OKLAHOMA CITY RETAIL PROPERTY MID-YEAR 2017 MARKET TRENDS

Numbers matter in real estate; this survey is built on the premise that numbers matter.   But, in this instance, the numbers do not begin to convey the scale of change in the retail industry nor do they reveal the anxiety that underlies the market.  

Overall market vacancy improved during the first six months of the year to 9.8 percent from 10.6 percent at year-end.   That implies a relatively healthy and improving market.   And there is a lot out there to be pleased about.   The general economy is still holding up even with continued low energy prices.   There are a lot of tenants expanding; most space that has been vacated to date has been backfilled. The market saw positive absorption of nearly 600,000 square feet. Rents, particularly for new space, are at all time highs.  If only we could stop there. The good news has a dark backdrop.   Over 5,000 stores closed so far nationally in 2017 and more on the way.   Negligible income growth locally.   Local tenant struggles.   Fierce competition from internet retailers.

So, where does that leave us.   Are we in a normal cycle or is it the end of retail as we know it?  The truth, as it often does, lies in between.   We see three broad influences in the retail market:   One, retailers are forgetting how to retail.   The best retailers have always been good at staying in contact with their customers.   A big part of which is understanding them well enough to know what they want in terms of merchandise and how to best sell it to them.   In today’s world of big data, that should be easy enough, but many of the problem retailers have failed their customers.  Does anyone think Gordman’s, Radio Shack or Payless has done a good job of this?    Two, competition from the internet is real and unremitting – which really means that Amazon is coming for you.   But, as we’ve discussed before, this is much more nuanced than internet versus brick & mortar.   The two are morphing together…Amazon and other internet retailers are opening brick & mortar stores (and need them to reach more customers and raise margins) while, at the same time, brick & mortar stores are racing to enhance their web presence both in terms of sales and marketing.  This dynamic is changing the way people shop. Virtually everyone browses on the internet, regardless of where they end up buying a product.    Convenience and price have increased importance; the experience is more important.  Three, we are in the middle of a normal real estate cycle.    Retail has been growing rapidly since the 2009 – 2010 recession.    Rents and occupancies are up and there has been significant new construction.  It is time for a correction.     A correction always involves store closures and reduced tenant activity; the amount of leveraged buyouts over the last 10 years has exacerbated this problem by limiting retailers margin of error in a downturn.

You add these three major influences together and you can begin to understand the level of disruption we are seeing today.   We believe it will most likely take another 2 – 3 years to sort out and somewhat normalize the retail market.   In the meantime, the market will be very uneven with some retailers doing well and others struggling or going out of business.    Clear winners in the interim will be value-oriented tenants, health/personal fitness tenants, and tenants who figure out how to enhance the shopping experience.  Tenants that are expected to struggle include fashion tenants, boutiques, and department stores.  Then there will be certain classes of tenants – service & grocery for example – that will see less of an effect from current changes.  Here is a look at how we expect a few specific sectors of the market will fare in this environment:

Locals

One group of tenants getting caught in the retail crossfire is local tenants.   This group is always prone to greater swings in performance given consumer sentiment, changes in disposable income, etc.   All the current bad news (you don’t hear much of the good news) has created an environment where many are being more conservative and shoppers are more value driven.   Most local tenants have less flexibility in this environment with staffing, inventory management and marketing.   Add higher rents, particularly in infill locations, and many local tenants are getting squeezed.

Rents

Oklahoma City has historically had some of the lower retail rents in the country.  That has changed in the last5 to 7 years, particularly with new development, out-parcels in front of big boxes and mixed use developments.    Rents for small shop space in these developments range from $25 to $35 per square foot with some rents pushing $40 per square foot.   This often prices out local tenants.   It also raises the question whether or not national tenants can generate the sales to justify these rents over time.   Our sense is that they can but it is probably a pretty thin segment of the market.    It will also test our market when some of these spaces come back to the market as second generation space.

Development

Two significant new developments came on line in 2016, The Market at Czech Hall anchored by Ross and Academy and Sooner Rose in Midwest City anchored by Academy and Hobby Lobby.  Expect the uncertainty in the market to put most larger development on hold for now.   There will continue to be some strip center development and the expansion of existing centers, but limited large-scale construction.

Grocery

Oklahoma City has seen nearly 1.5 million square feet of grocery added in the last three years led by Walmart, but also Aldi, Natural Grocers, and Sprouts.    Add four new 90,000 square foot Winco’s to that equation and a new Edmond Crest and that’s a lot of additional grocery square footage.   We saw the results of this with Homeland & Buy for Less each closing two stores in 2016.   We expect to see fewer new stores this year as the market adjusts but the pressure will be on the weaker chains.

