics, urgent cares, and specialty-care facilities in a retail setting. Investors are keen on adding the resilient product type to their thought-out tenant mix, as they provide long-term stability through economic disruptions. Midwest markets are less volatile during downturns, further stabilizing shopping centers with healthcare tenants. For some developments, medical offices are a key amenity, making healthcare accessible and convenient to shoppers. Now, customers are no longer just patients as they come to shopping centers for convenience, looking to accomplish their daily tasks, including routine check-ups and grocery shopping for dinner items.

The demand for medical services is reaching an alltime high with a growing senior citizen population and expanding healthcare coverage. Beyond putting elective surgeries on hold, healthcare facilities saw a positive performance overall during the pandemic. In markets across the region, the healthcare industry was among the most active in leasing, development, and employment growth. Various healthcare systems have announced expansions and new job listings.

Cleveland has a reputation as a healthcare powerhouse, being one of the largest industries in the market. Since 2010, healthcare technology has multiplied in the market, thanks to initiatives such as the Health-Tech Corridor. After acknowledging the lack of space to accommodate the growing health-tech business, a community-wide collaboration encouraged development in the Health-Tech Corridor in MidTown, Cleveland.

HEALTHCARE PRESENCE IN THE MIDWEST

OHIO Healthcare accounts for 4 of the top 11 employers in Columbus OhioHealth is the most extensive health system with 11 hospitals and health services and 20,000 employees Mount Carmel, the secondlargest health system with 9,000 employees, opened a $361 million hospital in Grove City Nationwide Children’s Hospital ranks in the top 10 Best Children’s Hospital in the nation Cincinnati Children’s is the nation’s leading pediatric hospital with 15,000 workers and is developing a new $600 million tower

After the Health-Tech Corridor initiative launched, a significant number of developers and financial support have flocked to the cause. The Health-Tech Corridor entails two major hospital campuses and the two largest employers in the metro: the Cleveland Clinic and University Hospitals. Cleveland Clinic has consistently ranked among the best hospitals in the world by U.S. News & World Report. It has ranked first for 26 consecutive years in Cardiology & Heart Surgery and second for 22 straight years in the top five overall rankings. Further, several health-tech companies reside in the metro.

MISSOURI Kansas City holds the nation’s largest animal health cluster, KC Animal Health Corridor, representing 75 percent of the world’s animal health, diagnostics, and pet food sales IQVIA, a health information technology and clinical research firm, leased a 235,000 square foot space in Overland Park PRA Health Sciences, a biotech firm, takes up 100,000 square feet in Lenexa Children’s Mercy is growing its research facility by 375,000 square feet with Children’s Research Institute

s r e l i a t e R t n u o c Dis

It comes as no surprise that discount retailers rose in popularity among shoppers during economic uncertainty, and this trend is very apparent in the Midwest. Discount chains offer merchandise or products for a fraction of the price compared to full-price retailers. With consumer spending focusing on value through the wake of the economic recovery, new frugal shopping habits are likely to carry into the rest of the year and beyond. As a result, investors will continue to

favor these secure, income-producing assets.

The Midwest includes secondary and tertiary markets, boasting cheaper real estate, more robust growth due to the affordable cost of living, and stable economies. While discount retailers offer the best value in their products, they equally search for the best value in their real estate. Their expansion goals align closely with their financial goals; therefore, they target the Midwest, where deals are not overvalued and produce higher return rates.

MOST ACTIVE COMPANIES IN THE MIDWEST SOURCE: COSTAR

DOLLAR GENERAL CORPORATION DOLLAR TREE MANAGMENT , INC. THE TJX COMPANIES, INC. HOBBY LOBBY, INC. KOHL’S CORPORATION BURLINGTON PLANET FITNESS HOLDINGS, LLC BEST BUY CO., INC. ROSS STORES DICKS SPORTING GOODS, INC 0

200

400 SQUARE FEET (THOUSANDS)

600

Discount-oriented retailers dominated Ohio’s leasing activity, ranking among the top leases signed in the state, including Big Lots, Burkes Outlet, and Kohl’s. In Cleveland, discount retailers accounted for the most move-ins and top leases. Detroit saw heightened activity from deep discount chains, Dollar Tree Inc.

and Dollar General signed 12 leases collectively. Dollar Tree signed a total of 78,000 square feet through six leases, Family Dollar signed three leases totaling 22,000 square feet, and Dollar General signed three leases totaling 27,000 square feet.

LEASING ACCELERATES IN OHIO SOURCE: COSTAR

Q1 2021

600,000

PRIOR 3-YR AVG

SQUARE FEET

500,000 400,000 300,000 200,000 100,000 0 CINCINNATI

Discount grocers have found their footing in the Midwest as well, including Aldi, SuperValu, and Hy-Vee. The discount grocer segment is among the fastest businesses to recover from the pandemic, and their essential-retailer status helped retain consistent sales throughout 2020. There is no shortage of

WHILE DISCOUNT RETAILERS OFFER

THE BEST VALUE IN THEIR PRODUCTS THEY EQUALLY SEARCH FOR

THE BEST VALUE IN THEIR REAL ESTATE.

CLEVELAND

COLUMBUS

customers seeking good deals on produce. A new German discount grocery chain, Lidl, has entered the already tight grocer competition with expansion plans to penetrate the Midwest, starting with Minnesota. In a region that boasts affordability, discount grocers and retailers will outperform.

T U O L L O R U R H T E V I DR

Drive-thrus helped quick-service restaurants and drugstores continue to serve customers through the pandemic while other retailers were forced to close their doors and focus on their online presence.

Because of this, drive-thrus grew in demand last year among investors, developers, and franchisers.

Restaurant or fast-food chains that originally functioned without a drive-thru are taking action to stay in the game. According to the National Restaurant Association’s State of the Restaurant Industry Report, 53 percent of adults claim purchasing takeout or delivery food is essential in

their daily lives. Even companies outside of the food industry are considering drive-thru implementation after seeing the role they played during a crisis.

RESTAURANTS THAT ARE

IMPLEMENTING DRIVE-THRUS AREN’T NECESSARILY COMPETING FOR DRIVE-THRU BUSINESS BUT FOR

THE GROUNDS OF ACCESSIBILITY.

TOP RESTAURANT TENANTS TO LEASE DRIVE-THRUS IN THE MIDWEST

TOP RESTAURANT COMPANIES TO LEASE DRIVE-THRUS IN THE MIDWEST SOURCE: COSTAR

RESTAURANT BRANDS INTERNATIONAL ROARK CAPITAL GROUP YUM! BRANDS INC. MCDONALDS CORPORATION THE WENDY’S CORPORATION STARBUCKS CORPORATION CKE RESTAURANTS, INC, CHICK-FIL-A, INC. CULVER FRANCHISING SYSTEM, LLC BERKSHIRE PARTNERS 0

After seeing the intense demand for properties with drive-thrus and the decreased store sales due to the threat of capacity limits from COVID-19, restaurant owners are rethinking their business model. Drivethrus served as the lifeline to several fast-casual restaurants throughout the pandemic, and some experts even claim that drive-thrus are an absolute necessity for store growth. Even after restaurants began reopening phases in Q3 2020, drive-thrus still accounted for 13 percent of all restaurant visits.

Thus, drive-thrus evolved from a convenient source of revenue to a defense mechanism during a crisis.

200

400

600

However, restaurants aren’t the only industry confined to drive-thrus for sales. Several companies realize the importance of a drive-thru, including drugstores, banks, convenience stores, and grocery stores. In fact, drugstores were the most active in leasing drive-thrus in the Midwest, according to CoStar. Tom Custer, Vice President of FRNCH Nelson, an architect firm, predicts grocery stores to implement high-volume drive-thru pick-up areas on the sides of grocery stores as online order trends continue to accelerate.

TOP TENANTS TO LEASE MIDWEST PROPERTIES WITH DRIVE-THRUS SOURCE: COSTAR

WALGREENS BOOTS ALLIANCE CVS THE KROGER CO. DOLLAR TREE MANAGMENT INC. RESTAURANT BRANDS INTERNATIONAL ROARK CAPITAL GROUP ALBERTSONS COMPANIES MEIJER INC. GIANT EAGLE INC. HY-VEE, INC. 0

Convenience stores (c-stores) are adding to the ongoing demand for drive-thru space, such as 7-Eleven and Wawa. Both c-store giants have announced drivethru additions to their locations to enforce contactless shopping. By offering convenience to drivers on the go, c-stores could have the up-leg with the potential to increase basket size by enticing customers with additional convenience.

1,000

2,000

A PROPERTY WITH A DRIVE-THRU LANE TYPICALLY COMMANDS

10% TO 20% HIGHER RENT COMPARED TO ONE WITHOUT.

3,000

s e r u t n e v t n e m p o l deve

Retail and office closures were widespread at the peak of the pandemic, and some never reopened.

