The Value of Vacancy: Is the Value of a Strategically Vacant Asset Greater Than That of a Fully Stabilized Asset?

Leaving Meat on the Bones: How to Use Vacancy to Your Advantage

Given the seismic shifts in retail shopping behavior over the past decade, many shopping centers have adjusted their strategies to appeal to new-age consumers. With this, the shopping center sector has experienced an increase in demand from investors and retailers. A significant amount of capital is pursuing a limited number of deals, and an increase in demand for shopping center retail has led the sector to experience one of the lowest vacancy rates across product types.

The lack of shopping centers coming to market has placed a premium on the product type. While property class, location, quality of tenants, lease term, and lease rates/expenses do play a factor, marketability is a considerable factor in the success of a transaction.

National vacancy rates currently sit at 4.1%, the lowest rate in decades. If your center has a vacancy, it’s not necessarily a bad thing for the sale. Proper marketing can capture that potential upside to the landlord without the risk or capital outlay of a new deal. A vacant space does not signal a less desirable asset; rather, it opens the door for strategic value-add opportunities. Recent trends show that landlords are capitalizing on vacancies by attracting a broader group of investors, which drives value for the center.

Sum of the Parts Greater than the Whole: How to Successfully Arbitrage

Retail has grown increasingly complex, and investors have split into subsets focused on different niches in the industry. One way a seller can take advantage is through break-up plays of their shopping centers. Single-tenant outparcels, multi-tenant strips, and anchored retail all trade at different values, and savvy owners can use that to their advantage.

Outparcel Spin-off

The simplest arbitrage involves spinning off single-tenant outparcels into the net lease marketplace. Single-tenant net lease is popular for its passive income potential and ease of management. These properties have a much larger buyer pool of high net worth investors that would buy single-tenant net lease property, rather than buy a full-scale shopping center. This allows for increased pricing power for the landlord.

The same logic can be applied to unanchored strip centers, a relatively newer target of sophisticated investors. For example, Site Centers, a retail landlord, sold 15 large-format shopping centers for $868 million as of the third quarter. They plan to reinvest the proceeds from the sale into unanchored strip centers in their spinoff company, Curbline. The firm stated these properties boast strong fundamentals as they provide excellent visibility and access for consumers. It also stated that strip shopping centers perform well due to hybrid work, with employees able to make multiple stops at these locations on days they work from home.

Issues to Consider

Break-up plays are not for the faint of heart. Major items to consider are as follows:

• CAM reimbursement language and management control
• Parcelization cost and feasibility
• REA issues including parking, restricted uses and zoning

All of these items and more can impact the value of the real estate, and it is best to work with an experienced advisor that has executed on these types of value-add plays before.

Breaking up Large Vacancy for Multiple Tenants

Thriving shopping center landlords understand that the success of their property hinges largely on the tenants themselves. In years past, preserving occupancy was more cost-effective than finding new tenants, but today that isn’t always the case.

The ideal tenant lineup will differ depending on the shopping center and is not a one-size-fits- all approach. By aligning the tenant mix with the specific characteristics of the center and its customer base, landlords can optimize customer engagement and drive increased sales.

Selecting the right tenants is a strategic decision that involves a thorough analysis of the tenant’s format, target demographic, annual average revenue, and more. The shopping center’s location, size, and overall theme are also other factors.

Renovating Vacant Space for Multiple Tenants

When choosing what to do with a vacant location, you are able to rightsize the suite in order to create a variety of tenants in the center. One common way of doing so is choosing smaller stores that will be spread out in the vacant area. This will boost the differentiation of tenants in your center, as well as attract consumers to explore new options in the property. Smaller footprint retailers command higher per square foot rent, and are generally easier to mark to market at expiration.

Positioning for Success Post-Transaction

Post-transaction, what are the best ways to add value going forward? Successful investors have begun to focus on a more collaborative relationship between landlords and tenants. By working together to satisfy both parties’ goals and realizing that the landlord/tenant relationship is not a zero sum game, the underlying real estate and communities are able to thrive.

Placemaking

In addition to strong location and visibility, landlords can add value through the process of placemaking. This is a concept landlords can utilize to form their center into an area that provides new and innovative experiences for consumers in the community.

Placemaking allows retailers to add complementary concepts to their shopping centers in order to attract customers and have them spend more time at the center. This creates new experiences for consumers, as well as more profitability for the shopping center.

Experiential, entertainment, merchandising, family-friendly, accessibility, and convenience concepts contribute to placemaking opportunities in your center. Recently, experiential outlets have proven their success as these tenants accounted for about 15% of all leasing activity in the U.S. throughout the past two years.

Adding a variety of these options to your center also allows for an increase in foot traffic. An inviting and pleasant shopping atmosphere will not only create social opportunities for consumers, but it also allows for the space to stand out as a hub for the community’s residents.

Benefits of Updating to Market Rent

With demand for retail properties only continuing to grow, updating your center to the current market rent can help boost your center’s performance. Tenants who are willing to pay more will find the reinvestment made by the landlord attractive as they can utilize high-quality space to bring in more consumers and make their location appealing.

However, if you are positioning the property to sell, squeezing all the juice out of each tenant may limit your buyer pool and increase the potential cap rate. This can occur because there is no growth and only potential downside. Making decisions on rents through the eyes of the potential buyer pool is crucial in any landlord’s decision-making.

Anchor Tenants Create Strength for Shopping Centers

An anchored shopping center allows for consumers to visit several different retailers at once, increasing foot traffic for all tenants in the area. Grocery is particularly popular as an anchor as consumers typically make multiple trips per week. With the increased popularity of these anchor tenants, construction activity across the U.S. has been focused on developing grocery-anchored centers. These property types also tend to boast a lower cap rate than unanchored properties.

Increasing Dwell Time

Positive placemaking metrics in your center will allow for an increase in dwell time. This retail metric is used to track the amount of a time a customer spends browsing in one store or the stores around it. If your center is noting a high dwell time, this shows that consumers are engaged in the property and will likely spend more.

• Average dwell time for a shopping center is 84 minutes.
• Allows retailers to see how customers move throughout the center and what areas see the most activity.
• Increases sales activity. According to Path Intelligence, a 1% increase in dwell time led to an uptick of 1.3% in sales.
• Offering a diverse range of tenants will draw in more consumers as they have more options to choose from while shopping.
• Retailers can utilize this metric to improve their shopping center’s layout in order to have customers spend more time in the center.