MARKET HIGHLIGHT, MARCH 2007

INLAND EMPIRE MARKET HIGHLIGHT
B.J. Pritchard, Larry Blakley, Dan Wakumoto, Lindsay Tragler, Scott Ostlund and Ken Jones

The housing market may be moderating a bit across the nation, but consumers — and thus retailers, developers and other businesses — are still flocking to the Inland Empire.

Retail

In the Inland Empire, consumers are driving the retail market more than ever, despite the seemingly fickle housing market, fluctuating interest rates, varying debt levels and high gasoline prices. The housing market is in a mild deceleration mode, and the Fed is nearing the end of its 2-year campaign to lift interest rates to a neutral level.

Meanwhile, the economy continues to create jobs in the Inland Empire at a steady rate, with wages on the rise to boot. All in all, landlords and developers are doing everything they can to target the untapped markets and cater to the evolving demographics of the Inland Empire.

In Riverside, 90,000 households boast an average income of $79,000, and residents have nearly as much discretionary income as in Orange County. The city, along with a host of others in the Inland Empire, represents an untapped opportunity for high-end retailers.

Retail rental rates remain strong and steadfast but continue to be more affordable than the neighboring counties of Orange and San Diego. Newly constructed shops still achieve rents between $30 and $42 per square foot. Grocery-anchored shop spaces range from $24 to $33 per square foot with neighborhood centers in tow at around $18 to $24 per square foot. Anchors have more leverage as developers are paying higher land prices; anchor tenants are pressuring developers for lower costs and various incentives. The result: developers are charging (and achieving) higher in-line rents to make up the difference. Market vacancy is currently a shade under 7 percent.

Another item of interest among investors has been the emergence and success of mixed-use and lifestyle centers. Investors are beginning to favor these centers over traditional grocery-anchored centers, which are being approached with caution in some sectors due to pressures from the rapid expansion of Wal-Mart Supercenters and Super Targets.

One such high-profile lifestyle center is Panattoni Development’s Piemonte project in Ontario. A pedestrian-oriented, 24-hour urban development, Piemonte will be a core destination and lifestyle experience for the Inland Empire as well as Southern California. The Piemonte experience includes nearly 400,000 square feet of retail space, with distinctive restaurants and services, 268,000 square feet of Class A office space, 806 residential units, 769 multifamily residences, an 11,000-seat sports and entertainment arena, and a 200-plus room, high-end business/headquarters hotel and restaurant.

The continued growth in Riverside County, the High Desert and San Bernardino County will drive the demand for power centers as retailers follow homebuilders. This is evidenced by Wal-Mart, which opened Supercenters in Moreno Valley, Hemet and Palm Springs with plans for Wildomar, Murrieta and Victorville. The demand for in-line shops around the power centers remains at an all-time high as retailers strive to keep pace with the evolution of the Inland Empire’s consumers.

With the Inland Empire’s retail market’s expansion predicted to outpace the national average this year, vacancy rates will stay low, asking lease rates will continue their steady climb and Inland Empire consumers will be rewarded with the high-profile developments that they have been waiting for.

— B.J. Pritchard is a retail specialist for RBI Inc. in Riverside, California.

Multifamily

Shaped by continued new construction that is tipping the market toward greater supply than demand, the Inland Empire multifamily market’s biggest news may be its steadily slowing rental rates and slightly dipping occupancy.

With a near record 4,300 new multifamily units delivered in 2006, annual rent increases of 7.4 percent in 2005 decreased to 4.9 percent in 2006. This translates into a modest rent increase from slightly more than $1,000 per month in 2005 to just above $1,140 per month in 2006. At the same time, occupancy fell from 95 percent to 91.4 percent.

In response to this shift, some owners have started offering concessions, a long-silent factor in the Inland Empire but one that may be necessary to help quell the backlash of renters who are resisting — or are simply unable to pay — rising rents. Still, investors and developers continue to show interest, based largely on population growth and a solid employment market that is expected to improve by 40,000 new jobs in 2007, down slightly from the 55,000 new jobs created in 2006.

In the past 12 months, $1.16 billion in multifamily product — reflecting nearly 8,000 units — sold at an average price per unit of $147,028 and a weighted average cap rate of 5.08 percent. This compares well to the national average per-unit price of $81,500 and weighted average cap rate of 5.86 percent.

Some of the major, recent Inland Empire apartment deals include the 1989-built, 290-unit Miramonte garden apartment property in Alta Loma, which sold in December to Pacific Property Company for $46.4 million or an average unit price of $160,000; the 1986-built, 330-unit El Dorado Pointe garden apartment property in Moreno Valley, which sold in October to Griffin Partners for $41 million or an average unit price of $124,242; and the 1987-built, 215-unit AmberGate garden apartment property in Riverside, which sold in January to Archstone for $29.9 million or $139,070 per unit.

Development also continues, with 3,000 new units expected to deliver to the market this year. Some of these units will rise in the emerging high desert submarkets where costs of construction and living are lower and growth is strong. Many more developments will take advantage of closer inland locations. This includes the proposed $50 million m solé in downtown Riverside that developer Alan Mruvka reports would feature 6,900 square feet of retail space, 91 condominiums and 18 live-work units starting at $400,000 per unit. It also includes the Piemonte at Ontario Center in Ontario, which includes 806 for-sale residences and 769 multifamily units, of which some already are completed and sold. The Piemonte also will include retail, restaurant and Class A office space, a sports and entertainment area, a health club, and a 200-plus-room hotel.