Shopping mall tenants were among the first to permanently close as foot traffic plummeted, adding a surplus of unused or vacant square footage. With the Midwest holding several shopping experiences, including the largest shopping mall in the U.S., Mall of America, the square footage is abundant. Savvy investors have taken this as an opportunity to shop the graveyard for adaptative reuse opportunities.

in Q2 2020. Now that frequently purchased items are readily available, retailers look to stock up on merchandise and seek additional warehouse space to house the excess inventory. Even with vaccines rolled out, online shopping is still popular among consumers for its convenience. Retailers who had omnichannel strategies in place saw firsthand the supply and delivery issues. They had to compete with e-commerce giants, like Amazon, which offers free or two-day delivery for members.

Some Midwest markets have targeted their central business districts for redevelopment opportunities to add mixed-use or adaptive reuse projects. These assets draw in renters and shoppers; thus, retailers continue to lease space in the area. The larger markets attract capital due to their diverse economies, educated workforce, and lower cost of living. These factors make the Midwest the perfect opportunity for landlords or tenants looking for the best value in real estate.

One vastly popular trend in the Midwest for abandoned shopping centers or offices is converting them into warehouses or fulfillment centers. Milwaukee saw the most prominent redevelopment activity, with various projects being repurposed for varying businesses. Cincinnati has seen heightened conversion projects over the years. Since 2010, the downtown Cincinnati market has seen three million square feet of office space converted or removed, most of which are turned into hotels or upscale apartments. The last remaining department store in Minneapolis, Macy’s, was renovated into a massive mixed-use project, adding new tenants ranging from craft breweries and restaurants to a police investigation unit.

Driven by e-commerce, retailers are seeking to lease additional warehouse space to fulfill online orders. In 2020, online shopping became the new normal, with e-commerce sales rising 44.4 percent

As businesses and the general population seek more affordable homes following a year of uncertainty and economic hardship, the Midwest will continue to see growth and investment activity. PWC’s Emerging Trends in Real Estate noted that the Midwestern states are continually evolving their economy to a more sustainable mix entailing education, healthcare, and technology. So long as these markets remain active and strive towards a balanced economic base, innovation and capital are sure to stay in the Midwest.

FOR MORE INFORMATION ON LEASING ACTIVITY AND TRENDS, PLEASE CONTACT A MATTHEWS™ SPECIALIZED AGENT,

CATHERINE LUECKEL catherine.lueckel@matthews.com (216) 503-3596

LEASING LANDLORD REP AD

LEASING LANDLORD REP AD

HOW RESTAURANT BRANDS ARE PLANNING FOR THE FUTURE

BY GUS CURTISS & MITCHELL GLASSON

A NEW BEGINNING

As businesses were forced to navigate a new type of economic downturn in 2020, profound changes unfolded and have reinvigorated the quick-service and fast-casual industry. In particular, the industry pivoted to more off-premise channels, digital tools, and enhanced efficiency. Downturns of any kind tend to birth new trends but also accelerate changes already underway. After all, many well-known restaurant brands were investing in people and tools pre-COVID-19 to ensure infrastructure was ready for the future – many just assumed it was still a couple of years out from fruition.

From this viewpoint, knowing the market is heading down this path at an accelerated pace has allowed brands to design restaurants and kitchens for the future. In this article, Matthews™ explores industryleading, multi-national companies and their strategies to service the new age of diners.

REBRANDING THE INDUSTRY

Customers are experiencing restaurants through digital platforms now, more than ever. Many of them only just began using these platforms during the pandemic as a means to order food directly to their home or car, bringing a whole new customer base into the digital fold.

Adapting to the digital space in 2020 wasn’t just a matter of innovation; it was a means of survival for the industry. Quick-service restaurants were specially prepared to take on the havoc invoked by COVID-19.

They were already working with delivery aggregators, partially relied on drive-thrus and curbside pickup, and pivoted early on in the pandemic to new solutions. Technologies like mobile ordering, hightech drive-thrus, double lane drive-thrus, and curbside pick-up were once just blueprints for future consumer behavior but have become a cornerstone for how quick-service restaurants, and more recently, fastcasual brands, remained successful in 2020.

Courtesy of Burger King

Courtesy of Del Taco

YEARS OF INNOVATION, COMPRESSED INTO MONTHS

The move toward drive-thrus and other off-premise models is a trend seen across the industry. In addition to traditional drive-thru customers, the pandemic-enhanced shift of diners to off-premise channels also brought an increasing presence of delivery drivers and curbside pick-up traditions.

However, as brands serve more customers through drivethrus, curbside, or pick-up, the increased volume translated to improving the speed of service and managing more orders than usual. To efficiently manage the increasing demands while simultaneously improving the guest experience, many brands have relied on technology to communicate with customers and team members to minimize drive-thru time and increase turnover. It is a straightforward notion that there’s a correlation between faster service and serving more guests.

More recently, quick-service restaurants have been searching to enhance the drive-thru experience in ways that truly feel futuristic, like tracking license plates to create customer profiles or using artificial intelligence to predict what people want to order. McDonald’s, the leader in quick-service restaurants, is even testing automated voice ordering, stating that the system can handle 80 percent of order volume.

The two critical issues of a drive-thru are speed of service and order accuracy, which are often correlated. COVID-19 bolstered these issues but put into focus that drive-thrus carry considerable potential, and these technologies are on track to become the future of ordering. The demand for drive-thrus was already accelerating pre-COVID-19, with many tenants completing significantly higher volumes in locations that offered drive-thrus compared to ones that did not.

Before COVID-19, dine-in was generally 70% of sales, and drive-thru sales were the remaining 30%. Now, those percentages have flipped as drive-thrus see a 25% to 35% increase in sales. In October 2020 alone, drive-thru sales increased 24%, according to NPD Group Inc. Given these fundamentals, properties with drive-thrus have surged in demand. Investors, developers, and tenants are all searching for properties with drive-thru capabilities.

Some developers are even searching for end-caps or sites with enough space to downsize store footprints and create stand-alone drive-thru restaurants, or side-by-side drivethru lanes, which add to the overall footprint and unlock more potential. As drive-thrus are labeled pandemic-proof, demand has increased, and over the past 12 months, more drive-thru deals have occurred than the previous three years. For example, Dutch Bros. locations are all under 1,000 square feet, with either one or two drive-thru lanes, and relied on this business model throughout the pandemic.

However, adding drive-thru capabilities to land is not always easy. For example, drive-thrus need multiple entrances and exits, enough room for a line of cars, and city approval.

Before the pandemic, many cities had moratoriums on drive-thrus for reasons that include drive-thru-related traffic, environmental concerns with idling cars, and fast food contributing to obesity. But, COVID-19 put pressure on cities to approve drive-thrus, and there is no shortage of desire.

Courtesy of McDonalds

COMPARING STRATEGIES

Certain brands are committed to the future and will compete in the digital transformation – one of which is Starbucks, that many operators turn to as a leading example. The other is Chipotle, which has a primary goal of expanding access and convenience through a digital ecosystem, adding 700 new-construction drive-thru restaurants by 2025.

A LOOK BACK IN HISTORY

• Chipotle

• Starbucks

Introduces the Starbucks Card Starbucks Opens First Store

1971

Chipotle Opens First Store

1991

Opens First Store in an Airport

1993

Opens Second Store

1994

1995

Opens First Drive-Thru Location

McDonald’s Commits $50M

1996

1998

Store Count Reaches Eight Stores + Chipotle Scouts More Capital Operates 1,000 Stores + First International

Chipotle Drops “Mexican Grill”

2000

Store Count Reaches 100

2001

Store Count Reaches 300

2002

2003

Store Count Reaches 5,000 Stores + Launches Wi-Fi in Stores

Introduces Industry’s First Paper Beverage Cup From Recycled Fiber Introduces Starbucks Coffee Master Program

McDonald’s Divests its Stakes in Chipotle

2004

2006

2005

Store Count Reaches 500 Store Count Reaches 10,000 Stores + Commits to Adding More Drive-Thru Locations, Making Up Half of the New Stores Opened

Introduces App and Mobile Ordering Launches My Starbucks Store Count Reaches 20,000 Stores + Rewards Loyalty Program + First iPhone App with Launches Starbucks Starbucks Mobile Payment Mobile Order & Pay

2008

Establishes Social Media Presence

2009

2010

Store Count Reaches 1,000

2014

Introduces DriveThrus + Chipotlanes

2016

2018

Focuses on Aggressive Shift to Drive-Thrus, Vacating Numerous Locations Before Lease Expiration

Revamping DriveThrus to Include Two Lanes and Closing 800 Stores

2020

2021

Opens First DigitalOnly Restaurant + Opens 100 DriveThrus

Courtesy of Starbucks

STARBUCKS

Starbucks created a world-class drive-thru operation and emerged as an innovator in the technology space.

For a company that has been praised virtually since its inception, this may come as no surprise. The story of the company’s rise to industry leadership is based on its commitment to developing solutions based on customer needs and behaviors.

