COVER STORY, DECEMBER 2007

SOUTHEAST OUTLOOK 2008
Daniel Beaird

As the commercial real estate industry ends another year and heads into the next, Southeast Real Estate Business continues its tradition of looking back on performances of certain property types in different regions of the Southeast in 2007 and what to expect for those markets in 2008. In this issue, the Carolinas office markets, the Georgia industrial markets and the Tennessee and Kentucky industrial markets are covered. As the industry enters 2008, Southeast Real Estate Business will cover the Mid-Atlantic mixed-use markets, the Gulf Coast retail markets and the Florida multifamily markets in the January 2008 issue.

CAROLINAS OFFICE

Raleigh-Durham

RBC Plaza in Raleigh, North Carolina.

The Raleigh-Durham Triangle area of North Carolina is one of the steadiest regions in job growth across the country. The level of education that surrounds the region with the location of three major universities close by, Duke University, North Carolina State University and the University of North Carolina at Chapel Hill, continues to attract top talent to the technology and research sectors that drive the Triangle’s growth. With a healthy local job market, explosive population growth and reasonable housing costs, the Triangle is somewhat insulated from the nationwide economy’s recent downturn in the housing market as well as the problems that have affected the credit industry nationwide.

While the area has recently experienced a downturn in office building absorption rates in the third quarter of 2007 for the first time since 2003, it’s somewhat due to the construction of new Class A office buildings that will be completed in 2008. Companies are deciding to pre-lease in these new buildings rather than sign on the dotted line with an existing building. For example, PRA International will move its corporate headquarters to Raleigh from Northern Virginia and generate 494 jobs by leasing approximately 50,000 square feet at GlenLake VI, currently under construction along Glenwood Avenue.

Prior to the third quarter, the Triangle was surpassing a 36-month historical net absorption level in the second quarter of 2007, and increasing occupancy levels not seen since 2001. The Triangle expects to return to better levels in 2008 after witnessing the drop in the third quarter of 2007.  

According to Colliers Pinkard, at least 2.4 million square feet of office projects are underway, most being Class A. This will add approximately 6 percent to the Triangle office market inventory during the next 12 months.

These additions have the Triangle office market looking forward to 2008. Pre-leasing is far stronger in buildings slated for completion in 2008 than in those coming online at the end of 2007. Six of the Triangle’s 12 submarkets posted negative absorption in the third quarter of 2007. Research Triangle Park experienced the most significant returning of space as IBM/Lenovo rolled out of 118,000 square feet at Pinnacle Park and Park Office Center. The vast majority Research Triangle Park’s available space is contained in Class B and C properties. According to Grubb & Ellis/Thomas Linderman Graham, Class A vacancy in the submarket is just 12.5 percent. But, reported figures may change soon as more than 320,000 square feet of new construction is delivered to the market by the end of 2007.

“Downtown Raleigh and Durham continue to attract developers and tenants and high-rise office buildings in the early planning stages,” says Elizabeth Raiford, vice president and principal of marketing and research for Grubb & Ellis/Thomas Linderman Graham in Raleigh. “While revitalization efforts in both central business districts have gained substantial momentum, the Triangle remains a heavily suburban market. Sticker shock has yet to become a significant problem as construction and land costs push Class A rates in new construction well above the market average, but large tenants have thus far been willing to pay a premium.”  

With that influx of new Class A product at the end of 2007 as well as into 2008, Colliers Pinkard predicts that the Class A leasing market will be the story to watch in the coming months. Fortunately for the Triangle, forecast leasing velocity for large-block (more than 100,000 square feet) users appears to be on par with historical averages. Competition is predicted to be stiff for those buildings that are both available in the near term and at rates below that of new Class A construction.

“A murky economic outlook for 2008, combined with the uncertainty typical of an election year, will lead some tenants to be conservative with expansion plans,” Raiford says. “However, the long-term outlook for the Triangle remains positive.”

While the short-term outlook for the Triangle’s office market is measured, the long-term outlook is positive. New and expanding companies are attracted to the region’s highly talented employee pool. And while the region has softened in the residential market, its commercial office construction is helping the region’s overall economy entering 2008.   

