MARKET HIGHLIGHT, NOVEMBER 2010

DENVER
Victor Frandsen, Mike Wafer, Tom Wanberg and Joe E. David

Real estate is rising back up in the Mile High market. The following gives you a front seat for all the activity along the Front Range. 

Office

Third quarter asking rental rates for office properties in the Denver market averaged $20.40 per square foot, a decline of $0.02 from the second quarter. Although third quarter vacancy remained unchanged from the second quarter at 17.9 percent, a number of new leases and expansions totaling 750,000 square feet were signed during the most recent 3-month period. A number of these companies are expected to take occupancy and lower the overall vacancy rate.

On the development front, there are very few blocks of space exceeding 200,000 square feet available on the market, which could translate into a start of build-to-suit projects as several companies with large space requirements may be returning to the market. The sole delivery during third quarter was Franklin Street Partners’ 385 Interlocken, a nearly 300,000-square-foot, 11-story office building that is already approximately 75 percent leased. The strong demand for Class A space caused the northwest submarket to be the only one to experience a strong change in its average asking rental rates, where they spiked to $21.58 per square foot, a $1.53 increase from the second quarter.

During the third quarter, 54 office properties traded hands for a total consideration of $133.4 million. The largest of these sales was Healthcare Realty Trust’s $30 million acquisition of 8010 E. Lowry Blvd. from Development Solutions Group. Lincoln Property Company, Lowe Enterprises, KBS Realty and UBS Realty also made acquisitions during the quarter. Most of the property trading hands were considered to be core assets, which have stable high-credit rent rolls and strong market fundamentals. Capitalization rates of assets have also fallen during the past year, down 50 basis points for some properties.

— Victor Frandsen is a senior vice president, Office Group, at Grubb & Ellis.

Industrial

On the heels of a strong leasing quarter, the third quarter was full of industrial users on the acquisition trail. Driving this trend is the fact that asking prices for industrial properties are down nearly 20 percent from 2 years ago. Some companies continue to remain on the sidelines as they await the outcome of the November election results to gauge consumer and business confidence prior to making any commitments.

On the investment side, despite asking prices being down, they are beginning to creep upward, which supports the increased bidding on assets experienced during the quarter. Additionally, there were several properties for sale with capitalization rates slightly less than 8 percent by the end of the third quarter, nearly 100 basis points lower than 1 year ago.

Active investors include DCT Industrial Trust, Cobalt Partners, Lincoln Property Co. and LBA Realty. In third quarter, 69 industrial properties traded hands at an aggregate value of $103.5 million. Key sale transactions included FORT Properties’ sale of 11600 E. 56th Ave. in Denver to S.P. Richards Company for $9.3 million in an owner-user sale; and LBA Realty’s purchase of 13250 E. Smith Road, a 136,828-square-foot warehouse/distribution building in Aurora, from Principal RE Investors for $7.8 million. A number of real estate-owned properties are expected to come to market, which may cause the trending value of industrial real estate to decrease. Sales activity will continue to increase as users seek to own rather than rent real estate.

Overall Denver industrial asking rental rates increased to $5.90 per square foot during the third quarter, up $0.06 from a quarter earlier. By property sector, the R&D/flex product’s average asking rental rates increased $0.17 to $9.57 per square foot, warehouse/distribution averaged $4.12 per square foot, a $0.02 increase, and general industrial space increased $0.15 to $5.51 per square foot.

One of the area’s largest landlords, ProLogis, has kept its 6.2-million-square-foot portfolio 90 percent leased. Their strategy has been reduced rental rates and competitive concessions packages. During the quarter, the company attracted value-seeking tenants such as Kwiktek, Broder Brothers and Pods to their properties.

Net absorption levels were positive for the second consecutive quarter despite Kable Fulfillment Services Inc. vacating 325,000 square feet of space located at 335 Centennial Drive in Bennett within the northwest submarket. The metro area posted an aggregate 681,456 square feet of positive absorption, bringing the year-to-date total to positive 3.6 million square feet. Third quarter’s positive absorption led to a decreased area vacancy rate of 8.3 percent, down 30 basis points from a quarter earlier. Denver’s 2010 industrial market occupancy gains are expected to come close to those of 2008, the last economic peak when nearly 5 million square feet of space was absorbed, since a number of users that signed leases for large blocks of space will be taking occupancy.

Speculative development in the Denver area is at a standstill, causing Opus Corp. Northwest to announce recently they will cease all development activity there. However, there is pent-up demand for high quality large blocks of space, something of which Denver has little. This could indicate an increase in development in the future.

— Mike Wafer is a senior vice president, Industrial Group, at Grubb & Ellis.

