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Shopping Centers Today -> February 2004
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SANTANA ROW BOUNCES BACK
BY ANNA ROBATON
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“[Federal Realty has] done great work during the past year relative to bringing the rest [of the retail] on-line,” said Paul Krutko, director of San Jose’s Office of Economic Development.
Seeking a greater presence in the West and a larger stake in the urban retail revival of the time, Federal Realty Investment Trust, Santana Row’s developer, embarked on one of its most ambitious projects ever in late 2000. The firm set out to build an urban mixed-use village in the heart of Silicon Valley that would rival downtown San Francisco for its retail offerings.
But the opening of Santana Row two years later was nearly as bleak as the stock price of a dot-com start-up, and the experience ultimately contributed to a decision by Rockville, Md.-based Federal Realty to return to its core business of developing and owning suburban shopping centers.
A month before Santana Row was originally slated to open in September 2002, a fire ripped through the largest building at the complex, built on 42 acres near downtown San Jose. As a result of the blaze, Santana Row opened in November 2002 with only 37 of about 60 tenants that were expected to be part of the original grand opening. The fire also delayed the opening of every restaurant at the project, while fire officials took a fresh look at construction requirements for the eateries and imposed new requirements.
But things had begun to go downhill a long time before the fire. About a year before Federal Realty broke ground in November 2000, the local economy, heavily dependent on the volatile high-tech sector, began to head south. That forced the company, which spent a whopping $443 million on the first phase, to have to lease Santana Row’s retail space and luxury apartments in a much softer economic environment.
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| Retail and restaurants occupy the ground floor, while condos are on the upper levels. |
Now, a little over a year after its rocky beginning, Santana Row’s future is looking brighter — as is Federal Realty’s. The company’s stock had risen to $38.72 by January (SCT’s press time), up 31 percent from November 2002. During the past year, Federal Realty has opened a critical mass of retailers and restaurants at the project and seen strong demand for the rental units there — a collection of upscale lofts, villas and town houses situated above street-level retail space.
Federal Realty got a post-holiday boost in the form of a $129 million final settlement of its fire insurance claim.
Named for a 1,500-foot-long street running down the center of the project, Santana Row now boasts more than 90 retailers, ranging from such moderately priced merchants as Ann Taylor Loft and Chico’s to luxury tenants such as Escada and St. John. Its eclectic mix of 13 restaurants, which serve collectively as an anchor, has helped make Santana Row an evening destination for area residents who have long had to travel about 40 miles north to San Francisco for a comparably large concentration of eateries in an urban setting. The project is located near the intersection of two major freeways — interstates 280 and 880.
“We started to open tenants hand over fist in early 2003,” said Jan Sweetnam, Federal Realty’s COO for West Coast properties. “We got to a point where we were operating on all eight cylinders in the early summer of 2003.”
Santana Row is now in its fourth phase. It is also anchored by Crate & Barrel, which, having opted to leave Westfield Shoppingtown Valley Fair, the enclosed regional mall across the street, opened in 2002. Last year Santana Row added two more anchors — Best Buy and The Container Store — as part of its $26 million second phase. Hotel Valencia, a 213-room, trendy boutique hotel, also opened last year.
A 30,000-square-foot health club called Club One was slated to open after press deadline in January, and a six-screen CinéArts theater, part of the third phase, is expected to open in July. In addition, based on the success of its Anthropologie store at Santana Row, Urban Outfitters has signed a second lease, taking up 12,500 square feet for its first Urban Outfitters store in the South Bay area.
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| Some of them live at Santana Row, some work there, some are just visiting, but all of them shop at the mixed-use complex, reports Federal Realty. |
In all, Santana Row has more than 500,000 square feet of retail space, of which 443,758 square feet was built as part of the first phase. That phase was nearly 85 percent leased and 73 percent occupied last October, up from 81 percent leased and 65 percent occupied last July, according to Federal Realty.
