MARKET HIGHLIGHT, FEBRUARY 2010

SALT LAKE CITY
Richard Bird, Mike Richmond and Greg Hunter

Some upward trends and upward projects bode well for Salt Lake City’s commercial sectors finding stability in 2010.

Retail

While the retail vacancy rate in Salt Lake City will continue to rise this year, the most significant increases have already occurred, and operations in close-in retail corridors may be close to stabilizing. Specifically, established retail districts east of Interstate 15 in the south central submarket will outperform the metro in 2010, as elevated household incomes and a dense population will support steadier operations.

Severe job cuts and a spike in deliveries last year, however, will delay a recovery in outlying areas, especially near newly built communities. For instance, in the southwest submarket, which has led Salt Lake City in residential construction and, recently, foreclosure activity, operators will struggle with weaker retail sales and tenant retention this year. Moreover, nearly 70 percent of all new neighborhood/community center space completed in the metro during the past 5 years came online in the submarket, and owners of these newer developments will be forced to drop rents further in 2010 to compete in the current leasing climate.

Looking at the numbers, approximately 11,000 jobs are forecast to be created this year, a 1.8 percent gain. In 2009, employers cut 27,400 workers. After builders delivered 926,000 square feet of retail space last year, 180,000 square feet will come online in 2010. Vacancy is expected to push up 40 basis points to 11.8 percent this year. In 2009, vacancy increased 160 basis points as job cuts deepened and new space came online. Asking rents are forecast to dip 1.5 percent to $15.53 per square foot in 2010, while effective rents will fall 3.9 percent to $12.69 per square foot. The National Security Agency will build a 1 million-square-foot data center at Camp Williams, creating up to 10,000 workers and adding 1,200 permanent high-paying tech positions. The influx of employment should bolster demand for retail space near the base.

As for investment, buyers began to redeploy capital into the Salt Lake City retail market last year, though acquisition trends differed by property type. Single-tenant deal flow increased in 2009 and should remain steady this year as investors focus on wealth preservation. As such, single-tenant cap rates are expected to stay in the low- to mid-8 percent range. Multi-tenant transaction activity dropped considerably last year due to greater caution among investors, who typically execute value-add strategies. In 2010, shopping center buyers who previously expected a spike in REO listings will find few such opportunities as a result of banks’ growing willingness to modify loans. Subsequently, investor interest for discounted traditional listings will increase, helping to spur deal flow. This year, multi-tenant cap rates are expected to average between 8.5 and 9.5 percent.

— Richard Bird is the regional manager of the Salt Lake City office of Marcus & Millichap Real Estate Investment Services.

Office

The Salt Lake metro office vacancy rate climbed to 15.72 percent the past year, up from 12.95 percent in 2008. The local and national economy has had a significant effect on vacancy. The rise can be largely attributed to the December completion of Hamilton Partners’ state-of-the-art, LEED-certified 222 Main Street office building, adding 420,000 square feet to the central business district (CBD) vacancy. The building is partially leased but not occupied.

With negative employment growth and increasing vacancy in 2009, lease rates did not increase. However, 222 Main Street sent asking lease rates to a high of $32 to $34 per square foot, causing overall rates to move upward from $20.20 per square foot in 2008 to an average asking rate of $20.58 in 2009. Effective lease rates, which include concessions such as rent abatement, relocation and above-standard tenant-improvement allowances, continue to move lower.

Absorption was positive at 88,000 square feet for 2009, but has had an overall decrease when compared to the 5-year average of 913,000 square feet annually. The best absorption was seen in the northeast suburban quadrant due in large part to Salt Lake Behavioral Health leasing 75,000 square feet. The largest drop in absorption was seen in the CBD, experiencing a negative 165,198 square feet across all business classes.

In 2009, a total of 768,000 square feet in new construction occurred, compared to just more than 1 million square feet in 2008. All projects began construction in 2008 or earlier, prior to the economic challenges, when credit was more available.

By the end of third quarter 2010, it is predicted Utah will return to positive job growth. The office market may lag behind the recovery, as companies slowly regain confidence, begin hiring, execute leases and occupy new space. It is expected the latter half of 2010 will see momentum based on the current office market and tenant needs.

During the upcoming year, four buildings totaling 315,000 square feet are expected to be completed, with more than 75 percent of the space already leased. There will be a continued volatility in vacancy rates the first half of 2010, but later in the year one could see a reversal, where possible positive absorption and lower vacancies could occur.