Multifamily

The third quarter continued to represent a sign of strengthening in the Denver multi-housing market. As of Sept. 30, Colorado is ranked 12th in the nation in terms of increased foreclosure rates from the economic downturn. While this is bad for home-owners, apartment owners are left with low turnover rates and less vacant space, as multifamily occupancy levels rose to a 10-year high, closing the quarter at 94.6 percent.

Colorado remains a relocation destination, boasting an average of 20,000 new residents per year. These residents, coupled with the aging populations continuing to rent, will help keep multi-housing occupancy rates high.

If vacancy levels continue to decrease and lenders make more capital available, Denver should see multifamily expansion plans return to the market. Until this happens, the market will remain at a standstill, with only two new apartment properties breaking ground during the third quarter.

A total of 5,184 units sold during the third quarter at an average of $90.32 per square foot or $78,340 per unit. The key transactions to occur include Trammell Crow Residential’s sale of 8200 Arista Place, a 358-unit apartment complex in Broomfield, to AMLI Residential for $55.5 million and AEW Capital Management’s sale of 1250 S. Dayton Court, a 488-unit apartment complex in Denver, to Wasatch Property Management for $43.9 million.

New tenants took occupancy of approximately 2,360 units during the third quarter, the majority of which took place in the Denver Tech Center and Aurora South submarkets. The majority of units that were absorbed were in newer properties developed within the past 10 years. The rents closed the third quarter averaging $874 per unit, a $12 per unit increase over second quarter.

Unemployment does remains a concern, however, as job growth remained flat in September. Local economists also predict a sluggish fourth quarter and 2011.

— Tom Wanberg is a senior vice president in Grubb & Ellis’ Multi Housing Group.

Retail

Ranging by submarket between 9 and 12 percent, retail vacancy rates in the Denver area have stabilized, partially due to the lack of new development. Rates are highest in outlying areas where the majority of new development occurred prior to the economic downtown, as well as in secondary and tertiary retail corridors. Lease rental rates continue to decline in general, although rates in the core retail hubs such as Park Meadows Mall, the Colorado Boulevard retail corridor and Boulder have stabilized.

There has been fairly strong leasing activity for vacant junior-anchor space, which resulted from various bankruptcies and liquidations by retailers such as Linens ‘n Things, Comp USA, Circuit City and Albertsons. Demand for this second-generation space has been helped by the lack of new development, and retailers that have taken advantage of its availability include: Nordstrom Rack, Hobby Lobby, Sunflower Farmers Market, Sprouts and Smart Co. Demand for well-positioned small shop space remains steady as well, driven primarily by quick-serve restaurants such as Smash Burger, Five Guys Burgers, Mad Greens and Café Rio, which remain active in the market.

There is very little new retail development occurring in the Denver area. The majority of activity has been self-driven by individual retailers, including IKEA, Target and Wal-Mart, which is building a super-center in Longmont. Banks, fast-food users and gas stations are also in self-development mode, such as Chase Bank, Chick-fil-A and Murphy Oil.

In spite of the relatively slow retail market, there are a few bright spots, which are primarily infill locations in the more dense trade areas. At Bel Mar, an existing mixed-use development spread across more than 100 acres in Lakewood, Continuum Partners is constructing a 30,000-square-foot Best Buy and 35,000-square-foot Nordstrom Rack. Target is also under construction on a 140,000-square-foot store in the development site as well, and all three retailers are scheduled to open in spring 2011. IKEA is currently constructing a 450,000-square-foot store in Centennial, located in the south metro area, and is scheduled to open in late 2011 to early 2012. There have also been several recently announced new shopping centers including Continuum Partners’ 11-acre, 100,000-square-foot Kent Place in Englewood, which is a proposed community-oriented center that is expected to be grocery anchored.

Discount stores are the most active national retailers and are taking advantage of the lower rental rates and high vacancy rates in trade areas and shopping centers that they have not previously been able to penetrate. Nordstrom Rack recently opened in a former Circuit City location in Denver and is under construction in a former Wild Oats space in Boulder. Hobby Lobby has completed several deals for second-generation space in the metro area, while Sprouts and Sunflower Farmers Market are both actively pursuing a similar type of space. Smart Co. Foods, a hybrid between Smart & Final Co.’s Smart & Final Extra and Harry’s concepts, opened five stores in former Albertson’s locations earlier this year.

A significant increase in new development or leasing activity is not anticipated in the fourth quarter. As is typical in the retail industry, most retailers are focused on their upcoming holiday sales, and, after which, there will be a better indication of retailer’s growth plans for 2011.

— Joe E. David is a partner at David, Hicks & Lampert Brokerage LLC.

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