Charlotte

As Raleigh-Durham remains one of the country’s strongest job growth markets, the Charlotte central business district (CBD) vacancy rate was the lowest in the country for the third consecutive quarter in the third quarter of 2007 at 2.6 percent. A major space remains at 121 W Trade at 120,000 square feet, but most of it will come off the market in either the fourth quarter of 2007 or the first quarter of 2008. That would leave the Charlotte CBD’s vacancy rate at 1.7 percent.

In turn, the Charlotte CBD is in need of something that Raleigh-Durham has plenty of new speculative office space coming online in 2008. Four office buildings are underway, but only the 140,000-square-foot EpiCentre is scheduled to deliver before 2009. According to CB Richard Ellis, three remaining towers, totaling more than 2.4 million square feet, are 61 percent pre-leased 2 years prior to delivery.

Wachovia Corp. is in the process of relocating its top executives, including Chief Executive Officer Ken Thompson, and its headquarters from the One Wachovia building to its new building, currently under construction at Stonewall and Church streets. The bank will occupy a total of 450,000 square feet, while Duke Energy will occupy 240,000 square feet in the building.

Also, American Asset Corp. is building two more office buildings at its Whitehall Corporate Center in the Interstate 77 corridor in southwest Charlotte, with a completion date set for March 2008. More than 400,000 square feet of speculative space will be developed at Whitehall, which demonstrates long-term confidence in the submarket despite its above average vacancy rate.

The SouthPark and Midtown submarkets have benefited from the CBD’s tight conditions, with vacancies dropping 3 and 3.3 percent respectively from the second quarter to the third quarter of 2007. With minimal land supply in the SouthPark submarket, many Class B buildings are repositioning themselves through major renovations like Trammell Crow Development’s One South Executive Park, a 10-story Class B office building. Rexford Park, Nucor and the Esplanade (now known as Colonial Plaza) have also been renovated to accommodate tenants seeking the prestige that SouthPark carries in Charlotte.

Unlike Raleigh-Durham, Charlotte’s unemployment rate has jumped in the third quarter of 2007. Layoffs in the mortgage industry have created some fluctuations in the local unemployment rate. However, the rate, at 4.6 percent, is still below North Carolina’s average.

Greenville

Moving into the Upstate of South Carolina, Greenville is experiencing a steady office market vacancy rate 17.5 percent, according to Grubb & Ellis/The Furman Co. The market gains in the third quarter of 2007, mainly attributed to the field of engineering, were offset by the completion of a new speculative Class A office building in Greenville’s CBD. That building, the fifth building of Riverplace, brings approximately 30,000 square feet of pre-leased space with its completion. An additional 20,000 square feet of space in the building is expected to be leased in the coming months. Major tenants include Bounce Agency, an advertising firm, and Donald A. Gardner Architects.

The engineering field is impacting Greenville’s suburban office market with General Electric and Fluor Corp. completing deals to occupy more than 45,000 square feet of Class A space at Independence Corporate Park and Patewood Plaza. Both companies also completed deals for more than 65,000 square feet in Class B space within Park East and the ECPI Building.

“About half of the local market growth in 2007 has been attributed to an influx of engineering jobs,” says Brian Reed, research manager of Grubb & Ellis/The Furman Co. “There exists a shortage of engineers, so the expectations for further engineering related growth are tepid at best.”  

According to Reed, the office market is much better than it was 3 to 4 years ago, when vacancy rates were more than 25 percent. But there is room for improvement.

“Construction is very low and leasing rates are among the cheapest in the country,” Reed says. “The inexpensive rates combined with less-than-stellar occupancy levels across the market have caused concern among developers about the feasibility of new product.”

According to Grubb & Ellis/The Furman Co., the Greenville office market will have absorbed more than 250,000 square feet of office space by the end of the fourth quarter of 2007.

Charleston

Moving to the Carolina coastline, occupancy rates remain solid in Charleston’s CBD in the third quarter of 2007 at approximately 90 percent. According to Grubb & Ellis/Barkley Fraser, slowing demand and increased construction costs, combined with volatile interest rates have slowed development to a point where the market has achieved equilibrium, whereby the pace of development more closely matches the growing demand.

