MARKET HIGHLIGHT, JULY 2008

LAS VEGAS
Brian Patje, Jennifer Ouellette and Jennifer Peltier

Given the present economic environment, Las Vegas now finds itself in a rebalancing act. One thing’s for sure — the city’s tourism industry and thus its hospitality sector keep chugging along.

Hospitality

Southern Nevada’s current economic performance continues to be impacted by a sluggish residential construction sector, slowdowns in consumer spending and a weakening national condition. As the pace and form of the current economic cycle remain in line with expectations, Southern Nevada’s tourism industry performance provides a bright spot in an otherwise gloomy economic portrait.

Visitation

Data released by the Las Vegas Convention and Visitors Authority (LVCVA) reported the number of visitors to the Las Vegas valley during the 12 months ending March 2008 totaled 39.2 million, a 0.7 percent increase when compared to the same time the previous year. Convention-related attendance and its economic impact, however, were down 2.5 percent and 1.6 percent, respectively, when compared to the same 12 months in the prior year, suggesting a modest uptick in the rate of leisure-related travel.

Airport Traffic

McCarran International Airport welcomed approximately 47.5 million passengers

during the 12 months ending March 2008. Southwest Airlines maintained the largest market share, transporting a total of 16.3 million arriving and departing passengers. Southwest reported an above-average growth rate of 4.9 percent during the past 12 months. US Airways (inclusive of America West Airlines activity) was second on the list, followed by United, Delta and Continental Airlines.

The sixth busiest airport in the United States may be faced with infrastructural challenges due to robust visitations expectations. While capacity is likely to exceed published capacity prior to the Ivanpah airport alternative, Terminal 3 is expected to accommodate much of the increased air travel triggered by major casino-hotel developments, including the most recent opening of The Palazzo, Palms Place and Trump International Hotel & Tower, as well as the expected openings of Wynn’s Encore (December 2008), MGM MIRAGE’s CityCenter (November 2009), Turnberry Associates’ Fontainebleau (fall 2009) and Boyd Gaming’s Echelon (third quarter 2010).

Hotel Supply and Demand

Total hotel room inventory recently increased to 136,500 at the close of first quarter 2008, up 2.7 percent when compared to the available rooms in the same month of the previous year. Average hotel occupancies during the past 12 months reported a slight improvement, increasing to 90.1 percent from 89.6 percent during the same time in 2007. Pricing for hotel rooms trended upward to an average of $132 per night during the past 12 months. The latest pricing figures represented a 7.1 percent increase from the same period of the prior year.

Gaming Revenue

In addition, the market also reported modest growth in gross gaming win. During the 12 months ending March 2008, casinos in the state of Nevada reported total gaming revenue exceeding $12.7 billion, with Clark County casinos accounting for $10.8 billion or 84.6 percent of all gaming win held statewide.

During the same period, Las Vegas Strip properties posted approximately $6.8 billion in gaming revenues, up 1.3 percent from the same time period the previous year. Southern Nevada tables and games reported a marginal decrease in revenue of 0.3 percent; however, tables and game drop were up 0.7 percent. Slot machines did report a slight increase in revenue (2.2 percent) during the past 12 months, while experiencing a slight decline in slot coin-in (-1.2 percent).

Softer national conditions, historic low consumer confidence levels and record high gasoline prices are undoubtedly impacting the market. Although some have suggested otherwise, Las Vegas has never been recession proof. Rather, the market has been resourceful and resilient in weathering a handful of national economic downturns. Today, Las Vegas is more expensive and more convention-dependent than ever before. The city’s ability to market itself as a lower-cost alternative, particularly to domestic drive-market travelers, is more tenuous than ever.

That having been said, performances in leisure and hospitality segment are contingent on the performances of the new mega resorts under construction, which total 27,000 hotel rooms and more than $20 billion of investment. Should sufficient demand be realized for these new high-end mega-resorts, the next wave of development will not be far behind.

— Brian Patje is an analyst at Applied Analysis in Las Vegas.

Multifamily

Housing market conditions remain at the top of national, regional and local economic reports. Pricing escalations in the for-sale market, population in-migration, rising rates of foreclosures and tightening lending requirements continue to play a role in the Las Vegas’ apartment sector. A flood of investor and speculator-owned homes has caused a short-term imbalance in the rental sector as individually owned properties compete for traditional apartment renters at competitive price points.