Movies

The movie business is about to change in a big way in Oklahoma City primarily from the change in state statute allowing the sale of liquor in theaters.   Warren, who sold their existing Moore theater to Regal, has announced a north Eastern and a Midwest City location.   Flix is poised to enter our market.   Expect Alamo Draft House or similar concepts to follow.   This will put pressure on many of the existing theaters to upgrade.   All-in-all, the next few years should be a boon to movie-goers and a source of growth for retail.

Survey Footnote:

Our survey tracks 29.8 million square feet in 255 buildings of over 25,000 square feet and 15.3 million square feet of stand-alone buildings for a total market of 45.1 million square feet. 

There continues to be a significant number of smaller strip centers in the market (under 25,000 s.f. in size). We would estimate there are close to 5.7 million square feet of these properties in the market.

Price Edwards Retail Investment Team Announces Second Quarter Market Statistics

Retail investment sales were quiet in the second quarter with one big exception, The Outlet Resource Group's $128.6 million purchase of the Outlet Shoppes of Oklahoma City. Re-branded OKC Outlets, the property is a specialty use property that is the only outlet mall in Oklahoma City. TORG plans to make some improvements to the mall and continue to tweak the tenant mix. The only other sale of a greater than 25,000 square foot property in the quarter was the 31,200 square foot, Willow Creek. Otherwise, the uncertainty that characterizes the broader retail economy appears to have also affected investment sales. There remain significantly more buyers in the market than sellers. As part of a countrywide trend, one group of buyers, the larger institutional real estate firms, have generally not bid on the last couple of institutional grade properties in our market, resulting in an at least 100 basis point increase in capitalization rates for class A properties. This trend may open the door for more local and regional investors to buy up in quality. Expect the current turbulence retailers are experiencing to create opportunities for these retail investors.

OKLAHOMA CITY RETAIL PROPERTY 2016 YEAR-END MARKET TRENDS

By most traditional measures – occupancy, rents, lease volume, new construction – the retail market held up pretty well in 2016, probably the best performance of any asset type.   Market vacancy ended the year at 10.6 percent compared to 10.4 percent at mid-year.   Some underlying factors, however, are creating uncertainty and could impact 2017 performance.  Chief among these are continued low energy prices, low income growth (the lowest in the country in the third quarter) and the resultant decline in sales taxes (see the chart on page 4).   For these reasons, we anticipate uneven performance in 2017 with a slight rise in vacancy and relatively flat rents.  Discounters like TJ Maxx, Ross and the various dollar stores have done well the past few years and we expect that to continue.    Restaurant expansion, which has been booming in Oklahoma City and nationally (40 percent of retail growth last year), will likely slow.    The higher end boutique market may see the most headwind.    One unknown that could help our economy and possibly change the market dynamics is President Trump.   It is anticipated that the new administration’s policies will be good for business in general and the oil industry in particular by ushering in reduced regulations and lower taxes.   Whether or not these policies come to pass or give Oklahoma a positive bump in 2017 is unknown.

Development

On the development front, the second half of the year was characterized by the completion or near completion of planned projects:   The Market at Czech Hall is nearing completion of phase one including Academy, Ross & Marshalls (approximately 180,000 square feet); Sooner Rose at Southeast 15th & Sooner with Academy and Hobby Lobby; Shoppes at Quail Springs is nearly complete as well (96,000 square feet); University North Park has added two outbuildings and three stand-alone restaurants; Winco is under construction in Moore and will start construction soon in three other locations; Chisholm Creek added the 76,000 square foot Tract 30, and, a significant number of smaller 10,000 to 20,000 square foot strips have been completed.    Most of these projects come into the market preleased.    In addition to these projects, Lifetime Fitness will be taking the former Macy’s location at Quail Springs Mall and numerous other retailers – Aldi, Homegoods, Mattress Firm, Five Below, among others – remain active.    As noted in our mid-year report, Walmart just opened two new Neighborhood Markets and a Supercenter (part of the 1.2 million square feet they’ve added in the last few years).    

There are a number of planned projects that haven’t broken ground:   Poag’s Bridges at Springcreek in Edmond; the Triangle Expansion by Washington Prime that remains tied up in a lawsuit; the recently announced retail as part of the downtown Strawberry Fields development; Westgate’s expansion south of Interstate 40 and the possible re-configuration of Shields Plaza.   The performance of our economy in the first half of 2017 will go a long way to determining whether these and other smaller planned developments get done.