The Salt Lake area office market will continue to favor tenants as many landlords attempt to attract new tenants and retain current ones by negotiating concessions.

— Mike Richmond is a leasing and investment specialist for Commerce Real Estate Solutions in Salt Lake City.

Multifamily

Resumed economic expansion and accelerating household growth in 2010 should set the stage for a healthy rebound in Salt Lake City apartment fundamentals in 2011. Last year, severe job losses and a spike in construction weighed on conditions. Metro employers will begin to add to payrolls this year, spurring renter demand and moderating vacancy rises in most submarkets.

Still, some Salt Lake areas will remain oversupplied, resulting in softer fundamentals through much of 2010. In the West Jordan submarket, for instance, inventory levels rose by more than 15 percent last year with the completion of approximately 1,100 units. Vacancy in the area is among the highest in the metro, exceeding 8 percent as of the end of 2009, and operators will have to offer far greater concessions than the metrowide average in the coming quarters.

Elsewhere, renter demand in downtown Salt Lake City, which has one of the tightest vacancy rates in the metro, could receive a boost during the next several years due to the $1.5 billion Downtown Rising project. The residential component of the mixed-use development will include high-end condos that will debut early in 2010 and Class A rentals that will come online in phases.

By the numbers, modest development activity, steadily rising vacancy and greater concessions caused Salt Lake City to fall two spots in the 2010 index. The development of the National Security Agency Data Center at Camp Williams is expected to add at least 5,000 construction jobs to the metro. As such, total employment is forecast to increase by 11,000 positions in 2010, a 1.8 percent gain.

After spiking in 2009, apartment deliveries will slow to 1,200 units this year. Despite anticipated job growth, vacancy is expected to tick up 40 basis points in 2010 to 6.9 percent, following a 150 basis point rise last year. Asking rents are forecast to decline 1.8 percent this year to $719 per month. As concessions increase due to rising vacancy rates, effective rents are projected to contract 2.8 percent to $656 per month. Investors are expected to be increasingly active in Salt Lake City. A once-anticipated wave of distressed properties has failed to materialize, and prices have retreated to levels that will continue to spark buyers’ interest.

Investment activity should accelerate this year as buyers’ and sellers’ expectations become more closely aligned and employment and household growth resume. Distress will likely be limited, although a number of properties involved in institutional deals that were made at peak prices in 2007 and 2008 may begin to enter the market by the end of 2010. Some previously sidelined buyers are expected to return by midyear, as cap rates for Class A properties reached 7.5 percent in 2009 and initial yields for Class B/C assets approached 9 percent. The local housing market is the primary investment wildcard, as some traditional apartment buyers could target the metro’s glut of foreclosed homes if prices continue to fall.

— Richard Bird is the regional manager of the Salt Lake City office of Marcus & Millichap Real Estate Investment Services.

Industrial

The Salt Lake area industrial market has weathered the economic challenges relatively well. Due to a lack of new construction, the market has experienced moderate vacancy rates, as opposed to other major markets that have seen quite the opposite with higher vacancies.

Lease activity in the past 12 months has declined by 25 percent. The decline affecting all size categories is an historic anomaly in the Salt Lake area market. This trend is due in large part to the decline in available credit, which has been seen across the board. 

Throughout 2009, sublease space became more prominent with close to 1 million square feet of big box space returned to the market by large national and regional tenants. The availability of sublease space, once scarce in the Salt Lake market, has helped to offset the lack of new industrial inventory. Currently, there is enough product available to provide tenants with amenable choices.

Industrial lease rates have declined, dropping approximately 10 percent in the past year, a significant reversal from the 23.42 percent rise posted in 2008. Tenants, whose businesses have remained healthy, are reluctant to expand or relocate. An increasingly common trend is landlords willing to negotiate lower rates and concessions, such as free rent to avoid potential vacancy.

Though a few large projects are under construction by owner/users such as O’Reilly Automotive Inc., Komatsu Equipment and Food for Health International, speculative construction has come to a near standstill. Outside of the big box category, the market has experienced little new growth in inventory, again due to the lack of lending opportunities.

 Signs of economic improvement are slowly emerging as we 2010 started. With no new construction on the horizon, vacancy levels should begin to stabilize by 2011. Lease activity is also anticipated to show improvement in the coming year, as pent-up demand will likely put more tenants into the market. Additionally, with no new construction overall lease activity should rise by approximately 10 percent in 2010.

— Greg Hunter is an industrial specialist for Commerce Real Estate Solutions in Salt Lake City.

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