Recent Las Vegas apartment market reports showed a slowdown in rent growth, while occupancies remain below historical averages. These trends reflect the downturn in the for-sale housing market, while softer-than-average employment growth has also impacted overall demand. Concessions at various communities have been reported in response to single-family rental units available in the market and the overall economic climate.

Despite remaining below historical averages, multifamily occupancies increased 0.4 percentage points during first quarter 2008, reaching an average of 92.7 percent. This increase follows six consecutive quarterly decreases. Occupancies remain down from the 94.1 percent reported 1 year ago. It is worth noting that a handful of new projects are in the lease-up phase, which has them reporting below-average occupancies as new units are absorbed.

Average asking rents at the close of first quarter 2008 were $888 per unit per month, which represented a 1.8 percent increase from the same period last year. The latest rent growth figure represented the lowest escalation since first quarter 2004. Rents remained relatively flat compared to fourth quarter 2007.

Representing approximately 21 percent of the market, Class A properties performed above average with regard to rent growth, but posted below-average occupancy levels. Average asking rents reached $1,040 per unit per month, up 2.9 percent from the $1,011 witnessed 1 year ago. Despite the upward movement in rents, occupancy levels dipped to 89.5 percent from 94.7 percent in the prior year. Newly constructed communities remained in the lease-up phase in the north submarket and other emerging portions of the valley. Class B and Class C communities posted below-average rent growth.

Geography plays an important role in regards to rental rates and occupancy levels. Submarkets reporting higher-than-average rental rates include: Northwest ($890 per unit per month), North ($906), West ($897), Southwest ($1,016), South ($893) and Southeast ($988). Submarkets reporting lower-than-average lease rates include the Northeast ($771) and Central/East ($814). Apartment rents in the southwest submarket reported a stronger-than-average 4.2-percent increase from last year. Above-average unit sizes (992 square feet) and accessibility along Interstate 215 remain positive amenities for communities in the area. Communities located in the north portion of the region posted a strong increase in average asking rents as the recently opened Broadstone Azure impacted the mix of reporting properties.

The latest apartment performance measures suggest market corrections are underway. This rebalancing within the sector is anticipated to be relatively short-lived as overall housing demand during the next 12 to 24 months is expected to increase, with a large share of newcomers seeking out rental opportunities. This should be the same time when the for-sale market begins to report signs of improvement.

— Jennifer Ouellette is senior manager for Applied Analysis in Las Vegas.

Retail

Rooftops drive retail demand, unless, of course, there is no one living under the roof. The idea that retail activity closely follows residential development has been the mantra of countless industry insiders, including brokers, developers, investors, lenders and yes, even market analysts. Today, however, this truism is complicated by historically unprecedented residential vacancy rates and declines in household spending levels. While the longer-run outlook remains positive, the current rebalancing within the housing market has some retailers feeling the pinch of reduced consumer spending.

By close of first quarter 2008, the Las Vegas Valley retail market expanded by another 1 million square feet, reaching 49.9 million square feet total retail inventory across 317 anchored centers. While new supply levels are still strong, the gap between the rate of net absorption and completions is well above historical norms, as a shortfall of 661,000 square feet prevailed during the quarter (a 0.36 net absorption-to-completions ratio). This slowdown in market activity resulted in a 5 percent vacancy rate, the highest that the Las Vegas retail market has reported in recent history.

Mature areas of the valley reported the highest concentrations of vacant rental space, which included the east, southeast and north submarkets. A handful of second-generation grocery- anchored sites have been unsuccessful attracting new tenants, while a few have remained vacant for multiple years. Recent closings of various CompUSA stores, Levitz Furniture outlets, Rite-Aids, Big Boy restaurants and other retailers have contributed to above-average vacancies. With more than 2.5 million square feet of availability, retailers that can be flexible with regard to location have a greater ability to negotiate incentives and allowances, particularly on second-generation space.

The market exhibited below-average levels of space under construction — 2.5 million square feet in the first quarter. In addition to space underway, another 12.8 million square feet is planned for future development. The southeast, southwest and north submarkets are reporting the highest concentration of planned projects. A limited number of newly constructed grocery-anchored centers are expected to enter the market during 2008 and 2009. A flurry of retail-to-residential rezoning during the past couple of years has limited future supply of these types of properties in some key areas.

