Fresno commercial property image via Newmark Pearson Commercial

Just as the economy appeared to be on the rebound from shutdowns and record unemployment, property owners now face a second wave of shelter-in-place orders. The Business Journal last week hosted a Zoom call with various Fresno-area real estate brokers in commercial real estate sectors to get a sense of what is happening in their worlds. It was a follow up to a similar Zoom call conducted in April. Both videos are available for viewing on YouTube at https://www.youtube.com/user/tbjfresno.

 

MULTIFAMILY WORRIES

The number of people meeting July rent obligations for apartments, duplexes and condominiums is “starting to show some cracks,” said Robin Kane, senior vice president with the Mogharebi Group, a multi-family residential brokerage. Landlords hadn’t seen the effects of Covid too much during April, May and June.

“Just when we thought it was ok to get in the water, we all of a sudden realized we all have to get out,” Kane said. Because of this, the month of August has many landlords worried, especially considering unemployment benefits expire in July. Occupancies are still high — at mid-90% — but the employment status of those occupants is questionable. Experts are predicting the number of tenants struggling to pay rent will be closer to 10-15% of renters.

This could be a source of contention between property sellers and buyers.

With the end of the extended 2019 tax season this week, buyers taking advantage of 1031 Exchanges in order to avoid capital gains taxes will disappear. After tax season, the pool of buyers will be much more scrutinizing about what they’re paying for, and multifamily complexes will enter a “price discovery phase,” said Kane. The gap between what buyers are willing to pay and what sellers expect to receive is bigger than has ever been, he added. Bills before California legislature threaten the ability of property owners to raise rents on vacancies. Another bill requires sellers to give a non-profit the right of first refusal on their property (see related story by Reporter Frank Lopez).

“A lot” of apartments are coming online, whether nearing completion or recently opened, Kane said. Previously, apartment construction had been low. Developers had been hoping for $1.40 a square foot in rent, and in a recent rent survey, certain areas, especially North Fresno, rents neared $1.35 per square foot, “which is a good thing,” said Kane. However, with multiple developments — The Row, Brookside Villas — the demand for apartments in the Woodward Park area may have difficulty keeping up with supply as developers open their doors at the same time.

 

RETAIL WOES

Retail property owners are being “bombarded” with requests for rent relief, though that number is beginning to stabilize, said Michael Arfsten with Retail California in Fresno. Landlords were collecting 40-60% of their normal rent roll in April. By July, that rate increased to 60-80%. Tenants may be getting two to three months of relief or having that period extended to the end of their lease term, said Arfsten.

Last year wasn’t the best year for retail, either. Some 10,000 retail shops have closed and some projections put bankruptcies in 2020 to reach 25,000 store closures.
“It seems like everyday when I turn my computer on, there are one or two companies that are filing bankruptcy,” said Arfsten. Health supplements retailer GNC recently filed for bankruptcy, as did Sur La Table and Pier 1 Imports.

It’s no secret restaurants have been hit hard, and the start-and-stop has not helped, said Arfsten. But for closed restaurant spaces, there are usually a couple of interested new tenants looking for a deal, he said. Prime retail space is still finding interested potential tenants, but spaces in less frequented shopping centers may sit for a while. Even for tenants whose lease is expiring and have only been paying 50-60% of their rent every month, Arfsten is still suggesting to landlords to go ahead and sign them on a new lease. “You don’t need another vacancy,” he says.

Sales of multi-tenant spaces are sparse. Not only is supply low, but also getting financing for centers with multiple spaces has become difficult. Most financing is being done for single-tenant spaces.

 

OFFICE MURKY

Rents have stabilized for office spaces, but a lot of questions still exist about the future of the workplace, said Brandon Lamonica, vice president of Fortune Associates. Money from Paycheck Protection Program loans helped tenants stay current on rents. And most office space in the area was considered essential. Landlords feared that as the pandemic drew on, there would be a rush of requests for rent relief, but even into July, there was “not much dip-off in rents,” said Lamonica. Forbearance is still being made on a case-by-case basis.

Tenants and landlords alike still wonder about tenant improvements, working from home, where employees can send their children and when the school year should begin.

