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Shopping Centers Today -> January 2003
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RETAIL SECTOR STEERS CLEAR OF CREDIT CRUNCH
No shortage of cash but banks giving deals more scrutiny
Evidence of a credit crunch is mounting across the United States as banks tighten credit standards and become more cautious about doling out cash, even to their most reliable and long-standing customers. Except when it comes to the retail real estate industry, that is.
“I do not see signs of a credit crunch for retail real estate,” said Brian Lancaster, a managing director of real estate and commercial-mortgage-backed securities research at Wachovia Securities, a Charlotte, N.C.-based financial services firm. “The supply of money is still plentiful.”
That might make the office and industrial sectors go green with envy. About 35 percent of small to medium-size manufacturing companies said their money suppliers had tightened up on lending terms and collection efforts, according to a recent survey by the Washington, D.C.-based National Association of Manufacturers, or NAM, an industrial trade association. Twenty-eight percent of respondents said fees and other noninterest loan costs had increased, while 90 percent reported tighter covenants in loan agreements.
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Jeff Noah, NAM’s director of small and medium-size manufacturers, said that banks have convinced themselves there is an economic recession, and he argues that they need some reassurance from the federal government if they are to stop shutting out worthy borrowers.
“If the Federal Reserve would come out with a statement saying that there is no reason to believe there is a credit crunch, then there would not be,” he opined.
Retail real estate, however, appears to remain untouched by all this.
“We’re very far from a credit crunch right now,” said Mark Rowell, director of lender relations at Atlanta-based NetFunding.com, an online commercial loan brokerage.
This is a reflection of the broader economy, where a healthy level of consumer spending has helped keep retail real estate lively, in contrast to the industrial and office property sectors.
Retail fits the description of what investors want from commercial projects: stable, long-term cash flows, said Richard W. Harris, president of Newport Venture Capital, Newport Beach, Calif., which specializes in arranging joint venture capital for real estate developers.
This preference to retail real estate over other sectors will likely continue into next year, “until the economy shows clear signs of a turnaround,” he said. “What we have seen is [that lenders] are refocusing on current returns as opposed to future growth and speculation.”
However, although there is more capital available than ever for strong developers with sound projects, lenders are not exactly handing out money with their eyes closed. They are closely monitoring the economic indicators that could affect the industry, such as employment rates. Further, they are maintaining “stress constants” on retail property loans, making sure that a property’s cash flow will cover the debt service on a loan even if times worsen and there is downward pressure on rents, said Rowell.
For all these precautions, some note, there is a serious downside to a market flush with money and low lending rates. Relatively new investors are buying properties at sky-high prices, based almost solely on low financing terms, market players say. In one instance, Rowell described a buyer who at press time was in the process of purchasing a freestanding CVS store in Illinois at a cost of about $490 per square foot, even though its replacement cost was about $200 a square foot. “It tells you that there are some aggressive buyers who want CVS credit,” he said.
It also says that the new retail property buyers are a bit shortsighted, said Michael Pollack, founder and president of Pollack Real Estate Investments, a private equity firm in Mesa, Ariz.
Many of the deals are financed with floating-rate debt, Pollack explained. Unless the leases on a property have built-in rent increases, the owner could be left without enough revenue to cover the loan payments once interest rates begin climbing again.
“People are relying too heavily on the fact that interest rates are low,” he said. “But what will happen five to ten years from now, when interest rates go up?”
Overzealous buyers, however, are not expected to ruin retail real estate’s smooth run, said Harris. Most retail property owners really do have a long-term view of the market, he said, and rental rates will probably continue to increase.
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