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What's up with commercial real estate?

Owners of commercial real estate aren’t expecting a banner year for their retail property. Growth in retail lease rates has slowed, investors are putting more of their money into office buildings instead and there’s been only a slight decrease in vacancy rates, which now hover at 8.1 percent nationally. Thing is, you’d never know any of that by talking to a restaurant owner. “We’ve been looking for over three years,” says George Katakalidis, whose California-based Daphne’s Greek Café is expanding in the Phoenix area. “But it’s really difficult to find good real estate.”

Katakalidis may even be willing to pay the $40 per square foot that top-tier property owners now demand in Phoenix. Still, he says, “since everyone is hunting for space, even the cost of mediocre real estate has been pushed up.”

Paul Fetscher, president of Great American Brokerage, a Long Beach, New York, firm specializing in restaurant properties, says that demand for restaurant space is being driven by competition from outside foodservice. “Two users are really driving that market upwards in dizzying spiral,” Fetscher says. “Number one is cell phone stores,” which can afford to pay a premium for space because of the guaranteed future revenue provided by the long-term contracts most customers are required to sign. “The second player is the banks,” he says, noting that mergers have been rampant in the financial services sector, requiring lots of reshuffling of real estate. “You’re seeing some banks popping up with the same frequency as Starbucks.”

The demand for space isn’t just an urban phenomenon. According to the National Association of Realtors, secondary and tertiary markets continue to experience strong demand for retail space due to population growth. The NAR reports that California, Nevada and Hawaii saw the highest gross retail rents in 2006 (San Jose tops the list at an average $30.29 per square foot). And the group expects the average national retail lease rate to rise 1.2 percent by the end of the year, to $19.82 per square foot.  

In the west, properties are selling above the national average of $169 per square foot; the same is true in the east, according to RERC/CCIM Investment Trends Quarterly, a commercial real estate report, although the report’s authors attribute at least some of the high prices in that region to overpricing. Meanwhile, properties in the South and Midwest are selling for prices well below average, with little positive change expected in the latter region any time soon due to job losses in the auto industry.

Restaurants are also being affected by the rise of so-called “lifestyle centers,” high-end shopping centers whose design often mimics that of a traditional downtown. Such centers are attractive to restaurants because of the high-income clientele they attract. However, while lifestyle centers have reduced real estate costs compared to traditional enclosed malls since there are fewer common areas to maintain, that doesn’t mean they’re necessarily welcoming smaller restaurant operators with open arms.

“Local and regional players will look at the same site in a lifestyle center, but at the end of the day they’re not going to pay the freight that a national will,” says Jeff Nimmer, North Carolina leasing and brokerage manager for Kotis Restaurant Group in Greensboro. “In the end, the landlord is going to be more comfortable signing
a lease with a P.F. Chang’s or a Cheesecake Factory.”        

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