Office landlords have more tenant improvement requests than those in other industries, said Lamonica. The decision on whether landlords or tenants take on significant improvements is becoming a point of contention for long-term lease renewals. California energy efficiency laws have made construction more expensive, and with permitting still being done virtually, project timelines for repairs or even improvements to meet social distancing guidelines have increased. If lawmakers can’t decide when schools should reopen, office workers with children may continue to work remotely.

The trend may even extend beyond the pandemic. There are estimates that office space will shrink by 1 billion square feet nationally because of remote working, said Lamonica. But among tenants in the Central Valley, most are “mom-and-pops,” which may inoculate the region from any retreating demand, said Lamonica.

Deals have slowed and the deals that are happening are smaller ones, for the most part, which is typical for a down cycle, said Lamonica. Smaller tenants are looking to downsize and big name tenants are signing on to short-term lease renewals to see where the market will be. Rents have slightly dropped. But property values are still being buttressed by low interest rates and low availability.

 

INDUSTRIAL SAFE HAVENS

Industrial real estate has quickly become a preferred asset class, said Ethan Smith at Newmark Pearson Commercial.

The rise of online shopping during shelter-in-place has turned warehouse space from an afterthought into an investment position. Demand has far outpaced supply, said Smith, and difficulty in creating infill properties as well as delays in securing entitlements and permitting has slowed new construction. Warehouse sales have seen positive growth, but deal velocity has slowed a bit. In the Central Valley, industrial investment has not been big speculation historically, but investment has increased ever since March, said Smith. Same-day delivery has not penetrated as well in the Central Valley as it has in other higher-density markets. Major retailers such as Amazon, Target and Home Depot can rely on their own fleets for delivery, but other manufacturers still need third-party logistics. A couple of Amazon delivery stations on the West Coast are “coming along,” said Smith.

Those holding industrial real estate properties are still collecting 97-98% of rent, with most relief being asked for by small manufacturers. That relief is being given, though with much scrutiny. Landlords are asking for forensic accounting before granting any sort of forbearance.

 

AG LAND PRICING

Ag land has entered a “perfect storm” of volatility, according to Sullivan Grosz with Pearson Realty. Across the board, producers have faced outbreaks at slaughterhouses and packing sheds, bringing uncertainty to where they can send crops, especially fresh fruit with short shelf lives. The initial spike in demand for fresh fruit at the beginning of the pandemic has diminished. In a normal year, any drop-off in demand could be offset by exports. Growers have been unable to turn to foreign markets to make up for lost demand by restaurant and institutional buyers. Southeast Asia, India and China are experiencing the same problems as the United States and thousands of shipping containers are being left at sea or ports, Grosz said.

Pistachio production is up, but demand will keep up with supply, said Grosz. For almonds, projected production this week spiked at 18% higher than in 2019, said Grosz. In a normal year, this would be a good thing, but combined with other factors, it has been downward pressure on prices. Last year, almonds could be bought at $2.40 a pound and farmers might be lucky for $1.50 this year. Especially in western Fresno County, the cost to draw up water has made even cash crops such as almonds difficult to pencil out. Growers are selling land plots of 500 acres for plots of 100 acres with better water supplies.

 

COMMERCIAL FINANCING

Just as things in the world of commercial finance were beginning to stabilize, new Covid infection numbers may threaten the possibility of any sense of normalcy.

The past eight to 10 weeks have been “choppy” in the world of commercial real estate financing, according to Matt Renney, principal at California Realty Capital. Real estate transactions started before the pandemic went through just fine, said Renney, but after that, there was no predictability in the marketplace. Until recently, commercial mortgage-backed securities stopped trading altogether. CMBS lending has since returned, with the Federal Reserve propping the market up with extensive buying, said Renney.

Investors have shied away from retail and office and are finding safe-havens in multifamily and industrial properties.

Banks are sitting on adequate reserves and are still lending, though with plenty of scrutiny.

Real estate values have been stabilized by a lack of new construction. Potential buyers may be tempted to take advantage of an uncertain market with below market rate offers. But Renney said there is no definitive evidence to justify taking whatever offer you can get.