Midwest Commercial Real Estate Experts Pick Six Trends for 2014

December 13, 2013

Midwest Commercial Real Estate Experts Pick Six Trends for 2014
Plus a final word on the future of Chicago?s apartment market

While the commercial real estate market enjoyed increased activity across all sectors in 2013, some areas, like apartments, performed better than others. But will rental investment continue to shine as bright in 2014, or will it find itself in the shadow of other commercial assets?

According to some of the Chicago-area?s top commercial real estate firms, much of 2013 was spent preparing for an even busier 2014. Given the relocation of many top companies to downtown Chicago, demand for new apartments, office, retail and restaurant projects in 2014 should all be up as workers look to achieve a live, work and play lifestyle.

In fact, some firms spent 2013 staffing up for a big ?14 push. MACK Companies, one of the largest REO-to-rental specialists in Chicago, recently purchased an 8,000-square-foot office facility to accommodate its growing business as it expands into commercial development and construction arenas in 2014.

As it?s anyone?s game to win in the upcoming year, Chicago-area real estate experts weigh in with their predictions for the top commercial real estate trends for 2014:

1. Silver Tsunami: With 60 million baby boomers entering their senior years, real estate practitioners should see a plethora of health care deals in 2014.

?As the silver tsunami approaches, senior living providers will find golden opportunities as demographics will demand more senior housing in the coming decades,? said Jacob Gehl, founder and managing director of Blueprint Healthcare Real Estate Advisors. ?Likewise, savvy real estate investors will find this asset class to be need-driven, recession-proof, growing, profitable and stabile. The aging population should allow for the easy absorption of new construction in the healthcare real estate market. However, those investors migrating from the major food groups of real estate into senior housing and healthcare will find themselves requiring sector specific expertise. Those entering the healthcare real estate market should align themselves with an industry focused advisor or operating partner as deals in this sector require an understanding of healthcare as well as real estate.?

Coupled with the aging population trend, new U.S. healthcare laws are estimated to provide insurance for an additional 30-40 million Americans. To meet this demand and gain market share, healthcare providers will continue to develop their network of outpatient facilities, where quality, targeted care can be delivered in a much lower-cost setting.

?Reducing cost will be a driving factor for healthcare providers going forward,? said John Wilson, president of HSA PrimeCare. ?Providers have realized treating patients in well-located outpatient centers is convenient for patients and has become a requirement. As a result, real estate has elevated significance in the business strategy of healthcare delivery.?
To further enhance patient access to quality care, providers will adapt their real estate to combine practices and services in a very inviting setting at multi-specialty facilities. Wilson said common lobbies, flexible exam rooms, and shared nursing stations between different practices will be commonplace to eliminate redundancies, control costs, and to facilitate alignment between the health system and newly-acquired physician practices.

Gehl agreed, noting, ?Competition will be high in this market and providers that deliver comfortable settings and the best patient experiences will come out on top,? he said.

2. Everybody Eats: As the economy continues to improve, so too will consumers? appetites for dining out. William Di Santo, president of Englewood Construction, said restaurants construction will be busy in 2014 as many restaurateurs attempt to locate to urban cores, giving them direct access to heavy foot traffic. However, many of the locations will need to be retrofitted to house a restaurant.

?Most of the prime available space in city centers right now was designed for a retail operation,? said Di Santo. ?Restaurants have done very well in the recovery, because they don?t need to compete with on-line competition as many traditional bricks-and-mortar retailers do. As they begin to flex their muscles more and move into urban cores, experienced commercial general contractors will be necessary to retrofit locations to serve a restaurant operation.?

3. #2 is Really #1?: According to Lee Kiser, principal and founder of Kiser Group, Chicago?s downtown market may be in jeopardy of experiencing rent declines, while select neighborhoods will remain stable ? and may even see rent increases.

?With the downtown market, it is simply a supply and demand issue. More new construction units will come online in 2014, increasing competition in an already tight market and making it difficult to increase rents,? said Kiser. ?However, many Chicago neighborhoods are set to perform better than downtown due to less density. The rising popularity of certain areas and lack of new supply should result in hefty rent increases during 2014, similar to what was experienced during 2013.?

One firm taking advantage of fast-growing non-urban core neighborhoods is Prime Property Investors (PPI), which owns and manages The Arbors of Brookdale in Naperville as well as a number of student housing developments in strong secondary markets like South Bend, Ind. and Knoxville, Tenn., and recently broke ground on Alexan at Auburn Lakes in a Houston submarket called The Woodlands.

?The Houston metro area continues to set the pace for job growth in the nation and The Woodlands is one of the fastest-growing submarkets,? said Barbara J. Gaffen, co-CEO of PPI.? ?Lower land and construction costs, compared to the urban core of Houston, coupled with high renter demand make non- downtown properties an attractive investment with great opportunities for additional growth.?