Despite announcing the closure of 800 stores, Starbucks says it will have 55,000 locations by 2030 as it continues to develop experiences that address evolving consumer routines. This unit level is unmatched by any other company in today’s restaurant world. Currently, Starbucks boasts some 33,000 company-operated and licensed stores across more than 80 markets worldwide.

The brand was already expanding ahead of COVID-19, and the 800-unit cut will accelerate its plans to relocate low-performing stores and transform the store format. According to QSR Magazine, Starbucks originally had a broad, three to five-year plan to move units – such as those in low-traffic malls – to higher-performing locations which can utilize drivethru services. That timetable has been moved up to the next 12 to 18 months.

Early on, Starbucks found their locations through developers employing brokers to call franchiseoperated restaurants with drive-thrus, buying them out of their lease, and forming a joint venture with an existing landlord or purchasing directly from that landlord. This is a strategy Starbucks continues to implement as well as other fast-casual brands seeking drive-thru space.

Courtesy of Starbucks

Convenience + Accessibility = Loyalty & Reach During the pandemic, factoring in working-from-home and the demolition of day-to-day routine, Starbucks pivoted from a “first stop on the way to a destination” to a “destination worth leaving home for.” In this shift, the average ticket size increased 20 percent in the U.S., although consumers were ordering less often.

Starbucks aims to expand its digital reach through new storefronts, which enable curbside pick-up, further delivery, and critically increase throughput in the drive-thru. These stores will have no seating, smaller square footage from 1,700 to 400 square feet, and side-by-side drive-thru lanes. Starbucks’ transformation will also include renovating layouts to add separate counters for mobile orders at highvolume stores, which enable customers and delivery couriers to grab-and-go without the bottleneck.

Pick-up venues, which Starbucks said will number in the “hundreds” in five years, plans to drop in trade areas as additional accessibility points. The company pictures traditional cafes, complete with the “thirdplace” promise, supported by a pick-up store within walking distance that can reduce crowds and provide a more convenient format for those guests who don’t want to grab a seat.

The company will also extend drive-thru development into suburban and semi-rural locations, extending the reach of the Starbucks brand, providing customers with the convenience they are seeking. Moving forward, 45 percent of stores will offer drive-thrus, compared to the current level of 35 percent.

Courtesy of Chipotle

CHIPOTLE

As dining rooms shuttered and occasions shifted to off-premise, Chipotle’s digital sales skyrocketed to $2.8 billion in 2020, a 174 percent boost versus the prior year. Further, the brand entered 2020 with fewer than ten million reward members. Today, there are nearly 20 million, and roughly 60 percent are active. Put more broadly, Chipotle is now more relevant than it was in the past, thanks to the digital transformation caused by COVID-19.

Chipotle’s strong digital system has helped set the brand apart from its rivals, and the future of the fast-casual restaurant depends on its success of the drive-thru, otherwise called “Chipotlanes.” The familiar fast-food format hasn’t been a requisite for fast-casual formulas and is relatively new for Chipotle. With more than 120 “Chipotlanes” in the restaurant fleet (total 2,710), Chipotle said they have helped with profitability, although they work slightly different from the conventional version. Rather than pulling up to a menu board and projecting ingredients at an intercom, customers must place the order online first. The key to the models’ power is it gives diners an incentive to download Chipotle’s app and join its loyalty program, which further enhances the digital ecosystem, meaning more data. Additionally, customers can move through the drive-thru lanes relatively quickly, given they are just picking up their order. This has helped with customer satisfaction and allowed the pick-up window to serve more customers.

The fast-casual restaurant intends for more than 70 percent of its new store openings in 2021 to have drive-thru lanes and also plans to remodel or relocate ten to 15 restaurants so it can add “Chipotlanes.” In locations where a drive-thru is impossible, the company will instead have a walk-

up window. As investors are aware, cap rates are the definition of supply and demand. With 700 new construction Chipotle’s with drive-thrus, one can argue that the cap rates of non-drive-thru-equipped sites will increase 100 to 200 basis points from where they are trading today in Q3 2021.

As the company adapts to consumer shifts in demand, Chipotle plans to explore self-driving delivery cars with their investment in Nuro, a robotics tech provider. And a new store prototype dubbed “Chipotle Digital Kitchen” requires the customer to order in advance via its app, website, or third-party delivery.

Food is then picked up in a lobby designated to mirror a traditional Chipotle.

Taking A Page from Starbucks’ Playbook

With Chipotle undergoing a massive transition to “Chipotlanes,” it is currently following a similar trajectory to Starbucks. Although Starbucks is two to three years ahead of Chipotle, Chipotle investors and landlords can learn from Starbucks’ operational strategy.

Chipotle aims to open 200 new locations annually through 2025, with 70 percent of them containing a drive-thru. Therefore, Chipotle is actively seeking new sites. With the support of developers and tenant representation, brokers are buying existing quickservice franchisee restaurant operators (Burger King, Bojangles, KFC, Pizza Hut, etc.) out from their franchise lease agreements with their respective parent company and signing a new Chipotle lease with the existing landlord of the drive-thru-equipped property. This strategy is a win-win scenario for the landlord, Chipotle, the prior franchisee operator, and the developer.

SHORT ORDER? NOT SO MUCH

In response to the evolving ways in which consumers are engaging with restaurants, many top limited-service brands have announced new store prototypes – many of which come with stark changes. There is heightened demand for digital technology, drive-thru operations, and curbside pick-up ease, as consumers expect more customization, convenience, and accessibility. For quick-service and fast-casual restaurants, the future is nothing short of exciting, as businesses have enhanced operational plans for efficiency thanks to COVID-19.

10 Questions for Landlords 1

How is my tenant performing?

2

What is my tenant’s new prototype design?

3

What is the average gross sale revenue, or EBITDA, increase for the said prototype?

4

When and how is the new format being implemented?

5

What are the cost per square foot and physical property requirements (lot size, building square footage, drivethru lanes, etc.)?

6

Is it cheaper for my tenant to relocate and construct a new building from scratch?

7

What other tenants could operate my building if the current lessee vacates the site?

8

On average, what does my tenant pay in annual rent to operate new locations?

9

How does my current rent compare, locally and nationally?

10

Why would my tenant stay or vacate the premises?

For more information, please contact a Matthews™ specialized agent.

GUS CURTISS

gus.curtiss@matthews.com (949) 207-7412

MITCHELL GLASSON

mitchell.glasson@matthews.com (949) 432-4502

REAL ESTATE IS ALL ABOUT RELATIONSHIPS. “Building strong relationships with clients is what I love about this business, and it’s how I got to where I am today. I act as an advisor to my clients and focus on their needs. It is not just a onetime transaction. This is about building long-term relationships on trust and confidence, and adding tremendous value to clients.”

- BEN SNYDER EVP & MANAGING DIRECTOR

W W W. M AT T H E W S . C O M

™

ASSETS THAT REMAINED LIQUID

Retail Center Review

The Assets That Remained Liquid

By Tripp Brown Shopping centers experienced mixed results from the challenges presented throughout 2020. Depending on their anchor and location, shopping centers either struggled or flourished. Quality, well-positioned assets with essential retailers witnessed heightened demand, while shopping centers with predominantly discretionary stores saw depleted revenue and decreased demand from investors and consumers. In this article, Matthews™ will discuss the performance metrics of various shopping center subtypes.

Defining the Various Shopping Centers Shopping centers are divided into several categories – regional malls, power centers, community centers, neighborhood centers, and strip centers. Their prime differentiation is the location. Each subtype is defined below:

 Regional Malls

An enclosed shopping center with general merchandise and fashion-oriented offerings, surrounded by parking outside the perimeter • Average Square Feet: 400,000 – 800,000+ • Typical Anchors: Full-line or junior department store, mass merchant, discount department store, and/or fashion apparel store

 Power Centers

 Community Centers

A straight line of retailers in an L or U shape that sell a wider range of apparel and soft goods

• Average Square Feet: 125,000 – 400,000 • Typical Anchors: Discount store, supermarket, drugstore, large-specialty discount stores

 Neighborhood Centers

Similar to community centers but on a smaller scale and sells general merchandise or convenience-oriented offerings • Average Square Feet: 30,000 – 125,000 • Typical Anchors: Discount store, supermarket, drugstore, convenience store

 Strip Centers

Anchored by big-box tenants accompanied by smaller tenants • Average Square Feet: 250,000 – 600,000 • Typical Anchors: Big-box retailers, such as home improvement, discount department, warehouse club, and off-price stores

Typically features a row of stores or service outlets with on-site parking located in front of stores • Average Square Feet: <30,000 • Typical Anchors: Convenience store, restaurant, service-oriented store

S H O PPI N G C E NTE R R ETU R N S BY T YPE SOU RC E: COS TA R , N A R E IT

CO M POS ITI O N O F OCCU PI E D SQUAR E F E ET Community Center

(10%)

Free Standing

Power Center

(7%)

Standalone Retail

Malls 0% 10% 20% 30% 40% 50% 60% 70% 80% 90%100% ● Neutral ● Distressed

Regional Malls

26%

(9%) (25%)

All Retail

Strip Center

4%

(28%)

Shopping Centers

Neighborhood Center

● Resilient

TOTAL R E IT R ETU R N

(12%)

18%

(37%)

32%

(17%) ● 2020

● 2021 (YTD)

● Net Change

Comparing Shopping Center Performance Strip Centers

SOU RC E: BTI G R E S E A RC H

With the growing trend of large tenants, such as Barnes & Noble, looking to downsize into less square footage, leasing demand has shifted from the once-popular big-box spaces to smaller suites found in strip centers. Additionally, with e-commerce pressuring larger tenants, which once drew a much larger customer base to the location, investors have become more aware of the risks associated with tenants who lease large spaces.

