IRVINE, CA—With all eyes focused on the fate—for good or ill—of big box stores and grocery-anchored centers, other categories have managed to slip by unnoticed. Some, like middle market retail, investors skip at their own risk. It’s true that the category poses some obstacles, says Nicholas Coo, senior managing director of Faris Lee Investments, but the extra attention required could show favorably in terms of fundamentals and sustainability. GlobeSt.com met with Coo to get more on what opportunities the category might present.
GlobeSt.com: How would you define middle market retail?
Nicholas Coo: The retail investment “Middle Market” is comprised of assets that fall in the space between single tenant retail and multi-tenant anchored retail ranging in pricing from $2 million to $18 million. This market is further characterized by assets which are not primarily driven by corporate tenancy but are driven by local real estate fundamentals. Primary examples of middle market product are strip centers, multi-tenant retail pads/outparcels, convenience centers, and unanchored retail centers. We estimate that there are just under 70,000 retail properties nationwide which fall in this category.
GlobeSt.com: Why is this product type often overlooked by investors?
Coo: This product is largely overlooked by investors and the brokerage industry because it trades in a much less efficient manner than single-tenant, larger corporate credit centers, and anchored shopping centers. In addition, most real estate brokerage firms are organized with practitioners who specialize in STNL or institutional-grade assets, which are largely tenant-driven when compared to the trade area emphasis that drives the middle market product. This dynamic has left middle market assets with dramatically fewer service specialized providers. For this reason, we believe in continuing to refine our approach toward middle market asset advisory and have broadened our local market presence through our partnership with X-Team throughout the Unites States.
GlobeSt.com: From a transactional standpoint, how are middle market assets different than other retail types?
Coo: Middle market assets require local market data relative to rents and occupancy, in addition to regionally driven value indicators which separate them from tenant-driven retail, namely anchored centers and single-tenant assets. The product type is also different with respect to its emphasis on bank or balance sheet lender financing, another less efficient aspect of the middle market segment. Knowing who will finance a project and its terms greatly impacts the value, and subsequently the targeted buyer pool. Overall, one of the main distinctions that makes the middle market different is the trade-area driven fundamentals versus tenant-driven assets (which trade largely based on tenant credit and branding). Middle market requires underwriting that considers sustainability of rents and area fundamentals (vacancy, supply, consumer base, traffic patterns, demographic trends). Outside the middle market, we have found in many cases investors have relied on the quality of the lease contract and credit tenant, whereas in the middle market they have relied on the real estate fundamentals and sustainability.
GlobeSt.com: How does Faris Lee address these challenges?
Coo: As mentioned, Faris Lee takes a local knowledge approach leveraged through our partnership with X-Team nationally, which is critical in understanding how to underwrite assets in markets throughout the United States. In addition, we recognize that local knowledge must be paired with understanding of the region’s metrics relative to value drivers such as cap rates. Lastly, we believe national exposure must be layered in for successful delivery of service to the client, which again leverages our national platform.
GlobeSt.com: What advice would you give a seller of a middle market asset?
Coo: Our advice for owners of middle market assets would be to keep a forward-looking view on underwriting when making decisions regarding opportunity and risk. Conventional comps may be misleading compared to real-time investment offer activity and leasing data reflecting newly executed deals. With many brokers or advisors focusing on tenant quality, we offer a contrarian view which weighs the opportunity and risks more heavily on fundamentals and sustainability reflected in our style of underwriting.
GlobeSt.com: What are the opportunities for middle market owners in today’s market?
Coo: We believe strip shopping centers and convenience centers are becoming more popular with investors as need-driven tenants don’t have to be synonymous with national or regional credit. We are currently seeing an increased demand for non-credit strip centers and unanchored centers impacting cap rates in favor of ownership influenced by a departure from underwriting where tenant brands are driving value. As always, we prefer to discuss acquisitions or dispositions well in advance of a client’s actual transaction date and encourage current and new clients to reach out for proactive discussions in order to help identify opportunity and risk through our company’s resources and services.
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