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VOL. 7 | NO. 28 | Saturday, July 5, 2014

‘Significant Headwinds’

Office market stagnant while retail, multifamily and industrial sectors improving

By Amos Maki

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When Gov. Bill Haslam joined local economic development and civic officials at FedExForum in January to announce that Conduit Global would open a call center in Shelby County that would employ 1,000 people over the next three to five years, it provided a much-needed boost to the local office real estate sector.

Raymond James Financial Inc. confirmed at the end of the second quarter that it would be staying Downtown through March 2024.

(Memphis News/Andrew J. Breig)

New York-based Conduit Global had inked a deal to initially lease 25,000 square feet at the 125,000-square-foot office building at 7000 Goodlett Farms Parkway with options to increase its presence at the office building as its workforce grew.

At the time, another unidentified company was exploring Memphis for a sizeable call center that would need a significant amount of office space, along with several other prospects that were kicking the local tires, so to speak. But those deals never came to fruition and the office market – which can be a key indicator of economic growth because it typically involves white collar jobs with higher paying salaries – has lumbered on.

The same could be said for other commercial real estate sectors in the Memphis area. While conditions in the office, industrial, retail and multifamily sectors have improved significantly from the economic downturn, the Memphis area, hit hard by the recession and lagging behind the rest of the nation in the economic recovery, is not setting the commercial real estate world on fire through the first half of 2014.

With little Class A office space available in the highly desired East Memphis submarket, where the vacancy rate is hovering around 3 to 4 percent, Memphis is essentially out of the running for companies requiring large blocks of prime office space in the most sought-after location.

“There doesn’t seem to be any more (big) lookers this year,” said Ron Kastner of CB Richard Ellis Memphis. “They’ve been kind of quiet. The smaller users, those looking for under 5,000 square feet, are who we’re hearing from right now. That’s what you get when you’re Class A market is almost full. There’s no more room for them. We’re kind of in handcuff mode right now.”

The tightness of Class A space in East Memphis could push office users into other submarkets or to well-positioned Class B properties.

“Class B owners, they hope they can catch some of these deals that would otherwise go to Class A buildings,” Kastner said. “As long as they’re in a good location, those Class B properties could have a good run for the next year or two.”

Kastner and other office real estate professionals said that, though it’s been uneven at times, the number of prospects looking at local office space has picked up.

“Velocity of transactions has picked up but overall it is still inconsistent activity,” said Ron Riley of Colliers International Memphis. “The second half of 2014 is anticipated to be a continuation of the first half of the year with spottiness in velocity but overall an improvement from the last couple of years.”

The increasing number of companies inquiring about office real estate could bode well for the rest of the year, Kastner said.

“The volume of proposals and showings, the lead indicators of our business, are pretty active and that’s always a good indicator of where we’ll be in three to six months,” he said. “When the phone isn’t ringing and we’re not showing space, that’s when I get worried.”

The Memphis area’s streak of three straight quarters of positive office absorption could be in jeopardy as companies seek to reduce their real estate costs by bringing workers out of leased space and back into company-owned space or by reducing the size of leased office space.

“Overall the office market is improving but still faces some significant headwinds,” Riley said. “Companies continue to look for ways to pare down expenses and as leases are rolling, consolidation is a commonly used term.”

The Memphis area’s largest private employer, FedEx, appears to be in consolidation mode, which could have far-reaching consequences for the local office sector, including whether or not a developer decides to move forward with a new office building.

FedEx Express confirmed in May that it would not renew the roughly 75,000 square feet it occupied in Building B at Lenox Park. According to numbers compiled by commercial real estate brokers, FedEx and its subsidiaries lease around 328,896 square feet of office in the Memphis area, including well-known and positioned office buildings in East Memphis.

Raymond James Financial Inc. confirmed at the end of the second quarter that it would be staying Downtown through March 2024, ending months of speculation about whether the financial services firm could be an anchor tenant in a possible new East Memphis office building.

Raymond James’ announcement was a huge boost to Downtown, whose occupancy rate was hurt by the departure of companies like Pinnacle Airlines, which vacated the One Commerce Square office building for a move to the Minneapolis area.

Downtown Memphis Commission president Paul Morris said that while the Downtown office market may have lost some of its shine over the years, many companies still find the dense urban environment appealing.

“Across corporate America there is a growing trend that being based in a vibrant, urban, walkable area benefits talent attraction,” Morris said. “It’s not the preferred office market for some, but it is the preferred office market for many companies. Raymond James is a very important part of the Downtown environment, is very beneficial to Downtown, and I’m very happy they recommitted to Downtown and I’m looking forward to Downtown growing and Raymond James growing with it.”

If FedEx sheds a significant amount of additional leased space it would result in a large amount of space becoming available, which, combined with Raymond James’ decision, could alter plans developers might have for a new office building.