To combat the rise of online shopping, tenants now require less space and can operate out of smaller strip centers. Before, every big-box in a city was leased, but now, the map is dotted with vacancies or subdivided spaces resulting from previous tenants shrinking their brick-and-mortar footprint.

Neighborhood centers felt the least exposure, optimizing Buy Online Pick-Up In-Store (BOPIS) tactics and curbside pick-up. Over 50 percent of these shopping centers are grocery-anchored and command premium rents, especially after grocers’ strong performance last year. Other common tenants include drugstores, home improvement stores, and other service-oriented stores. For the most part, these tenants maintained healthy rent payments. For example, home improvement stores averaged 97 percent in rent collections throughout the pandemic, resulting in investor demand for the product type.

According to Moody’s Analytics, a record low 144,000 square feet of neighborhood shopping center space was added in Q1 2021, compared to 944,000 square feet added in Q4 2020. Both are below the 2018 and 2019 quarterly average, 2.5 million square feet and 1.76 million square feet, respectively. This resulted in vacancies rising 10.6 percent and asking rents decreasing 0.1 percent. On a national level, 33 of 80 metros monitored by Moody’s saw positive absorption, a positive trend compared to Q3 and Q4 2020.

N E I G H BO R H OO D S H O PPI N G C E NTE R N ET AB SO R PTI O N & VACAN CY

SOU RC E: M OO DY ’ S A N A LY TI C S 20

10.8%

15

10.6%

10

10.4%

5

10.2%

0

10.0%

-5

9.8%

-10

2016

2017

2018

● Net Absorption

2019

2020

● Vacancy Rate

9.6%

Vacancy Rate

High-quality strip centers well-positioned to weather both secular trends and COVID-19 pressure will thrive in the new normal of 2021.

Neighborhood Centers

Absorption (Millions of SF)

Strip centers, or open-air shopping centers, offer plentiful external growth opportunities, especially if well-positioned. According to CoStar, availability in strip center space has fallen in the last three years.

There is more demand for 3,000 square foot spaces than 30,000 square foot spaces, proving to be a very favorable shift for strip center owners in recent years. With less square footage and, therefore, less liability for tenants, it is no wonder that there is more demand and less supply for smaller retail suites, which mainly exist in strip centers. Though strip centers felt the effects of COVID-19, with non-essential retail accounting for 58 percent of the segment, strip centers are outperforming their counterpart REITs and the overall commercial real estate market, following the vaccine news in November, according to BTIG Research. Further, the strong leasing in the latter half of 2020 will continue to benefit strip centers in 2021.

Community Centers

Drawing in a customer base within three to six miles, community shopping centers offer a wide range of retail stores and sometimes feature two anchor stores.

Due to their open-air format and category-dominant anchors, including Walmart, Target, and Kmart, community centers remained afloat. Discount retailers are also commonly found as anchors to community centers and have maintained relatively consistent foot traffic and revenue throughout the pandemic.

Power Centers

If an essential tenant anchors a power center, it is viewed as a stable asset. The quality of the tenant played a vital role in power centers’ performance last year. Big-box chains that often occupy these centers have the resources and robust supply chain to compete with e-commerce as many have an existing online presence. However, the local retailers accompanying the big-box tenants do not have the same resources and suffered from lost revenue.

Due to the struggling small retailers, investors should look for supporting tenants and consider alternative businesses from apparel, such as healthcare clinics, service-oriented stores, or discount chains. These essential tenants remained open during the pandemic and can benefit the center with consistent foot traffic and revenue.

Malls

It’s no secret that America’s traditional shopping malls suffered in the wake of COVID-19. Almost the entirety of mall occupants, about 90 percent, are experiential, like movie theatres, or apparel stores, according to Coresight. Despite malls only accounting for ten percent of total retail space, they made up for 60 percent of store closures in 2020. Contributing to this is the lack of tenant diversity, with the roster primarily encompassing discretionary retail. The demise of department stores also played a role – which heavily contributed to malls’ foot traffic – as JCPenney, Neiman Marcus, J. Crew, Lord & Taylor, and Brooks Brothers filed for bankruptcy protection.

Coresight Research estimates 25% of America’s roughly 1,000 malls will close over the next three to five years.

SOU RC E: CO R E S I G HT

U. S . MALL VACAN CY R ATE

SOU RC E: M OO DY ’ S A N A LY TI C S 12% 8% 4% 0%

2005

2010

2015

2020

The Best Performing Region Primary markets have always been the pinnacle of capital and investor focus, but that has changed as investors hunt for better deals, less competition, and high yields in smaller markets. In 2019, 60 percent of commercial real estate transactions over $1 million were in non-primary markets. Investors previously targeting the West and East Coasts have turned their attention to the Southeast, with fewer regulations and lower taxes. Though this trend has been ongoing for the last two decades, the National Association of Realtors predicts these secondary growth cities to outperform in 2021. Some experts have gone as far as to say that secondary markets are the new primary markets. The affordability of these markets has attracted population growth and corporate migration, drawing in investment demand.

SO UTH E AST S E CO N DARY M ETROS TO O UTPE R FO R M I N 2021

SOU RC E: N ATI O N A L A SSOC I ATI O N O F R E A LTO RS Cape Coral-Fort Myers FLO R I DA Charleston-North Charleston SOUTH C A RO LI N A Nashville-Davidson-Murfreesboro-Franklin TE N N E SS E E Raleigh N O RTH C A RO LI N A

The Southeast has benefited from the pandemicinduced mass migration from dense metro hubs to affordable, less populated secondary gateway markets. Since 2014, population net migration to secondary and tertiary markets was 200 percent more than in metros. As companies and people move to the region, the number of single-family homes and neighborhoods will grow, and so will the commercial real estate opportunities. Some landlords are working to integrate amenities into their shopping centers that cater to the community’s needs, like outdoor seating at restaurants or configuring to fulfill online orders. In fact, some large REITs have honed in on the Southeast for strategic investments, specifically targeting shopping centers with essential retail, such as grocery-anchored neighborhood and power centers with value-add opportunities.

Across the Southeast, Tennessee outperformed in terms of year-over-year transaction volume, with 111 total shopping center transactions in 2020, a 34 percent increase compared to 2019. Capital has immensely migrated to Tennessee for its stability and attractive return profile. Interestingly, regional malls throughout the Southeast saw the most year-overyear transactions compared to other shopping center assets, a 30 percent increase in 2020. This could be attributed to opportunistic investors capitalizing on the deeply discounted prices of abandoned malls. Outlet malls closely follow, with a zero percent change, and strip centers with a year-over-year decrease of 6.09 percent in 2020.

TOTAL SO UTH E AST TR AN SACTI O N VE LOC IT Y AC ROS S ALL $1 M+ S H O PPI N G C E NTE R AS S ETS

SOU RC E: COS TA R / M AT TH E WS™ R E S E A RC H Tennessee South Carolina North Carolina Mississippi Louisiana Kentucky Georgia Florida Arkansas Alabama 0

100

200 ● 2019

300 ● 2020

400

500

The Financing Environment Retail, among other sectors, was one of the hardesthit segments when the pandemic initially hit in March 2020. The mandated closures, market uncertainty, and evolving shopping habits have caused distress on nearly every shopping center subtype. Over 1,000 U.S. shopping center properties are attempting to pay back debt while simultaneously combatting the threat of economic challenges and e-commerce, according to CoStar. Commercial banks hold nearly 38 percent of commercial mortgages, totaling $1.5 trillion.

Shopping centers suffered from the lack of available financing, as consumer shopping was already weakening pre-pandemic, resulting in a 5.36 percent special servicing rate in CMBS loans in November 2019. The constraints brought on by COVID-19 further depleted retail store sales, causing lenders to require more recourse on shopping centers, especially among larger assets, such as malls and power centers with non-essential retailers. As a result, transaction velocity was heavily impacted by the lack of lending, and sellers refrained from putting their power center on the market.

D I STR E S S E D R ETAI L C M B S LOAN SQUAR E FOOTAG E

SOU RC E: COS TA R

Super Regional Mall

72,354,670

Regional Mall

Community Center

18,461,324

18,228,897

Outlet Center

3,267,608

Power Center

13,506,068

Neighborhood Center

9,967,444

Lifestyle Center

2,415,771

Strip Center

1,058,118

Theme/Festival Center

1,021,238

Neighborhood and strip center’s percent of square footage financed in CMBS deals is less than 6.5 percent.