What this level of construction will do to the rental market is still to be determined. However, if history is an indicator, the Inland Empire should continue to host REITS, private investors and developers that will drive the market in a positive direction and help it find its new point of balance.

— Larry Blakley is an advisor for Sperry Van Ness in Ontario, California.

Office

Unlike most commercial markets — which are typically driven by residential, then retail, then office and industrial construction — the Inland Empire tends to follow the lead of its industrial market. That being said, the news is good!

Currently, 19 percent of all warehouse space nationwide is being constructed in the Inland Empire, and the ports of Los Angeles and Long Beach account for 45 percent of consumer goods activity in the nation. This positions the Inland Empire as a primary gateway into the country, with a median home price more than 40 percent less than neighboring Orange County. This equates to more executive housing, which in turn helps to attract new corporate and regional offices.

The Inland Empire office vacancy rate is just 7.6 percent. In high-end markets like Corona and Rancho Cucamonga, that figure dips to 3 percent. In expanding markets like the Ontario International Airport, vacancy is 7 percent. Average price per square foot for smaller, owner-user space is between $150 and $200. Average prices for larger Class A space are closer to $220 to $250 per square foot and higher.

Solid rents of $2.15 to $2.35 per square foot for Class A space in the Ontario Airport submarket have further enticed developers to pursue opportunities there. On the large-scale front, projects like the new 380,000-square-foot DHL cargo hub, located next to the former March Air Force Base, and the 400,000-square-foot IDS Corporate Center — the largest spec office project in Inland Empire history — are boosting activity. On a smaller scale, mixed-use developments that incorporate retail, eateries, office and residential uses in a pedestrian-friendly environment are appealing to those seeking a high-end environment.

Piemonte at The Ontario Center is one of these. Located just north of the Interstate 10 freeway and the airport, it totals 1 million square feet and includes 268,000 square feet of Class A office space — 120,000 square feet of which is under construction — plus retail, luxury condominiums, a hotel and an 11,000-square-foot arena that is projected to draw in concerts and sporting events. In Corona, Dos Lagos also is being developed jointly by Poag & McEwen Lifestyle Centers, SE Corporation and Timberline Commercial Real Estate. Located at freeways 15 and 91, Dos Lagos will include 473,000 square feet of office space in twin six-story towers and a four-story building. Already open are 350,000 square feet of upscale, main-street-style retail space.

With cap rates around 6.75 percent and vacancy rates low, the upside potential for both developers and investors in the Inland Empire may lie in future rental increases. At present, the market remains underserved by office space, with just 5.7 square feet of space per resident as compared to 23.5 square feet in Orange County and 18 square feet in Los Angeles County. Helping to answer this demand may be larger developments cropping up in areas like Redlands, Temecula and higher up in the desert near Victorville. Yet, while the most recent office projects have been pre-leased at rates of 70 and 75 percent, it remains to be seen if the market and these properties can continue on that track. Assuming cost of living, cost of doing business and corporate interest continue at today’s levels, there is little doubt that the Inland Empire will continue to deliver good news.

— Dan Wakumoto is a senior investment advisor and Lindsay Tragler is an office investment advisor for Sperry Van Ness in Ontario, California.

Industrial

Known as the Inland Empire West, the Greater Ontario Airport Region (GOAR), consisting of Ontario, Rancho Cucamonga, Chino, Fontana and Mira Loma is still considered one of the fastest growing industrial markets in the country. With constant new construction and employment increases, the market continues to expand.

There have been noteworthy changes in the Inland Empire. As the market continues to become inundated with new development projects, the amount of raw land is becoming increasingly less available. In the past year alone, nearly one quarter of the nation’s largest industrial projects were put into motion within the Inland Empire.

Due to the ongoing high construction activity in the western Inland Empire, many developers are being forced to seek land elsewhere in the two-county market. This is in exception to the remaining infill market. Developers are maximizing the uses in these small portions of unused land, and, because of this, there has been a recent influx of small business parks and multi-tenant buildings in western submarkets.

With virtually all industrial development now taking place in the eastern part of the Inland Empire, asking prices for freestanding buildings in the Inland Empire West are up approximately 30 percent in the last year. In many cases, owners have exceeded the buyers’ purchasing ability, which, in turn, has largely slowed down the sales of industrial buildings. On the leasing side, rates have also increased, though not as drastically, growing about 8 percent in the last year. Unlike buyers, tenants seem to be absorbing these new asking rates.

Also affected by these changes are vacancy rates, which have increased slightly but have steadily flattened off in the last year. At 6.05 percent, the Inland Empire industrial vacancy rate is still considerably lower when compared to national figures.

Taking into account all the above factors, it is apparent that industrial buyers and tenants of the Inland Empire seem to be reacting to and absorbing this changing and rapidly growing market at the same rate that developers are continuing to build.

— Principal Scott Ostlund and broker Ken Jones are based in Lee & Associates’ Ontario, California, office.

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