Rougher Road

Rougher Road

COMMERCIAL REAL ESTATE by Sean Roth | Real Estate Editor

Commercial real estate's exceptional exuberance is forecast to hit a dour note in '08. Still its long-term future looks strong.

The cycle of markets made it inevitable. There is now a consensus among commercial real estate experts that 2008 will probably be flat, maybe even a bit of a loser, after several strong years.

But differences remain between the regional markets along the Gulf Coast region.

After the recent run-up in commercial real estate, which offered a natural outlet for investors following the residential demand crash, most observers say 2008 will likely disappoint in comparison to recent years.

Those same experts, however, assuage one concern - the commercial slowdown will not be the deepth of the residential slowdown. All they're saying is, just don't expect too much.

"In a nut shell, we're assuming that it's going to be flat to slightly down in terms of volume," says J. Patrick Duffy, president of the Clearwater-based brokerage Colliers Arnold. "I don't personally believe in Florida we are going to have a recession, but I also think you would be naive to think we won't see a slowdown."

Much like the storm of problems that hit the residential market, the local commercial market is facing a confluence of troubles combining to slow the buying fervor.

At the macro level, the national economy is appearing more than a little shaky. With oil hovering around $100 a barrel and the dollar down against most other currencies, consumer spending, which drives much of the economy, is being depressed. Added to that are new, tougher lending requirements and premiums for many types of financing. With an approaching presidential election, there's even the threat in the air of significantly higher capital gains taxes.

Second, as different as commercial and residential markets are, the downturn in the home markets is starting to have a growing effect on the Gulf Coast's commercial real estate industry. Office space across much of the region has seen vacancies grow as a result of the construction companies and more general service firms that have downsized or disappeared - along with a recent burst of commercial construction adding to the supply.

After a delay, the residential impact is expected to finally hit retail in 2008.

"It a commonly accepted fact that rooftops - with people in them - drive retail," says Stan Rutstein a Realtor with RE/Max Gulfstream Realty. "In fact, it's also a motivator for people to build new office space as well; it drives a lot of new commercial space. One is simply interlocked into the other."

Remove those rooftops as the downturn has and Rutstein and others experts expect retail developers, who have planned developments based on those early housing absorption assumptions, to push back their projects. In other markets, such as Lakewood Ranch, retail landlords are starting to feel resistance to rate increases unlike they have in the past.

Another concern some experts see is a slower than expected level of office demand.

"I'm a little nervous about 2008, particularly because of the apparent increase in the vacancy rate for office buildings," says John Swart, president LWR Commercial Realty LLC, the commercial real estate subsidiary of Lakewood Ranch developer Schroeder-Manatee Ranch Inc. "Vacancy rates have doubled from 6% to 12%."

Swart attributes Lakewood Ranch's vacancy increase to a large drop in overall absorption in all of Sarasota County. Sarasota County normally absorbs about 300,000 square feet of office space a year, according the Sarasota Association of Realtors Commercial Investment Division office report. But so far this year, the county's net absorption has been zero.

In addition, retail leasing in Lakewood Ranch has slowed, Swart says. However, Benderson Development Co. and The Forbes Co.'s planned town University Town Center development on University Parkway appears to be leasing exceptionally well, Swart says attributing it the uniqueness and location of the planned project.

With its position as master developer of Lakewood Ranch, Schroeder-Manatee Ranch has put work on new office and retail developments temporarily on hold.

On the upside, Swart expects manufacturing/industrial space to remain steady throughout the near year.

The majority of real estate observers perceived a growing indecisiveness in the commercial market that they expect to carry through to the new year. So far, the biggest warning signs for brokers is a drop in the number of transactions.

"It's a weird market," says Jerry Lamb, regional director of Tampa Bay and Sarasota Bay for Coldwell Banker Commercial, NRT.

"I had a great agent call me today for a pep talk. He says he's just not seeing the movement and the signs of activity that he's used to," Lamb says. "What we're seeing today is a lot more hesitation. We have all the signs of a solid market, but the buyers seem to be playing wait and see. Nobody wants to be the first to jump."