Valley-wide retail rents averaged $2.20 per square foot, which matched the preceding quarter. Above-average pricing was reported in the northwest and southwest submarkets (emerging portions of the valley), while the east was substantially below average at only $1.58 per square foot. As expected, power centers had the highest rates at $2.62 per square foot, with the north submarket power centers exceeding $3 per square foot. Newly constructed spaces require pricing premiums given that land and construction costs have risen dramatically during the past several years. The achievability of these premiums in all areas is questionable.

It should be noted that some planned off-strip retail developments are scaling back on the overall size of their projects or breaking them into smaller phases, many with undetermined start dates. Major projects with undetermined start dates include the Great Mall of Las Vegas, Sorano

Commercial Village and Grand Canyon Parkway. Some chains have continued to successfully expand in the valley — Tesco’s Fresh & Easy, Dunkin’ Donuts, Target, 24 Hour Fitness and Petco — while others are facing challenges as a result of softer economic conditions (e.g., Smith’s, Wickes Furniture, Linens ‘n Things, Tweeter, Pacific Sunwear and Sharper Image). Las Vegas reflects a national trend where many regional retailers are trying to “right-size” after aggressive expansion programs during the last 3 to 5 years.

Further increases in vacancies are expected in the near term while some retailers exit the market and others delay expansion plans. We tend to err on the side of caution, but we remain bullish on the mid- to long-term outlook as substantial investments within Las Vegas’ core hospitality industry are expected to expand the market and generate incremental demand for retail shop space.

— Jennifer Peltier is a project manager for Applied Analysis.

Industrial

In sharp contrast to the office, retail and residential sectors, the industrial market is coming off record-low vacancies and reporting more sustainable average rates.

By end of first quarter 2008, the Las Vegas Valley industrial market expanded by another 1.5 million square feet, bringing total inventory to 98.4 million square feet in 3,156 buildings. While new supply levels remained strong, the rate of net absorption slowed from what was reported during the past several quarters, failing to keep pace with completions as only half as much space was absorbed.

Market activity resulted in the highest vacancy rate in more than three years — 6.7 percent. The northwest, northeast and Henderson submarkets reported the highest concentrations of vacant for-lease space. With almost 6.6 million square feet available, users that require space in reasonably accessible locations now have a greater ability to negotiate leasing incentives and allowances to offset rising tenant-improvements costs, which are significant as many users are programming increasing shares of office build-outs.

Valley-wide industrial rents averaged $0.77 per square foot at the close of the first quarter, up slightly from the preceding quarter’s $0.76 per square foot. Above-average pricing was reported in areas that tended be centrally located, including the west-central, east-central, airport, west and southwest submarkets. On the other hand, the mix of available space in the northeast portion of the valley, comprising a larger share of big box distribution space, was substantially below average at only $0.59 per square foot.

The development community has been quick to respond to current conditions, as the 3.6 million square feet currently under construction is the lowest level in 3 years. That said, even these more modest additions will take the market-wide inventory past the 100 million-square-foot mark by fall 2008. The slowdown in under-construction activity is not only a function of the market, but also the recent completion of several large-scale buildings, including Pepsi Co.’s 515,000-square-foot bottling and distribution building and International Game Technology’s (IGT’s) campus in the southwest.

While in recent years there has been a push to retrofit older buildings, numerous aged industrial buildings have been demolished to make way for new projects such as hotels, high-rise condominiums, casino expansions and other high-density developments. This trend has been most clearly present in and around the resort corridor. Rising land values and continued speculation have resulted in premium pricing, leaving non-industrial developments as the highest-and-best use. Expect this trend to continue as many industrial buildings west of Interstate 15 in the central valley are slated for redevelopment. This trend will inevitably put increased pressure on existing industrial space.

Another 6.3 million square feet is planned for future development in Las Vegas. The southwest, north and northeast submarkets are reporting the highest concentration of planned projects because vacant land is more readily obtainable for industrial developments. Looking further out, expansions in new corridors, including Apex and Ivanpah, will provide the next industrial development frontier. Although these emerging areas have resource and access limitations today, they will be vital in providing needed industrial space after 2012.

— Jennifer Peltier is a project manager for Applied Analysis.