On the retail side, several new companies entered the Memphis market, heavy investment in the grocery sector continued, Overton Square gained more momentum and redevelopment of the Shops at Saddle Creek kicked off.

The Tile Shop, a specialty retailer of high-quality tile, is opening its first Memphis area location at 1245 Germantown Parkway. Texas-based retailer Conn’s entered the Memphis market with a Conn’s HomePlus in 42,296 square feet at the Cross Creek Shopping Center at Riverdale and Tenn. 385 that Babies “R” Us vacated. LA Fitness is opening two new facilities in the Memphis area, one off of Tenn. 385 and the other along Interstate 40 and U.S. 64 in Lakeland.

Grocery activity remains strong. Fresh Market is converting the old Ike’s store on Union Avenue and a new Whole Foods store in Germantown is underway. Kroger has begun the process of replacing its Union store and making major upgrades to the stores at Poplar and Cleveland in Midtown and the Germantown Crossing shopping center.

Grocery activity remains strong within the retail sector. Kroger has begun the process of replacing its Union store and making major upgrades to the stores at Poplar and Cleveland in Midtown (above) and the Germantown Crossing shopping center.

(Memphis News/Andrew J. Breig)

“The grocery sector has been great,” said Danny Buring of The Shopping Center Group LLC.

Trademark Property Co. has launched a multimillion-dollar renovation of the Shops at Saddle Creek. The company will expand the portion of the 148,000-square-foot lifestyle center on the southwest side of Poplar Avenue and West Street in Germantown. The project also includes remodeled building exteriors for Saddle Creek South and West, facade updates for Saddle Creek North and upgraded plazas, lighting, signage and landscaping.

With most new retail construction over the last few years being built to suit, the amount of top-level retail space available has shrunk, which could prime the pump for new retail centers, Buring said.

“The (Class) A retail has been tight for several years and it’s getting real tight for the (Class) B retail,” he said. “There’s been no big anchor project built in several years. For a traditional shopping center, I think there’s demand. I think there’s demand in Southaven. I think there’s demand in Millington. I think there’s potential demand in Collierville.”

On the multifamily side, occupancy, rent and absorption rates all showed marked improvements from the first quarter.

“After an unusually slow first quarter, which was experienced in many markets, the second quarter has shown great strides in recovering in all statistical categories,” said Blake Pera of CBRE Memphis.

Overall occupancy in the second quarter was 92.3 percent, up from 91.1 percent at the end of the first quarter, and average rent was $765, up from $759 at the end of the first quarter.

The best performing submarkets continue to be the Class A submarkets in Downtown, Germantown, Collierville, Cordova and DeSoto County. Older properties, primarily the Class C submarkets, continue to drag down overall occupancy but could start showing improvement soon, Pera said.

“Occupancies within this product class is trending up as well, primarily because most of the distressed properties have cleared the market, allowing buyers to reposition the assets to make them viable and attractive to prospective residents,” Pera said.

The biggest deal through the first six months of the year was Volvo Group’s announcement that it would occupy a new 1 million-square-foot distribution center in Byhalia, Miss.  

(Memphis News/Andrew J. Breig)

In the industrial sector, Class A leasing activity has been slow but investment activity has been on the upswing.

The biggest deal through the first six months of the year was Volvo Group’s announcement that it would occupy a new 1 million-square-foot distribution center in Byhalia, Miss., inside Panattoni Development Co.’s Gateway Global Logistics Center. The deal provided added momentum to the emergence of Fayette County, Tenn., and Marshall County, Miss., as a major new industrial submarket.

“That’s a big game changer in the industrial landscape,” said Andy Cates of Colliers International Memphis.

With no new speculative industrial development inside the city of Memphis since 2008, tenants are continuing their flight to the big boxes being built in Northwest Mississippi.

“There are empty boxes in Memphis but because of the highly specialized requirements many companies have today they need build-to- suit,” said Kemp Conrad of Cushman & Wakefield/ Commercial Advisors. “When people think about build-to-suit they think about Desoto County and Marshall County, partly because of available land and the red tape involved in our incentive and governmental processes.”

While there was a lack of large lease signings in the first quarter, investment activity – fueled by a recovery in Class A industrial pricing, the dwindling number of distressed Class A properties available and the shrinking supply of Class A space in established markets – was strong.

Exeter Property Group acquired a Memphis industrial portfolio for $42.9 million, Olymbec USA LLC continued its buying spree and Memphis International Airport Center sold for around $24 million.

“There’s been a lot of really good investment activity and I think that speaks well of our market when people are spending their money here acquiring assets,” Cates said.

PROPERTY SALES 57 280 1,209
MORTGAGES 55 244 916
BUILDING PERMITS 158 699 2,751