Also bullish on secondary markets is The Marquette Companies, which in 2013 invested in several non-core urban projects, including a 400-unit rental community in Granger, Ind. ?As the competition for properties in major metropolitan areas has increased, it has pushed pricing to a point that has made it more difficult to buy in those areas,? said Darren Sloniger, managing director of acquisitions for The Marquette Companies. ?Purchasing well-located properties in secondary markets with high barriers to entry provides a good alternative for us right now.?

4. ?Unless You?re Talking Retail: Instead of chasing rooftops like during the housing boom and eventual bust, retailers in 2014 will opt to pay higher rents in heavily-trafficked, mature markets, predicts Greg Schott, managing principal of L3 Capital LLC. ?Cap rates in urban cores are reaching historic lows and rents are continuing to increase in prime locations,? he said. ?Investors who have entered these markets have seen favorable returns and strong retailers view them as safe moves.?

For example, L3 recently sold two properties in the Beverly Hills and West Hollywood market for a combined $62 million, approximately $27 million more than it paid for the properties a few years ago.

Di Santo agrees, adding large-scale retail projects in urban cores that were sidelined by the downturn will be re-initiated as consumers and retailers continue to gain confidence. ?A lot of projects that were planned four or five years ago never got off the ground,? he said. ?This has produced a number of prime urban locations developers could build on next year. We?ve had steady construction activity in the retail industry for a few years, but big projects have not been too common. I expect that to change in 2014.?

5. Midrise Mania: With less risk and upfront investment than larger developments, midrise buildings address a growing demand for new residential supply.

“Midrise projects will be attractive for a number of reasons, including the flexibility they offer in terms of location as well as their cost and construction timeline,” said Anthony Rossi, Sr, president of M&R Development and RMK Management Corp. “Municipalities and building codes are often far more open to midrise buildings, especially when it comes to an infill site outside of an urban downtown location, like our Central Station apartment building that opened earlier this year in Evanston, Ill.”

Steven Fifield, president of Fifield Companies, noted that 2,000-square-foot, three-bedroom condos can be delivered more cost effectively in midrise buildings than smaller units in large high rises in nearby neighborhoods. “The condo demand has changed from the boom days of 2000 to 2007 in that couples and young families who want to live downtown now are looking for larger units than the one- and two-bedroom high-rise condos that were so prevalent during the boom,? he said. ?Developers looking to meet this new condo demand will face less risk and more financial ease from banks with a midrise project.?

6. Tech Spec: Another bright spot in 2014 will be the increased amount of speculative construction in the industrial and distribution sectors. HSA Commercial initiated three industrial spec buildings in 2013 and thinks others will follow suit due to the lack of high-cube, Class A industrial product suitable for warehousing and logistics tenants that are seeing rapid growth in e-commerce and new investment in industrial projects.

“Institutional investors have started to take an active interest in industrial spec development since they are realizing the risk-adjusted rate of return is more compelling than competing aggressively for fully-stabilized real estate assets,? said Bob Smietana, vice chairman and CEO of HSA Commercial. ?With an infusion of new capital and banks willing to lend to well-capitalized sponsors, developers will continue to build spec projects in core markets like Chicago where vacancy rates below 5 percent suggest there is still plenty of unmet demand.?

The wave of spec development that started on the coasts has now reached Chicago, and HSA expects secondary distribution markets will start to see new development activity next year as well.

Look to new industrial spec buildings to use new, energy-saving features as well, such as Light Emitting Plasma (LEP) technology, an energy-efficient, low-maintenance, high-lumen lighting solution. Paul Burke, president of Lightficient, explained. “LEP reduces energy bills by 50 to 70 percent on average and, once installed, maintenance costs are greatly reduced. Return on investment is realized within two years, so we anticipate more developers will use these types of lighting solutions to remain competitive in 2014.”

The Final Word on Chicago Apartments: According to Fifield, whose firm has three Chicago-area mid- and high-rise rental towers in various stages of approval and development, apartment deliveries in downtown Chicago will begin to slow down after 2014, but ?With continued job growth, I believe the demand for rental apartments downtown will grow to well over 2,000 units a year, allowing the absorption of another 10,000 units over the next five years,? he said.

And Kiser predicts that as Chicago?s apartment supply grows, rent increases are unlikely, particularly in the luxury market. ?Cap rates may increase on downtown properties as NOIs will decrease and interest rates will rise. For neighborhood properties, NOIs will either remain flat or slightly increase with rises in rents,? he said. ?The apartment investment market will still be strong, but as interest rates are primed to increase, buyers may find more favorable deals in markets that have experienced little new construction.”


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