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ROIs on commercial properties see some uncertainty

Asking about a solid investment is a loaded question, says Certified Commercial Investment Member (CCIM) Jason Eisenberg, vice president of development and acquisitions for the Eisenberg Company.

Commercial real estate investment returns are expected to remain steady through year-end, according to a forecast released by Real Estate Research Corp. Deloitte and the National Association of Realtors. However, there are still uncertainties in that equation.

“I am still concerned that we are not seeing the job numbers where I believe they need to be in order to feel like we’re off the edge of the financial abyss,” says CCIM Alan Davidson, vice president of ORION Investment Real Estate.

“As a secondary market to Los Angeles, I’m hopeful, but not confident, we’re on a longer upward trend. The lack of growth in the housing market is particularly vexing as it has historically been a barometer of the local economy. This last recession may have permanently altered that trend.”

It’s predicted that returns on investment in commercial properties will be lower in 2014 than 2013 due to an increase in development costs as the economy rebounds.

“We have seen a dramatic increase in costs from both the land acquisition side and the materials and labor side. Rental rates have not caught up to these increases,” says Eisenberg.

There were bargains in 2013. In 2014, investors must go to smaller secondary and tertiary markets to find value.
“Bargains are scarce and often never see the light of day before sold,” Davidson says.

Depending on the quality of the asset, Eisenberg says, sellers are definitely feeling more bullish and buyers are still trying to find deals. That being said, deals are still getting done so that separation is being filled. Davidson notes that sellers are valuing properties at 2005 and 2006 levels.

“Buyers are having to contribute more equity and are concerned about paying too much in this market versus a market like Los Angeles or San Francisco, plus lenders are imposing more stringent underwriting criteria, thus dampening the ability to obtain leveraged funds with favorable terms,” Davidson says. “There’s still a gap, but one that can be bridged if both parties exhibit reasonable expectations. How much depends largely on type of property. There appears to be more interest in our market from buyers outside Arizona which is a very positive trend.”

This is something Attorney Howard Weiss, of Nussbaum Gillis & Dinner PC, has also observed.

“Over the past 24 months, there was a large influx of Canadian buyers that were mostly purchasing multi-family assets,” he says. “While there are still many Canadian buyers, the numbers have definitely decreased. I attribute this to the fact that there are less multi-family properties available, and the Canadian dollar is now weaker against the US dollar. In addition, these buyers are not seeing the low property values that initially attracted them to the Phoenix market. Some of the current Canadian buyers, however, are diversifying their portfolios by purchasing retail and office properties, including medical offices.”
Another trend Weiss noted was more sophisticated buyers, such as large institutions, entering the market.

Retail and multi-family are solid in the Phoenix market, Davidson says, adding that office has a long way to go and based on the industrial he works with, self storage, it’s a little flat.

“It all gets back to location,” Eisenberg says. “From a grocery anchored development and acquisition standpoint it will be very interesting to see what challenges and opportunities arise over the next 24 months with the Cerberus acquisition of Safeway.”

The value-add opportunities, he says, are in land. Davidson suggests looking at infill and multi-family.

“I was listening to a speaker at ICSC in Texas and he had a great quote, ‘We do not have an over-development problem, we have an under-demolition problem.’ A lot of the product out there that is deemed a value-add opportunity has little to no value except in the land,” Eiseinberg says. “The viable value-add product is all up to the relationships that the buyer has with its retailers and there are some groups in Phoenix that are doing an excellent job revitalizing old centers with new tenants.

“I see the grocery-anchored projects continue to see cap rate compression. I also see investors not seeing the returns they are needing in primary markets and turning more toward secondary and outlying markets.”

Eisenberg doesn’t see a sharp increase in interest rates in the next two to three years.

“I think there will be a modest increase as our economy finds its footing, but that will hopefully be absorbed by rental increases and higher valuations,” he says.

Davidson calls the upcoming midterms absolutely critical. “More transactions are structured as 1031 Exchanges,” Weiss says, “since there are increasing property values that result in taxable gains upon a sale.”

“There are a number of tax proposals working their way through Capitol Hill that would deliver a massive hit to the commercial real estate world, most particularly ending 1031 Exchanges,” Davidson says.

“Fiscal conservatives must obtain control of the Senate and maintain their House majority.”