Office

Not unlike other sectors of the national and Southern Nevada economy, the Las Vegas Valley office market failed to maintain a stable balance between new supply and demand during first quarter 2008. Completions totaled 551,000 square feet, while net absorption was negligible at 9,400 square feet, resulting in a vacancy rate of 14 percent. Availability is above historical averages and will likely remain elevated through the next several quarters.

Compared to a year prior, vacancy is up 1.9 points from 12.1 percent, while vacancy 24 months before was hovering at 8.7 percent. The 10-year average vacancy rate is approximately 9.7 percent, with the latest performance representing the highest on record in recent history. Class A office space represents the lowest vacancy rate with 9 percent, and Class B office space carries the highest rate at 15.6 percent.

Several factors are influencing the Las Vegas Valley office market. Economic indicators are generally weaker than in years past. Annual employment growth in the office-using sector was 1,200 jobs (0.4 percent), while the professional and business services sector experienced an employment decline of 4,100 (-3.4 percent) from the prior year. Unemployment levels continued to edge north, reaching a valley-wide average of 5.4 percent at the close of first quarter, while population growth indicators continue to trend downward. These factors, combined with softer economic conditions nationally, a dearth of mega-resort openings during most of 2006 and 2007, and a rapidly-correcting financial services sector, have translated into the softest local conditions since the period immediately following September 11, 2001.

On the supply side, the Las Vegas office market continues to reflect the favorable conditions present in 2005 and 2006. This was a period of rapid pricing escalations for both existing product and raw land, allowing many office buildings to move forward with land-based construction financing. The nearly 8 million square feet entering the market during the past 2 years has put upward pressure on vacancies and downward pressure on pricing. Expect these conditions to persist for the next several quarters as another 4.4 million square feet of inventory is already underway. An additional 6.7 million square feet remains on the drawing board in the form of planned projects. Vacancies may very well reach beyond 15 percent by the close of 2008.

By the close of first quarter 2008, average office space asking rents increased slightly even as vacancies remained elevated relative to historical trends. Valley-wide asking rents averaged $2.34 per square foot per month, full-service gross (FSG) equivalents. By building class, average rents reached $2.78 per square foot for Class A properties, with the downtown and central portions of the valley reporting the largest premiums due to selected buildings recently completing construction and/or space located in mid- to high-rise buildings. Class B buildings reported average rents of $2.31 per square foot. Pricing premiums for Class B product was reported in the northwest, downtown, southwest and south submarkets. Class C product averaged $1.87 per square foot, with more mature portions of the market reporting below-average pricing.

Pricing or effective pricing will be the key to recovery for many building owners as the competitive landscape increases. Increased concessions, through free rent periods and elevated tenant-improvement allowances, will have developers and owners adjusting the returns to ensure the long-run viability of their projects. The current environment is concerning; we expect a 24-month turnaround period will be required before a more normalized condition emerges.

— Jennifer Ouellette is senior manager for Applied Analysis in Las Vegas.

UNION PARK IN DOWNTOWN LAS VEGAS Union Park Named for former property owner Union Pacific Railroad, Union Park is on track to revolutionize downtown Las Vegas. In a city known for going big with its real estate development projects, the $6 billion, 11 million-square-foot mixed-use, urban community will take it to a whole different level. Located on 61 acres owned by the city of Las Vegas, Union Park will feature office, medical, residential, retail, civic and hotel/hospitality space when at full build-out in 2018. Newland Communities is acting as development manager of the city within a city. “Considered the single most important element of the revitalization of downtown Las Vegas, Union Park is anchored by two key public facilities — the Lou Ruvo Brain Institute designed by famed architect Frank Gehry and The Smith Center for the Performing Arts, designed by architect David Schwarz,” says Brian Gordon, principal at Applied Analysis. 2007 saw the commencement of construction at Union Park, the inking of several major deals by third-party developers and the announcement that the master-planned development is the only project in Nevada to be part of a national green pilot program. In 2008, the following will take place or has already taken place: completion of phase one of the Lou Ruvo Brain Institute; groundbreaking for the The Smith Center for the Performing Arts; groundbreaking for the World Jewelry Center; completion of Union Park’s infrastructure construction; selection of the design team for Symphony Park; execution of development agreements for the medical office and business hotel campus (ACCESS Medical), casino hotel and retail complex (Forest City) and residential project (Newland Communities); and requests for proposals for Class A office, residential and retail on the three remaining parcels at Union Park.

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