Grocery

Our grocery market has experience significant change and increased competition over the past five years, trends we see accelerating.    The sizable expansion of Walmart noted above has added nearly 800,000 square feet of just grocery.   Specialty grocers, virtually nonexistent in our market 10 years ago, are now prevalent with Sprouts and Natural Grocers continuing to expand and Trader Joes entering the market albeit with one location.   Aldi has added stores as well.    Winco is poised to add four large stores to this mix; Winco is a strong entry in the market that will compete with Walmart on price.   The recent passage of State Question 792, allowing full-strength beer and wine sales in grocery and convenience stores, will influence the grocery market.   Whether or not it will allow us to attract a national full-scale grocer like Kroger or HEB remains unknown.  The answer may be a few years off as the law does not go into effect until 2018 and is being challenged in court.   But, the net effect of all these influences could very well shake-up the market.   Homeland and Buy For Less have already both closed stores; the response of existing operators bears watching as the competition heats up.

The Internet

In the world of retail, the internet is usually characterized as both the future of retail and the killer of brick and mortar stores.   The reality is much more nuanced.    Currently, internet sales make up about 9 percent of total retail sales; 30 percent of e-commerce sales go to Amazon.   Internet sales continue to grow rapidly; most experts put internet sales at around 20 percent of total sales by 2030.    Here is where it gets murky.   The second largest e-commerce retailer is Walmart, much of which is picked up at their stores.   Approximately half of internet sales are to retailers who have brick and mortar stores.   Retailers are getting very creative at using their stores both to fulfill internet orders and be distribution centers.    Interactive kiosks in stores are becoming more commonplace.   Amazon, of all companies, is opening brick and mortar stores (see the Amazon Go article on page 22).  Walmart is experimenting with small stores that are primarily pick up locations for internet orders, including groceries, that are filled at a nearby Supercenter.   The fact is that brick and mortar and the internet are integrating in ways we wouldn’t have imagined.    Expect this to continue.   Brick and mortar isn’t dying; it is organically changing in response to changing consumer tastes and buying preferences just like it always has.

Survey Footnote:

Our survey tracks 29.4 million square feet in 253 buildings of over 25,000 square feet and 14.8 million square feet of stand-alone buildings for a total market of 44.2 million square feet. 

There continues to be a significant number of smaller strip centers in the market (under 25,000 s.f. in size). We would estimate there are close to 5.5 million square feet of these properties in the market.  

PRICE EDWARDS RELEASES 2016 MID-YEAR RETAIL MARKET SUMMARY

The retail market is better than it seems like it should be. Given the continued layoffs & bankruptcies in the energy market, declining sales tax revenues, and general economic uncertainties, the expectation would be that the Oklahoma economy and the retail market would be in a recession. But, leasing activity, development and interest in our market remain strong. The unemployment rate has ticked up, but only slightly. Sales taxes in the suburbs have, with limited exceptions, continued to rise. Tinker and the aerospace industry are expanding. We are seeing some weakness in the office market, primarily energy related, and we are beginning to see some pockets of inconsistent retail performance, primarily in local tenants. But, overall, the mid-year snapshot of our industry is pretty good.   

Let’s look at the numbers. Mid-year retail vacancy comes in at 10.4 percent which is a full percentage point higher than year-end. On the face it of it, this would be cause for concern. And, no doubt, some of the increase is due to an easing of the market; however, a deeper look into the number reveals that market growth is driving the increase. For a number of years, Oklahoma City has had a shortage of new, well-located retail space; the market is addressing this through expansions of existing centers, new development and re-positioning of centers. This past year, the market added 600,000 square feet of space in the 25,000 square foot plus category that we track.   Market vacancy is just over 8 percent if you add the stand-alone buildings. Several of the new developments are in lease-up stage and are temporarily contributing to the additional vacancy – Quail Springs Shops, the 240 Penn Park addition, Stone Mill in Yukon, Tract 30 at Chisholm Creek, Northeast Town Center, etc. Existing properties that are being renovated and repositioned have also contributed – Bryant Square, Edmond Marketplace, Oak Brook among others. The vacated Macy’s at Quail Springs Mall alone makes up half the increase (more on it later). You can see how market dynamics are at play here; expect to see vacancy fluctuate over the next few years given the development activity in the market.

The question as to whether or not activity stalls in the next couple of years rests with two economic drivers over which we have little control: does the energy market recovery continue?  And, is there a broader national recession?