Due to their diversified tenant mix, including quick-service restaurants, grocery stores, drugstores, or personal services, these shopping centers have been able to pay down debt more consistently due to the tenant’s substantial revenue income. Financial institutions continued to lend to strip and neighborhood centers throughout 2020 thanks to their essential retail mix, contributing to a more stable sales velocity. With their smaller square footage, price point, and tenant count, borrowers demand less recourse, and there is less risk associated with tenant rollover.

H I STO R I CAL C M B S D E LI N QU E N CY R ATE S

SOU RC E: TR E PP 20%

15%

10%

5%

0%

2008

2009

2010

2011

2012

2013

● All Property Types

2014

● Industria;

2015

2016

● Multifamily

2017

● Office

2018

2019

2020

2021

● Retail

Shopping Center Outlook 2020 was a year of observation for shopping centers.

Landlords have the opportunity to reflect on wellperforming tenants, providing the chance to optimize their roster. When looking at what assets traded through the pandemic, essential retailers are a common selling point. It’s likely shopping centers will transform to withstand any future economic downturn, receive consistent rent payments, and increase the property’s overall value.

strip centers, relative to larger community centers.

Compared to shopping centers with larger big-box suites, strip centers offer more security for investors due to the relative ease with which smaller stores can be leased and released if a tenant fails.

That being said, there is still hope for the larger retail centers prevalent throughout the country. Many investors have subdivided larger spaces or entirely repurposed vacant big-box space to other uses, such as trampoline parks and self-storage. In all, retail is not dying; the asset class is simply evolving as the market climate shifts due to external factors, like the pandemic and the growth of e-commerce.

The pandemic only accelerated the consumer shift to e-commerce and forced landlords and tenants to adapt or be left behind. Already, retail demand is shifting to centers with a smaller footprint, such as

S H O PPI N G C E NTE R B UY/S E LL / H O LD R E CO M M E N DATI O N S

SOU RC E: P WC ’ S E M E RG I N G TR E N DS I N R E A L E S TATE Neighborhood/Community Shopping Centers Lifestyle/Entertainment Centers

31.7%

55.3%

13.1%

8.7%

55.6%

35.7%

Urban/High-Street Retail

8.5%

55.3%

36.2%

Power Centers

8.1%

Outlet Centers Regional Malls 0%

44.4% 52.8%

5.1% 1.5% 10%

47.5% 42.1%

25.8% 20%

72.7% 30%

Buy

40% Hold

50% Sell

60%

70%

80%

90%

100%

The Future of Shopping Malls

While the short-term outlook for shopping malls is grim, it isn’t all bad news. Companies are taking advantage of the ample square footage, accessibility, and desirable location of these abandoned malls.

According to Moody’s Analytics, tearing down the real estate adds between $4 to $8 per square foot to project costs, extends the time on the permitting and execution process, and inflates development costs.

As a result, malls are being repurposed in mixeduse and adaptive reuse projects. Keeping the retail aspect, mall landlords are adding residential units, office space, or hotels to their properties to bolster revenue and rents. This allows landlords to command an average apartment rent by 13.9 percent more than non-mixed-use sites, 8.6 percent for offices, and 7.3 percent for retail properties.

M IXE D - U S E CO M MAN DS R E NT PR E M I U M S

In other cases, malls are being retrofitted into industrial and logistics buildings. As e-commerce sales continue to grow, the demand for logistics correlates. Even Amazon has taken an interest, as the e-commerce giant makes headlines with converting unused mall spaces to distribution centers.

Additionally, the online retailer is in talks with Simon Property Group, the nation’s largest mall owner, to convert bankrupt JCPenney and Sears department stores to fulfillment centers.

About 50% of mall-based department stores could permanently close by the end of 2021, according to Green Street.

SOU RC E: G R E E N S TR E E T

SOU RC E: COS TA R 16% 14%

R ETAI L CO NVE RS I O N S BY PRO PE RT Y T YPE

SOU RC E: COS TA R 13.9%

12% 10% 8%

8.6%

6% 4%

7.3%

2% 0%

Apartment

Office

Retail

Retail Property Types

Million Square Feet*

Mall Redevelopment

7-15

Mall Anchors

6-11

Free-standing Retail

22-66

Power Centers

0-10

Community Centers

0-13

Neighborhood Centers

0-5

Total

77

Annual Average, Next Decade

7.7

* E S TI M ATE D TO CO N V E RT TO LOG I S TI C C E NTE RS I N PRO LOG I S M A R K E TS

Though shopping centers experienced several headwinds in 2020, with a lack of available financing, store closures, and growing e-commerce competition, it was a year of symbolic growth. Landlords learned that a thriving shopping center depends on the essential nature of its tenants. Debt financing is already picking back up, indicating that transactions in the sector will regain momentum. Shopping centers will evolve in purpose to include service-oriented stores, essential merchandise, and recession-resilient tenants. This will result in the segment coming out stronger than ever and better suited for economic disruptions in the future. For more information, please contact a Matthews™ specialized agent today.

Tripp Brown

(615) 667-0157 tripp.brown@matthews.com

A New Generation EXPERIENCE THE MATTHEWS™ PLATFORM ADVATAGE of Leaders ACCELERATE YOUR CAREER &

Unmatched shared support services, allowing you to generate more deals Shared database advantage, giving your property maximum exposure to investors Increased market share, providing numerous specialized growth opportunities

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™

THE U.S. SUNBELT 14 MAR KETS S EEI N G T HE M OST APA RTM EN T DEM A N D

The U.S. Sunbelt encompasses the southern and southwestern portions of the nation, including Alabama, Arizona, Florida, Georgia, Louisiana, Mississippi, New Mexico, South Carolina, Texas, Tennessee, and parts of California, North Carolina, Nevada, and Utah. The term “Sunbelt” refers to the area’s warm climate and rapid economic and population growth that has been recognized for decades. In conjunction, the Sunbelt states have drawn in businesses and residents alike due to the affordable cost of living, lower cost of doing business, tax-friendly environment, and copious developable land. The people, job, and business growth on the Sunbelt point to favorable demand for multifamily properties. In this article, Matthews™ will review the various Sunbelt markets experiencing incredible multifamily performance.

TOP MARKETS FOR NOMINAL POPULATION GROWTH, 2019 - 2020 Sunbelt States

S O UR C E: C O STA R Dallas- Fort Worth Phoenix Houston Austin Atlanta Charlotte Tampa Seattle San Antonio Las Vegas Inland Empire Orlando Raleigh Nashville Washington D.C. Denver Jacksonville Boise

As demand recovers and supply levels moderate, apartment leasing should have a solid recovery cycle across the Sunbelt over the next three years.

Fort Meyers Portland 0

20

40

60

80

100

120

140

Thousands

Source: Mid-America Apartment Communities

The Sunbelt markets saw attractive apartment growth, higher rates of move-ins than moveouts, more robust rental rates, single-family home appreciation, and stronger office fundamentals through the pandemic. Due to the Sunbelt’s longterm positive performance, several Sunbelt cities were ranked as “buy” recommendations in PWC’s Emerging Market Trends in Real Estate 2021.

Sunbelt markets even take up half of PWC’s top ten markets in overall real estate prospects for their dynamic economies. PWC estimates the Sunbelt markets to produce 28 percent of new jobs from 2019 to 2025. Most metros in the Sunbelt are affordable markets that encourage growth, drawing in demand and rapid price appreciation.

These favorable migration trends to the Sunbelt include enhanced affordability, favorable business climates, and lower taxes

Source: Mid-America Apartment Communities

TOP 10 MULTIFAMILY MARKET TRANSACTIONS (MILLIONS) S O UR C E: C O STA R

1

PHOENIX

$5,880

2

DALLAS-FORT WORTH

$5,501

3

WASHINGTON D.C.

$5,468

4

ATLANTA

$5,253

5

DENVER

$4,435

6

CHARLOTTE

$2,959

7

TAMPA

$2,518

8

AUSTIN

$2,387

9

MIAMI

$2,333

10

HOUSTON

$2,328

S U NBE LT STAT ES MULT IFAMILY & EM P LOYM ENT GR OWT H SOU RCE: YA RD I MAT RIX 80 70 60 50 40 30 20 10 0

Huntsville 22

Pensacola 27

Colorado Springs 29

Omaha 34

Reno 35

Price Per Unit Change Rank

SavannahHilton 41

Des Moines 46

Unemployment Rank

Employment Change Rank

New Orleans 50

Birmingham 51

Knoxville 56

Units Completed Rank

Units Under Construction Rank

Q 1 2 02 1 MU LT IFAMILY DEAL VOLU M E SOU RCE: COSTA R

Deal Volume in Billions

$4.0 $3.0 $2.0 $1.0 $0.0 Dallas-Fort Worth

Atlanta

Phoenix

Houston

Los Angeles

First-Quarter 2021 Sales Volume

MAR K E TS S EEING T HE MOST GR OWT H SOU RCE: COSTAR

The following markets have consistently ranked as top emerging markets for their market fundamentals, transaction volume, multifamily performance, and favorable outlook.