John Simon, chief executive of Pineapple Square Properties that is developing Pineapple Square in downtown Sarasota, predicts that retail developments that are tied to condominiums will continue to be delayed.

Simon speaks from experience. His City Place Residences at Pineapple, which calls for 157 condominium units, have been delayed because of slow residential demand. In particular, he predicts the Sarasota Bayside project will be delayed through much of 2008 because of the large number of condominiums in the development and their overall economic importance to the project.

Gary Tasman, executive director for Cushman & Wakefield's Southwest Florida office Fort Myers, expects the effects of the housing market deterioration to be more severe as its travels south through the Gulf Coast. He expects that regional difference to most clearly show up as a dip in demand for flex space for the two most southern counties.

"The Manatee and Sarasota counties market and Tampa...those regions are much more diversified than, say, Fort Myers," Tasman says. "Southwest Florida is just more driven by residential housing. Flex is already down over 20% in some markets. I'm expecting that it's going to find a bottom and not grow any next year."

However Tasman doesn't expect flex's decline to have the same impact on larger-scale distribution space, which he predicts will be stable to positive in '08. Tasman also expects retail demand next year to be positive for Lee and Collier Counties, except for southern Lee County which is still feeling the impact of two new regional malls coming on line at nearly the same time.

On the inventory side, Tasman is predicting very little new commercial construction next year in Lee County, because of accelerated development this year prior to a proposed impact fee increase.

"Three or four years of construction projects got built this year to beat the increase," Tasman says. "The market long term is very healthy it will just take us sometime to regain our footing.

Even with a slower year in 2008 almost a certainty, all of the experts were positive about commercial's longer-term prospects and the improved opportunities for investment during the dip.

"If 100% of what has been proposed [for retail] is constructed than we will be overbuilt, but that's not going to happen," Duffy says. "Everything is going to get built I just expect some of it to be postponed for a year or two. There is always work to do. We've been a little busier than we were six months ago and most of what we're doing is helping clients with problems. This is when having 20-plus years in business comes in handy. We've been through two solid cycles like this..."

The commercial downturn is largely psychological, Rutstein says. For example, Sarasota and Manatee counties still lack sufficient retail and restaurant space, he argues, translating into huge opportunities during any commercial demand decline.

"Things are very positive even if the times are somewhat more challenging," Rutstein says.

Lamb sees several bottom-feeding companies sitting on the sidelines waiting for just the right time for both the commercial and residential markets.

"I know there's private money out there just waiting to see those deals where they can grab assets for 50 cents on the dollar," he says.

Add to that the investors that are looking for more than a 6% capitalization rate and any fall in the market should be short lived.

Leaps and Bounds

Area real estate experts point to one factor that can prevent any long-term economic slowdown in the state - population growth. The University of Florida's Bureau of Economic and Business Research released a study in November that estimated the state's population grew by 331,000 from 2006 to 2007, a slight decline from the prior period, but also released projections for continued strong growth in the future.

"There have been a number of news articles lately focusing on the idea that population growth has fallen off the table top in Florida and practically come to a standstill, and that simply isn't true," Stan Smith, director of bureau of business research, said in a press release. "Florida has a strong economy and adds jobs every year."

The study suggests that Florida will add about 300,000 new residents a year for the next two or three years unless the state experiences a recession.

florida's annual Population change

Year Change

2007 331,000

2006 431,000

2005 402,000

2004 448,000

2003 N/A

PREDICTIONS

Tampa Bay

Declines in office and retail. Industrial flex and warehouse space expected to stay positive. Cypress Creek Town Center development likely delayed following the earlier start of fellow Wesley Chapel retail development, The Grove.

Sarasota/Manatee

Office vacancies increase. Fewer new office developments. Retail will be slower. The Forbes Co. and Benderson Development Co. Inc. will develop another layer of retail to their planned University Town Center in northern Sarasota County. Sarasota Bayside, Westfield Southgate's expansion and Pineapple's residential portion will all be delayed. Industrial space should be the least affected.

Lee/Collier

Slower overall commercial construction. Retail demand and growth continues. Office down. Flex space vacancies grow. Distribution-space growth stable to positive.