CRE sector expected to hit bottom in 2010

Commercial real estate will be hit from several sides during 2010, as tenants struggle, financial intuitions flush their portfolios and property values drop from record highs just a few years ago. A report from the Urban Land Institute and PricewaterhouseCoopers forecasts that the sector will hit bottom in 2010.

Valuation issues will continue to plague Northern Colorado, as deals that weren’t too highly leveraged several years ago will see their debt-to-equity levels narrow.

Since 2005, commercial real estate and land construction and development loans at locally based banks increased more than 40 percent to their peak levels. During the same period, properties held on bank books due to foreclosure increased 964 percent.

A typical commercial real estate loan — if such a thing exists — carries a five-year maturity, and many loans made during the building boom are coming due soon. The foreclosure proceeding initiated on the Promenade Shops at Centerra in November was a result of a matured loan that could not be refinanced.

The ULI report points to banks beginning writedowns, debt restructuring and foreclosures in earnest during 2010. Additionally, federal bank regulators will be pushing out properties collected as part of bank failures. The impact will be a thaw in the transactions freeze coupled with a 40 percent to 50 percent decline in values from 2007 peaks.

Mark Bradley, a Realtec broker focused on Greeley, said that a recovery will not occur until values are allowed to deflate to market levels. This might take longer with government programs artificially pumping funds into various sectors. He feels that local commercial property owners are adjusting, though.

“Owners are realizing that they can’t hold current values to (what they were) a couple of years ago,” he said.

A year of declining occupancy helped push owners into reality.

“Vacancy rates (in Greeley) increased every quarter last year in all sectors,” Bradley said. From the first quarter to the fourth quarter, vacancies rose from 9.7 percent to 10 percent in the industrial market, from 16.6 percent to 19.8 percent in the office market and from 14.6 percent to 15.6 percent in retail.

“The good news is there has been a stoppage in most construction,” Bradley said. “There’s no speculative construction going on.”

As businesses ease out of wait-and-see and into expansion mode, vacancy rates will decline as no new inventory is being added. Bradley feels that vacancy rates in Greeley will start to decline in the second half of the year.

Virtual construction halt

Commercial construction has come to a virtual halt throughout the region. The city of Loveland recorded eight new commercial building permits for the last six months of 2009, down from 15 for the same period in 2008 and 22 in 2007. In Fort Collins, new commercial building permits stood at five for the last half of 2009, down from 11 in 2008 and 33 in 2007.

Even with developers on extended sabbaticals from building, property owners are still contending with struggling tenants.

“It would be hard to see any upside to (retail shopping centers),´ said Allen Ginsborg, managing director and principal for NewMark Merrill Mountain States. “We definitely expect more tenant failures.”

However, he expects the Colorado properties to fare better than NewMark’s other markets – California and Illinois.

“The Colorado market isn’t as challenging, right now,” Ginsborg said. He is seeing stronger occupancy rates in Fort Collins, Westminster and Broomfield.

Ginsborg points out that the commercial market holds opportunities for a fortunate few. Investors with cash are finding screaming deals, but it is still a high-risk business. NewMark Merrill isn’t finding a lot of investment competition yet, according to Ginsborg. He explained that the company is focused on investing only where it knows the market well, based on 27 years of experience.

Tenants also stand to gain from the commercial real estate sector woes. Ginsborg said the perception that it is a tenant’s market in general doesn’t necessarily hold water for retail. Retail is very location-specific, so centers in high-traffic areas are maintaining lease rates better than others. NewMark’s Fort Collins Marketplace, at College Avenue and Horsetooth Road, has seen double-digit revenue growth over the past three years.

In general, 2010 promises to usher in a new era in commercial real estate. Developments that do get off the ground will likely do so through partnerships with various entities as traditional financing options remain, for the most part, unattainable.

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