Austin

Washington, D.C.

Sunbelt States

New York

Denver

Orlando

First-Quarter Average 2015-2019

San Antonio

608 UNITS

$74M

4.7%

$150,000

11.9%

5.8%

Under Construction

12-Month Sales Volume

Vacancy Rate

Average Price/Unit

Market Rent Growth

Cap Rate

SOURCE: COSTAR

Albuquerque’s significant draw to investors and renters is its impressive employment base and continually diversifying economy.

The economy is dependent on various industries, including military, manufacturing, oil and gas, education, healthcare, and entertainment. Job growth was close to reaching the national benchmark before the pandemic, with the education and health sectors bolstering employment. Additionally, Netflix, NBCUniversal, and TaskUs have all recently expanded to the metro, potentially boosting apartment demand as additional workforce pours into the metro over the next several years. The local and sixth-largest air force base, Kirtland Air Force base, employs 23,000 people, and the University of New Mexico employs 7,000 faculty and staff.

The Albuquerque multifamily market remained stable through the pandemic, thanks to its affordability. Rent is a fraction of a cost

compared to the National Rent Index, at almost 25 percent less than Phoenix and 55 percent lower than Denver. In the last 12 months, 308 units were delivered to the market, and only a few small projects are in the pipeline, making minimal impact on the market. That outlook is projected to change, though, as the demand, job growth, and population growth resemble the national average. The majority of activity is from out-of-state buyers, specifically from California. Two of the biggest trades in 2020 were from a Wisconsin-based firm involving a $73 million transaction and a Californiabased firm with a $38.5 million trade. Due to strong momentum in 2019, rental growth has continued through Q2 2021, with an 11.9 percent annual rent growth. Vacancies have remained stable and even reached a ten-year low by the end of 2020, at 4.8 percent. With the economy taking off, apartment demand will remain present in Albuquerque for the remainder of 2021 and onward.

MARKET RENT PER UNIT & RENT GROWTH

POPULATION GROWTH SOURCE: OXFORD ECONOMICS

$1,800

12%

$1,400

8%

$1,000

4%

$600

18’

19’

20’

21’

22’

23’

24’

0%

Annual Rent Growth

Rent Per Unit

SOURCE: COSTAR

0.6% 0.4% 0.2% 0.0%

12 Month Change

10 Year Change

Forecast (5 Years)

12,046

$10B

6.7%

$161,000

12.6%

5.1%

Under Construction

12-Month Sales Volume

Vacancy Rate

Average Price/Unit

Market Rent Growth

Cap Rate

SOURCE: COSTAR

The Atlanta multifamily market has shown signs of significant improvement since mid2020. The metro has experienced a 12.6 percent rental growth year-over-year, well above the national average. Additionally, the vacancy rate and 12-month rental growth have surpassed pre-pandemic levels, thanks to solid apartment demand. Submarkets seeing the most rental growth include South Fulton, Henry County, Douglas County, and Clayton County. In Q4 2020, Atlanta broke the quarterly deal volume record with $4 billion recorded in trades, the highest in the nation, driven by out-of-state investors. In Q1 2021, Atlanta broke volume records again for first-quarter sales, positioning the market as one of the top in the nation for 12-month sales volume. Q2 2021 recorded stronger than usual demand in the first two months of the quarter, indicating a solid performance for the rest of 2021.

More than 20,000 units were absorbed over the last 12 months, driving down the vacancy rate, and Atlanta welcomed 13,000 units during that same time for a total of 70,000 units since 2010. The unit figure is comparative to smaller, fast-growing markets like Charlotte (60,000 units) and Austin (80,000 units). Developers target South Atlanta, along the Beltline Southside Trail, and within the Summerhill neighborhood. The metro has experienced one of the tremendous nominal population gains in the nation, growing 6.4 percent over the past five years and forming 320,000 households since 2010. This growth can be attributed to the region boasting the highest concentration of colleges and universities in the Southeast, producing more than 40,000 college graduates annually. Consequently, Atlanta has the third-highest percentage of college-educated workers in the U.S.

MARKET RENT PER UNIT & RENT GROWTH

POPULATION GROWTH SOURCE: OXFORD ECONOMICS

$1,900

15%

$1,600

10%

$1,300

5%

$1,000

18’

19’

20’

21’

22’

23’

24’

0%

Annual Rent Growth

Rent Per Unit

SOURCE: COSTAR

1.5% 1.0% 0.5% 0.0%

12 Month Change

10 Year Change

Forecast (5 Years)

15,818

$1.3B

8.6%

$182,000

0.4%

4.8%

Units Under Construction

12-Month Sales Volume

Vacancy Rate

Average Price/Unit

Market Rent Growth

Cap Rate

SOURCE: COSTAR

Before 2012, Austin consistently sold under $700 million in apartment trades, but Austin has surpassed that figure over the last five years, solidifying the metro as a secondary market.

Even though Austin has one of the highest vacancy rates among significant markets, the apartment market has quickly recovered.

Asking rents increased over seven percent compared to pre-pandemic levels, despite the hefty supply pipeline with 6.5 percent of inventory under construction, or 15,818 units.

Thanks to large corporations moving to and developing in Austin, such as Tesla’s Gigafactory, Oracle’s headquarters, and BAE’s expansion, the market saw strong apartment demand. The metro was named the best place to live by U.S. News and World Report for the last four years, and the growing tech sector and the University of Texas continue to retain young renters, keeping vacancies tight in the coming years.

Downtown Austin has the most considerable supply risk, with over 2,500 units underway, over half of the submarket’s inventory.

Therefore, more than half of all downtown apartments offered some concession in the last half of 2020, with some offering two or more months free. The metro is notorious for its heavy traffic, with Interstate 35 crowned the most congested highway in Texas. This could have spurred the recent passing of Propositions A & B in the 2020 election cycle, which focuses on improving the city’s public transportation and walkability. With improvements on the horizon and fewer traffic concerns, it could entice renters to move to the market. Experts predict Austin will outperform many other major metros in 2021, attributed to the young population growth and retention, educated workforce, and impressive economic growth.

MARKET RENT PER UNIT & RENT GROWTH

POPULATION GROWTH SOURCE: OXFORD ECONOMICS

$1,700

10%

$1,450

5%

$1,200

0%

$950

18’

19’

20’

21’

22’

23’

24’

-5%

Annual Rent Growth

Rent Per Unit

SOURCE: COSTAR

3% 2% 1% 0%

12 Month Change

10 Year Change

Forecast (5 Years)

0

$365M

5.8%

$83,000

8.6%

5.9%

Units Under Construction

12-Month Sales Volume

Vacancy Rate

Average Price/Unit

Market Rent Growth

Cap Rate

SOURCE: COSTAR

led by a strong construction industry, new job growth, and life science companies.

Columbia saw improved vacancies in 2020 due to strong demand from tenants working in various local industries, including military, education, health services, and professional and business services. The University of South Carolina has a student population of 35,000, and the state capital benefits from nearly 20 percent of employment entailing government jobs. This resulted in net absorption surpassing deliveries in 2020 and rental gains of 7.4 percent over the last year. The market’s stability has attracted investors, with investment activity almost doubling the historical average in 2020. The steady population growth and revitalization of Downtown Columbia have sparked business development in the area, increasing foot traffic and consumer spending.

Columbia’s outlook for 2021 is positive,

There are numerous value-add investment opportunities in Columbia, with over half of multifamily buildings built before 1995 and minimal new additions. Local and outof-state investors appear to be targeting low to mid-range apartment communities, taking advantage of discounted pricing.

Almost all deals in 2020 were transacted by out-of-state buyers, stemming from the metro’s fast-growing population, low cost of living, and numerous local tax incentives.

Companies continue to target Columbia for its favorable economic indicators, including Call 4 Health, a healthcare facility call center, announcing their new operations projected to add 300 jobs.

MARKET RENT PER UNIT & RENT GROWTH

POPULATION GROWTH SOURCE: OXFORD ECONOMICS

$1,550

15%

$1,300

10%

$1,050

5%

$800

18’

19’

20’

21’

22’

23’

24’

0%

Annual Rent Growth

Rent Per Unit

SOURCE: COSTAR

1.5% 1.0% 0.5% 0.0%

12 Month Change

10 Year Change

Forecast (5 Years)

23,686

$1.8B

7.8%

$148,000

7.1%

5.2%

Units Under Construction

12-Month Sales Volume

Vacancy Rate

Average Price/Unit

Market Rent Growth

Cap Rate

SOURCE: COSTAR

Dallas-Fort Worth (DFW) is one of the fastestgrowing and balanced multifamily markets in the nation due to continuous supply and corresponding absorption. The metro held strong job growth and in-migration leading up to the pandemic, making it a top market for apartment demand. DFW led the nation in 2020 for multifamily absorption, possibly attributed to the several corporate relocations and expansions to the metro. Multifamily sales picked up traction in the second half of 2020 and carried over into 2021, most of which were value-add opportunities in Mid-Cities and East Dallas. With 3.7 million people employed in the metro as of mid-2021, the abundant job growth will bolster population growth and apartment demand.

