IRVINE, CA—As the retail property sector has reached an all-time high in terms of pricing over recent months, many wonder if the market is hitting its peak. We sat down with Nicholas Coo, senior managing director with Faris Lee Investments, to talk about how it is critical to go to market with a strategically priced property (as opposed to an over-priced one) to avoid the often damaging consequences of a property listing going stale.
GlobeSt.com: Are we at the top of the market relative to pricing in your opinion?
Nicholas Coo: Based on what we are seeing there are certain segments of the retail investment market that are at unprecedented pricing heights indicated by historically low cap rates. The core urban areas featuring high credit are attracting interest at cap rates in the sub-4% range for single tenant and sub-5% for multi-tenant —something we haven’t seen in retail through the past three cycles. The core urban cap rates seem to be the biggest part the pricing story today as they have compressed without pulling in the tertiary markets as much as in the past. Overall, I do think we are hitting the top end of the market relative to pricing in this cycle as we are still fueled by cheap money and a lack of alternative investments. It is a terrific time to be a seller in prime markets. Ownership can trade out of a historically high price and trade into an alternative investment in a stable suburban market. The pricing difference in general could yield a 25% increase in NOI (comparing the 4% cap environment to 5%) with little or no risk added.
GlobeSt.com: What considerations are made when developing a “go to market” pricing strategy for your clients?
Coo: The supply side affects how aggressive we can or want to be with our pricing strategy. We are seeing about 30 percent more retail investments on the market today than what we saw 12 months ago. Aside from trophy assets in core urban locations, it is important to note that the rising tide does not lift all boats in this case. It is critical to avoid overpricing and understand that the retail sector does not follow a linear pricing strategy in the current market. Specifically, we are not seeing the compression we saw in the previous cycle supporting tertiary market values. In general, we were seeing approximately 50 basis points in the difference between secondary and primary locations. Now we are seeing the pricing gap widen in the secondary market partly due to supply side pressure. I actually think it’s a good sign for the market indicating that although pricing is aggressive, the market is acting much more rationally than during previous runs.
GlobeSt.com: Can you speak to how Faris Lee’s pricing process may be different from others?
Coo: Our process is different than most brokerage firms due to the fact that if a client doesn’t need to sell immediately, we can be called upon 6 to 12 months before a property goes to market to make value-driven decisions and recommendations. Entering the picture early takes more work but generally results in a more favorable outcome.
Our trading desk system also makes us unique. We have shared information across our entire platform which is critical in providing real-time comparables for pricing in a forward-looking context, giving valuable insight as to where the market is headed. Also, Faris Lee typically has at least a billion dollars in listings across the country ranging from major multi-tenant centers to single-tenant, net-leased assets which contributes to the volume of information allowing us to identify trends early. Our trading desk provides real-time data for both retail type and geography. While many brokerages use traditional comparable sales data – we are able to take a street-level look at what is happening right now as opposed to reviewing comps that are three to six months old.
GlobeSt.com: What elements aside from the cap rates are also critical in establishing value / pricing strategies?
Coo: First, we know that cap rates often don’t stand on their own. Many assets come encumbered with existing debt that doesn’t reflect market rates. It is good to consider other factors that affect pricing. More than ever, looking at tenant sustainability and viability is a very important theme for pricing. With soft goods and sporting goods retailers going out of business due to factors such as internet competition, a lot more emphasis is being placed on the tenancy of a center because it directly correlates to its value and stream of income. Evaluating retail assets by underwriting the sustainability of the tenancy is more important than ever. Knowing what contributes to a given tenant’s success in addition to obtaining sales information has become a vital part of the underwriting process. You have to go beyond the traditional metrics of cap rates, cost per foot and rent per foot measured against comps.