The 255 rental units were nearly 96 percent leased in October. Federal Realty’s Sweetnam says Santana Row is commanding rents that are about 20 percent higher than those for similar luxury units in the market, with large studios renting for about $1,850 and two-bedrooms for $3,300.
Still, Federal Realty hasn’t gotten the types of rents it originally expected, because of the economic fallout in the market, an oversupply of apartments (many of which were proposed when the market was frothy) and low-interest-rate-driven home sales.
“The place where they have been challenged is on the residential side,” said Krutko. “There were a lot of developers coming forward with residential product in recent years, and that put a lot of pressure on Santana Row with its rents.”
Indeed, despite its much-improved outlook, Santana Row isn’t entirely out of the dark. The local economy is showing signs of recovery, but it remains to be seen whether Federal Realty, drawn to the market partly for its high income levels, has placed too big of a bet on higher-end retail tenants, says Green Street’s Herold. San Jose is the largest city in Santa Clara County; 2002 per capita income was $52,000, compared with the national per capita income of $31,000, according to the city.
“There has always been some question as to whether those luxury tenants will work in that center,” Herold said. “Even though you may have high-income people in the market, you still have to get them to that center.”
But Federal Realty is pulling out all the stops. The firm sponsors a twice-weekly farmers’ market and offers outdoor movies in the summer, among other events. It is counting on the fact that the faux downtown environment sets the project apart from the competition, including the recently expanded, 1.5 million-square-foot Westfield Shoppingtown Valley Fair and the 1.4 million-square-foot Stanford Shopping Center, an open-air center to the north in Palo Alto. There is ample parking, too, which the firm expects will lend an advantage over nearby urban shopping districts.
To give Santana Row a homegrown look, Federal Realty hired different architects for the various buildings. That look has also been achieved through the replanting of old California oak trees salvaged before a run-down former shopping center on the site was leveled. Federal Realty bought the property from Metropolitan Life Insurance Co. in 1996, targeting a market that had a dearth of retail space relative to its fast-growing population.
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“The vision came from our belief that San Jose, the South Bay area and Silicon Valley didn’t have a cohesive place where it felt comfortable to walk down the street, shop and dine,” said Sweetnam. Though Santana Row has a dozen high-end luxury tenants, most of its retailers are moderately priced, he says.
So far Federal Realty has developed only about 26 of the site’s 42 acres, but it is taking a more cautious approach going forward. And it is not hard to see why.
The company, the 33rd-largest shopping center owner in North America, came under enormous scrutiny for the financial bet it took with Santana Row’s first phase, which is anticipated to yield a low 5 percent return during the first year after the project is “stabilized” — meaning 95 percent leased and occupied. It is expected to reach that status sometime this year. The second phase is expected to yield 18 percent, according to Federal Realty.
In early 2002 the company announced a change in business strategy, saying it would stop building large mixed-use projects like Santana Row and concentrate on its core portfolio of suburban shopping centers. Before embarking on Santana Row, Federal Realty had undertaken only two other mixed-use urban projects, Pentagon Row, in Arlington, Va., and Bethesda Row, Bethesda, Md.
Today each new phase of Santana Row must be reviewed and approved by the company’s investment committee, which determines whether the return is competitive with those of other projects Federal Realty might undertake. The committee has approved the fourth phase of the project, which calls for rebuilding the residential units destroyed by the fire. Next, the committee will consider a fifth phase, the addition of an upscale supermarket anchor.
With the rebuilding of the residential units, Federal Realty is incorporating lessons it has learned through the leasing process. It is increasing density by building smaller apartments and more units than it originally had. Sweetnam says the smaller apartments at Santana Row have been in higher demand and get a higher rent per square foot than the largest rentals.
In the end, Santana Row will contain 680,000 square feet of retail space, at least 1,200 residential units and possibly a second hotel, but it is not clear when the project will be completed.
“Additional phases need to provide a return competitive with other alternatives in the company,” says Sweetnam. “History will tell us something [about the future], but history will not dictate the future.”
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