Although DFW leasing activity took an initial hit in mid-2020, absorption has rebounded, keeping vacancies stable, with 29,870 units

absorbed in the last 12 months. In the past, DFW rents grew between two to three percent annually, though it has stalled due to the pandemic. Growth is more prominent in expensive submarkets like Downtown Dallas, Uptown, and West Dallas. In contrast, suburban submarkets like Plano, Frisco, and Allen/ McKinney have seen less demand due to the tight competition.

DFW ranked first nationally in 2019 and 2020 for construction starts in multifamily, industrial, and office, and ranked seventh globally in overall CRE sales volume, according to Real Capital Analytics. Even so, construction has tapered due to slow multifamily permitting in recent quarters, with about four percent of inventory under construction. The market has routinely added 145,000 multifamily units annually since 2010, expanding inventory by 25 percent, more than any other U.S. market.

MARKET RENT PER UNIT & RENT GROWTH

POPULATION GROWTH SOURCE: OXFORD ECONOMICS

$1,600

6%

$1,400

4%

$1,200

2%

$1,000

18’

19’

20’

21’

22’

23’

24’

0%

Annual Rent Growth

Rent Per Unit

SOURCE: COSTAR

3.0% 2.0% 1.0% 0.0%

12 Month Change

10 Year Change

Forecast (5 Years)

6,671

$2.1B

5.4%

$226,000

10.4%

5.1%

Units Under Construction

12-Month Sales Volume

Vacancy Rate

Average Price/Unit

Market Rent Growth

Cap Rate

SOURCE: COSTAR

Leasing has improved considerably over the last six months, and the previous two quarters have broken quarterly records. With net absorption outpacing deliveries by nearly two to one in the first quarter of 2021, rental demand is prominent in Fort Lauderdale.

Absorption should keep up as price growth surpasses income growth, deterring people from long-term residencies. Before entering 2021, rents were already back to pre-pandemic levels in December, and rents are bolstering so far in 2021. Economic recovery is anticipated to be slow in 2021 due to South Florida’s lengthy lockdowns during the pandemic.

Fort Lauderdale saw some of the highest multifamily investment volumes in the nation, with more than $1.5 billion recorded in trades in 2020. There are currently more than 6,500 units in the pipeline, causing an expectant rise in vacancies in 2021, pushing Fort Lauderdale above the National Index rate. However, apartment demand has surged, helping rents expand in the recent months to pre-pandemic levels before 2021 started. Annual rent growth has surpassed five percent in the metro. The annual sales volume is 40 percent higher than the ten-year average, reaching $2 billion, thanks to more than $800 million in trades in the last quarter of 2020 alone.

Fort Lauderdale ranks among the top 15 markets in the nation and as the second market in Florida for the most transactions.

MARKET RENT PER UNIT & RENT GROWTH

POPULATION GROWTH SOURCE: OXFORD ECONOMICS

$2,400

10%

$2,000

5%

$1,600

0%

$1,200

18’

19’

20’

21’

22’

23’

24’

-5%

Annual Rent Growth

Rent Per Unit

SOURCE: COSTAR

1.5% 1.0% 0.5% 0.0%

12 Month Change

10 Year Change

Forecast (5 Years)

3,473

$532M

5.9%

$144,000

9.1%

5.0%

Units Under Construction

12-Month Sales Volume

Vacancy Rate

Average Price/Unit

Market Rent Growth

Cap Rate

SOURCE: COSTAR

Annual investment reached a record high in 2020, garnering the interest of larger buyers and out-of-state investors for its impressive demographic trends and relatively low acquisition costs. Huntsville’s population grew 13 percent from 2010 to 2019, projecting to become the state’s largest metro this decade. The market’s diversified economy has helped in times of economic hardship and attracted a highly skilled workforce.

Toyota, Google, NASA, Blue Origin, and Boeing are expanding in the area through employment or development, retaining educated workers. Huntsville remains an affordable market despite the strong presence of tech jobs and healthy income growth, which will benefit the metro in 2021.

Rents have seen a cumulative growth of 30 percent since 2010 and year-over-year growth of eight percent, despite a record number of deliveries over the last ten years.

Huntsville’s vacancy reached historic lows in mid-2020, with a 96.8 percent occupancy rate, 200 basis points above the national average. Since then, new supply has been added, putting pressure on vacancies.

Still, the market’s stabilized properties have an average vacancy of less than five percent. This has attracted developers to the area. Inventory is expected to grow by ten percent in the coming quarters. Rents are projected to cool with roughly ten percent of inventory currently underway.

MARKET RENT PER UNIT & RENT GROWTH

POPULATION GROWTH SOURCE: OXFORD ECONOMICS 12%

$1,400

8%

$1,000

4%

Rent Per Unit

$1,800

$600

18’

19’

20’

21’

22’

23’

24’

0%

Annual Rent Growth

SOURCE: COSTAR

1.5% 1.0% 0.5% 0.0%

12 Month Change

10 Year Change

Forecast (5 Years)

0

$131M

6.9%

$111,000

6.5%

6.2%

Under Construction

12-Month Sales Volume

Vacancy Rate

Average Price/Unit

Market Rent Growth

Cap Rate

SOURCE: COSTAR

Jackson, the capital of Mississippi, is an established manufacturing hub, ranked third nationally for overall advanced manufacturing growth. Manufacturers have come from across the globe, including Continental Tire, which recently revealed plans for a $1.45 billion manufacturing plant in Hinds County. Jackson possesses impressive market conditions, home to dozens of universities and colleges, an expansive young professional population, and affordable real estate.

Jackson’s annual multifamily net absorption and rent growth are highest in over a decade, even through the outbreak. Rents rose 6.5 percent over the past four quarters, despite the market adding the largest supply since the 2000s, for a total of 1,000 units.

Construction is limited, helping keep vacancies tight. Though, most developers target dated properties for renovations and value-add opportunities. Multifamily trades in Jackson have held up substantially compared to any other commercial real estate product here.

So far into 2021, buyers have been active in the market, with $80 million in trades already recorded. The average price per unit has grown five percent in the last 12 months, and cap rates have compressed to the low six percent range. Due to this favorable activity, the outlook for Jackson is positive.

MARKET RENT PER UNIT & RENT GROWTH

POPULATION GROWTH SOURCE: OXFORD ECONOMICS 6%

$1,400

4%

$1,000

2%

Rent Per Unit

$1,800

$600

18’

19’

20’

21’

22’

23’

24’

0%

Annual Rent Growth

SOURCE: COSTAR

0.2% 0.0% -0.2% -0.4%

12 Month Change

10 Year Change

Forecast (5 Years)

24,426

$7.6B

5.8%

$314,000

1.3%

4.2%

Units Under Construction

12-Month Sales Volume

Vacancy Rate

Average Price/Unit

Market Rent Growth

Cap Rate

SOURCE: COSTAR

Though Los Angeles experienced rent losses, it is known as the U.S.’s financial, cultural, technology, and government capital, which has helped recovery.

With almost half of households renting, Los Angeles boasts one of the highest percentages of renters in the nation. The expensive home prices have kept demand in favor of apartments. Suburban submarkets experienced the most rental growth and demand in 2020 and 2021, while urban areas are slow to recover.

The state recently kicked off a new program to help preserve affordable housing in a region that holds some of the nation’s most expensive houses and apartments. As of May, the most extensive multifamily trade of the year closed for $300 million in Glendale. The Glendale acquisition is one of nine deals partially funded by the state development authority, intending to offer essential workers an affordable community in the same cities they serve.

As shown by the massive move to the Inland Empire, affordability drives the demand, where rents average $400 less per month.

With the impending expiration of the eviction moratorium right around the corner, renters continue to migrate to the suburbs in search of more affordable rents.

MARKET RENT PER UNIT & RENT GROWTH

POPULATION GROWTH SOURCE: OXFORD ECONOMICS 4%

$1,400

2%

$1,000

0%

Rent Per Unit

$1,800

$600

18’

19’

20’

21’

22’

23’

24’

-2%

Annual Rent Growth

SOURCE: COSTAR

0.3% 0.0% -0.3% -0.6%

12 Month Change

10 Year Change

Forecast (5 Years)

14,428

$1.8B

7.5%

$191,000

7.0%

5.1%

Units Under Construction

12-Month Sales Volume

Vacancy Rate

Average Price/Unit

Market Rent Growth

Cap Rate

SOURCE: COSTAR

Although rents dropped three percent in 2020, they have since increased by seven percent in the last 12 months due to the strong performance in suburban submarkets.

