The retail commercial real estate sector has been transformed by a series of disruptions: the advent of e-commerce, changing consumer preferences, and the impacts of the pandemic, to name a few. However, resilience remains a core characteristic of this industry, with retailers adapting and innovating to meet these new challenges.

The narrative of doom and gloom often associated with the retail sector is a bit off base. The sector has constantly redefined itself, continuously finding new ways to engage consumers.

Retail's Robust Outlook

The outlook for the retail sector, according to Green Street's findings from the ICSC Annual Conference, is rather positive. The resilience of demand is a key factor behind this outlook.

Consumer spending remains strong, driven by a robust economy, healthy employment levels, and resilient consumer confidence.The continuing rise of physical occupancy in retail spaces underscores the enduring appeal of brick-and-mortar stores.

Leasing economics, too, are seeing improvement. With landlords becoming more flexible and innovative in their leasing strategies, the dynamics are shifting in favor of retailers. As retailers focus on optimizing their store portfolios, they are increasingly looking for locations that offer a blend of physical and digital sales potential. This approach aligns well with the emerging trend of omnichannel retailing, which integrates different methods of shopping available to consumers.

Leasing Momentum

From a long-term perspective, retailers are strategically investing in their physical presence. Despite the surge in online retail, the brick-and-mortar store continues to be a profitable avenue for growth — even during uncertain times. These physical stores serve as touchpoints for customer interaction, showcasing products, and enhancing brand visibility.

The External Growth Challenge

Despite the robust fundamentals, there is a dichotomy at play in the retail sector. While demand is resilient and physical occupancy is on the rise, the opportunities for external growth can be limited. The issue often lies in REITs trading assets at discounts to net value, which the Green Street piece touches upon.

However, retailers have been anything but passive in the face of these challenges. Strategies to overcome external growth barriers have included diversifying retail offerings, investing in digital infrastructure to boost online sales, and partnering with other businesses to create unique customer experiences.

The focus is on creating a retail environment that delivers value to customers. This, in turn, drives footfall and sales.

The Financing Landscape in Retail Real Estate

Financing is a crucial aspect of retail real estate. In the current climate, retail financing options have evolved to accommodate the changing retail landscape.

Currently, the most common financing methods include traditional bank loans, SBA loans, real estate investment trusts (REITs), private equity funds, and commercial mortgage-backed securities (CMBS).

Each has its own advantages and limitations, and their suitability depends on factors such as the size and location of the property, the borrower's financial standing, and broader economic conditions.

The Challenge of Obtaining Permanent Financing on Malls

Despite the plethora of financing options available, securing permanent financing for mall properties remains a significant challenge. Malls have been hit hard by changing consumer habits and the rise of e-commerce, leading to a decline in foot traffic and tenant closures.

As a result, lenders tend to view malls as riskier investments. This means they typically require more stringent underwriting standards — and loans carry higher interest rates.

Short-Term Loan Extensions: A Popular Refinancing Alternative

Given the difficulties of obtaining permanent financing, many retail property owners are turning to short-term loan extensions as a popular alternative. These extensions allow owners to buy time to stabilize their properties, improve occupancy rates, and enhance their properties’ tenant mixes to make their properties more attractive to lenders for permanent financing.

Opportunities in Retail Real Estate

Smaller strip center deals are gaining traction among investors due to their lower risk profile and steady cash flow generation. These properties are often anchored by essential service providers such as supermarkets and drugstores, which have proven resilient even during economic downturns.

Grocery-anchored centers are highly sought after in the retail real estate sector. These properties offer a combination of stability, thanks to the essential nature of groceries, and attractive returns. As such, they often fetch the lowest capitalization rates in the sector, indicating strong demand from investors.

The Rarity of Class A Mall Deals and Its Implications

Class A mall deals have become increasingly rare this year. This is largely due to the challenges faced by malls as consumer shopping habits shift.

However, this scarcity has implications for the sector. On the one hand, the difficulty in financing these types of deals could potentially drive up the value of these properties. Once opportunities present themselves on the market, this could generate intense competition.

Final Thoughts

Despite the challenges faced by certain segments of the retail real estate sector, there are many reasons to be optimistic.

Retail sales are expected to grow, driven by both online and brick-and-mortar outlets, and certain segments such as grocery-anchored centers and health and personal care stores are performing particularly well. This positive outlook, coupled with innovative financing options and transaction trends, presents a variety of opportunities for investors and financiers.

Predictions for the Future of Retail Real Estate

Looking to the future, the retail real estate sector will likely continue to evolve as it adapts to changing consumer habits and economic conditions. E-commerce will continue to play a significant role, but brick-and-mortar stores are expected to retain their importance in the retail landscape, offering a critical touchpoint in multichannel sales strategies. This blending of physical and digital retail could lead to new opportunities in real estate for locations that can effectively support a hybrid model.

In terms of financing, the trend towards short-term loan extensions might persist in the near future given the current economic uncertainties and the challenges in obtaining permanent financing for retail properties, especially malls. Additionally, the ongoing appeal of smaller strip center deals and grocery-anchored centers could shape investment strategies in the coming years.

On the whole, the future of retail commercial real estate looks promising, even as the sector grapples with changes and challenges. By staying adaptive and resilient, the sector can leverage its strengths to harness emerging opportunities and continue its positive growth trajectory. As always, success will hinge on understanding market trends, making sound investment decisions, and leveraging the right financing strategies.

In this article:

Retail's Robust Outlook
Leasing Momentum
The External Growth Challenge
The Financing Landscape in Retail Real Estate
The Challenge of Obtaining Permanent Financing on Malls
Short-Term Loan Extensions: A Popular Refinancing Alternative
Opportunities in Retail Real Estate
The Rarity of Class A Mall Deals and Its Implications
Final Thoughts
Predictions for the Future of Retail Real Estate
Get Financing

Resilient Retail: Unpacking a Positive 2023 Outlook