Nashville has one of the most active multifamily developments in the nation, with almost 15,000 units underway. Downtown entails 40 percent of the construction pipeline, followed

by Southeast Nashville due to the number of Opportunity Zones in the area. Since Q2 2020, demand and lease-up activity have improved, with an average of 20 units leased per month in Downtown and suburban properties. Both national and international investors have been active in Nashville since the second half of 2020, keeping annual sales volume elevated.

The metro holds one of the strongest officejob markets in the nation and benefits

from expanding industrial, automotive, and healthcare industries.

Several large corporations have announced headquarter relocations or expansion plans to the metro for its business-friendly environment, including AllianceBernstein, Amazon, and Mitsubishi. Additionally, Oracle recently made one of the most significant commercial real estate transactions in Nashville history by purchasing 65 acres of land for $253.7 million as part of its expansion plans for its regional headquarters, creating 8,500 jobs. Nashville ranks among the top cities for “desirability” by the U.S. News and World Report and Smart Asset. Even with the expansive pipeline on the horizon, the metro benefits from job and population growth, boding well for the apartment market.

MARKET RENT PER UNIT & RENT GROWTH

POPULATION GROWTH SOURCE: OXFORD ECONOMICS

$1,900

6%

$1,600

3%

$1,300

0%

$1,000

18’

19’

20’

21’

22’

23’

24’

-3%

Annual Rent Growth

Rent Per Unit

SOURCE: COSTAR

3% 2% 1% 0%

12 Month Change

10 Year Change

Forecast (5 Years)

954

$79.2M

4.4%

$88,000

10.5%

5.8%

Units Under Construction

12-Month Sales Volume

Vacancy Rate

Average Price/Unit

Market Rent Growth

Cap Rate

SOURCE: COSTAR

The financial sector has been particularly active, with the Navy Federal Credit Union adding thousands of new jobs in 2019 and plans to double the workforce by 2026.

Known for its beaches and navy presence, Pensacola has fared better than most metros through COVID-19. Rents have risen 10.5 percent annually, marking as one of Florida’s highest increases.

The Naval Air Station in Pensacola has also bolstered employment, with over 23,000 military and civilian employees. Both these employers have contributed to healthy income growth. Pensacola welcomed 550 units last year and currently has 954 in the pipeline. So far into 2021, $140 million in trades have been recorded. The market offers a discounted rate on pricing compared to Panama City or Fort Walton Beach, with an average of $88,000 per unit.

The market fared well through the pandemic, enabling landlords to push rents throughout 2020. Yet, Pensacola remains affordable compared to other Florida markets, by roughly 15 percent, with an average asking rent of $1,170 per month. Coinciding with this, vacancies are near historic lows, at 4.4 percent across the entire metro. This can be attributed to the growth in office-using jobs, student population, and overall population.

MARKET RENT PER UNIT & RENT GROWTH

POPULATION GROWTH SOURCE: OXFORD ECONOMICS

$1,700

15%

$1,450

10%

$1,100

5%

$800

18’

19’

20’

21’

22’

23’

24’

0%

Annual Rent Growth

Rent Per Unit

SOURCE: COSTAR

1.5% 1.0% 0.5% 0.0%

12 Month Change

10 Year Change

Forecast (5 Years)

20,904

$9.4B

5.0%

$202,000

15.5%

4.5%

Under Construction

12-Month Sales Volume

Vacancy Rate

Average Price/Unit

Market Rent Growth

Cap Rate

SOURCE: COSTAR

Phoenix is welcoming 200 new residents each day as renters migrate to the market in search of affordability. The metro has seen significant employment gains in the financing, technology, and manufacturing industries – a key in the market’s resiliency amid the pandemic. It is one of the best-performing markets in job growth and recovered 72 percent of job losses from the pandemic by March 2021. Additionally, Phoenix has a low supply of single-family homes, influencing people to rent in the area. Over the last two years, Phoenix has led the growth in apartment rent increases and single-family home appreciation, according to CoStar.

Phoenix’s apartment demand is mainly present among affordable properties following national trends, causing concern as most new

supply are A-Class projects. Vacancies are sitting at historic lows, though federal and state aid may have stimulated this. With a 21,000-unit development pipeline, vacancies may increase in the coming quarters, but the market’s net in-migration could counter this.

Like other markets, Phoenix began to swiftly recover in the second half of 2020, as shown by the eight percent year-over-year increase in rents as of January. Although Scottsdale, Tempe, and Camelback submarkets saw the slowest rent growth, they still surpassed the national average due to the extreme demand to live in those areas. The submarkets offer restaurants, nightlife, and shopping options, allowing landlords to push rents. The suburban submarkets posted the highest rent gains, at ten percent.

MARKET RENT PER UNIT & RENT GROWTH

POPULATION GROWTH SOURCE: OXFORD ECONOMICS

$1,650

15%

$1,400

10%

$1,150

5%

$900

18’

19’

20’

21’

22’

23’

24’

0%

Annual Rent Growth

Rent Per Unit

SOURCE: COSTAR

3.0% 2.0% 1.0% 0.0%

12 Month Change

10 Year Change

Forecast (5 Years)

1,340

$547M

5.1%

$202,000

11.1%

4.4%

Units Under Construction

12-Month Sales Volume

Vacancy Rate

Average Price/Unit

Market Rent Growth

Cap Rate

SOURCE: COSTAR

Reno is on the receiving end of heightened apartment demand. Net absorption reached an all-time high in 2020 and has carried over into 2021. Within the first three months of the year, Reno already reached $200 million in sales, breaking its quarterly volume record.

Historically, the market achieved an average annual volume of $121 million. Rents have increased by an incredible 11.1 percent compared to pre-pandemic levels, reaching an average of $1,430 per month, an almost 40 percent discount than major California markets, such as San Francisco. Reno’s population has grown twice the national rate in the last ten years, with most in-migration coming from California, feeding into apartment demand.

With neighboring states such as California, Reno benefits from its proximity to Silicon Valley, a business-friendly environment, and low living

costs. Major corporations like Apple, Google, Tesla, eBay, and Walmart have all announced expansion plans to Reno, including a one million square foot data center, a 27,000 square foot warehouse, and land acquisitions for future development plans.

The market’s proximity to nine states allows shipping to be on a next-day basis, crowning Reno as a trade and transportation hub.

Moreover, the new fulfillment centers added to the market have pushed the trade sector to 12 percent above the pre-recession peak, marking it one of the top-performing employment industries in the metro over the last decade. The strength of Reno’s economy, soaring investment volume, and affordability point to an optimistic outlook in 2021.

MARKET RENT PER UNIT & RENT GROWTH

POPULATION GROWTH SOURCE: OXFORD ECONOMICS

$1,650

15%

$1,400

10%

$1,150

5%

$900

18’

19’

20’

21’

22’

23’

24’

0%

Annual Rent Growth

Rent Per Unit

SOURCE: COSTAR

1.5% 1.0% 0.5% 0.0%

12 Month Change

10 Year Change

Forecast (5 Years)

4,206

$1.8B

5.32%

$336,643

1.1%

4.5%

Units Under Construction

Vacancy Rate

12-Month Sales Volume

Average Price/Unit

Market Rent Growth

Cap Rate

SOURCE: COSTAR

Encompassing several neighborhoods, San Fernando Valley is a growing suburban submarket offering a plethora of larger garden-style units. According to Curbed L.A., San Fernando Valley can expect heightened development in the coming years as investors continue to make the submarket more city-like by building thousands of new multifamily units, opening new retail spaces, and constructing new offices. The average asking rent is $2,002 as of June 2021.

Renters are shifting demand from nightlife, entertainment, and access to jobs in the urban core to a better quality of life, more space, and affordability that San Fernando Valley offers.

POPULATION BY AGE SOURCE: XXXXXX

As the affordable alternative to Los Angeles, the submarket houses over 1.8 million people, including half of all Los Angeles County contractors, a third of business professionals, and plentiful healthcare workers. A significant industry bolstering San Fernando Valley’s economy is aerospace, employing thousands of skilled workers in research and development engineers and designers. The Orange Line bus route is going through a major extension, a project worth $393 million. As a popular transportation method in San Fernando Valley, the project is expected to complete in time for the 2028 Los Angeles Olympics.

HOUSING TENURE SOURCE: XXXXXX

49.3% THIS GRAPH WONT FIT HERE

Index: 76

50.7% Index: 146

The elevated activity on the Sunbelt will have lasting implications, and the business migration will benefit the area for years to come. The powerhouse economies, lower taxes, and cost of doing business will continue to appeal to a wide range of businesses even after gateway markets recover.

These markets also benefit from their tech-driven environments, with many taking advantage of the new work-from-home policies; this has many young professionals reconsidering where they live and work. Existing apartment properties will benefit from the decades-long population growth, enabling landlords to push asking rents and incentivize developers to build new units. The Sunbelt offers various attractive buying opportunities, especially for investors hunting for the best value.

CITIES WHERE RENTS ARE RISING THE MOST SOU R C E : ADVIS ORS MIT H

4.7

14.3

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