Major retailers like the new Tanger Outlets, Wal-Mart and Sam’s Club have helped development of office space on Montague and International avenues, located near Interstate 526, continue to gain momentum.

The CBD’s high occupancy and limited supply has increased its average rental rate by more than 2.5 percent in the third quarter of 2007. While the CBD has experienced these high occupancy rates, the suburban Charleston office markets have occupancy rates of approximately 85 percent. Several recently constructed speculative office projects remain largely vacant in the Mount Pleasant submarket.

According to Grubb & Ellis/Barkley Fraser, the balance of slowing demand and increased construction costs will allow the office market to maintain its present vacancy rate and prices. 

GEORGIA INDUSTRIAL

Atlanta

Atlanta remains a tenants’ market in its industrial market as landlords are very competitive with concessions like flexible lease rates, free rent and tenant improvement allowances, especially for larger tenants. Due to housing-related companies such as construction, manufacturing and materials supply, re-evaluating their plans for growth and space expansion. It is expected that industrial leasing for housing-related industries will slow down until construction costs decrease and market conditions improve.

Groundbreakings of new construction have dropped off due to the continued rising of construction costs, although several projects are underway in Atlanta heading into 2008. Atlanta is primarily a distribution market and is attractive to big box retailers that continue to lease large industrial facilities to accommodate their product distribution needs in the Atlanta area.

Several projects currently under construction are scheduled to deliver within the next 6 months. In the Northeast/Interstate 85 corridor, Jackson 85 Distribution Center, a 1.4 million-square-foot Raco development, is expected to deliver by the end of the first quarter of 2008. Park 85 at Braselton, a 632,000-square-foot Duke Realty development, is due to deliver in the first quarter of 2008 as well. Oakwood South, a 109,700-square-foot Pattillo Construction development, is scheduled to be complete by the end of 2007. In the Airport/South Atlanta submarket, three Oakmont Industrial Group developments, totaling approximately 339,000 square feet and 80 percent pre-leased, are delivering in the fourth quarter of 2007. In the Northwest/Interstate 75 submarket, Majestic Realty expects to complete two buildings at Cherokee Commerce Center totaling 262,000 square feet by the end of the first quarter of 2008.

On the transaction side in the Atlanta industrial market, Weingarten Realty Investors has acquired the 265,000-square-foot Riverview Distribution Center for $11.3 million and Averitt Express has purchased 48 acres of adjacent land for $12.25 million from the joint venture of Granite Properties and Republic Property Company. Metzler Realty has purchased a $52 million portfolio comprised of five buildings approximately 951,000 square feet at Riverside Industrial Park from JP Morgan Chase & Company. In the Northeast/I-85 corridor, Equity Management has purchased a $63.5 million flex portfolio comprised of four buildings in Technology Park and three buildings in Johns Creek from AEW Capital Management. SVN Equities has acquired a $60.6 million portfolio of 19 buildings totaling more than 1 million square feet of flex and industrial space in Gwinnett Park from General Investment & Development Companies.

Atlanta’s industrial market continues to show progress as it is one of the strongest industrial markets in the nation and will continue to be in 2008.

Port of Savannah

The industrial market in Savannah is relatively small, but the influence of the Port of Savannah cannot be overlooked. The emergence of the port during the past 4 years has led to some significant retailers to locate their warehouse operations in Savannah. For example, IKEA and Target have located in Savannah. The city is blessed with good road infrastructure and a growing population that supports the development of industrial properties for the distribution of consumer goods.

The Port of Savannah is deepening the Savannah harbor from 42 to 48 feet, which allows the port to accommodate the most modern ships and fuel the growth of Savannah and Georgia. Another priority of the port is the completion of several infrastructure improvements to roads, railways and bridges.

As for Savannah’s position as a warehouse site itself, the city has very limited land positions which require an immense amount of site work for development. Some of the industrial developers involved in Savannah include IDI, McDonald Development Company and AMB Property Corporation.

Last January, IDI acquired Phase I of a 900-acre park in Liberty County, Georgia. Tradeport East is about 25 miles south of Savannah with direct access to I-95. IDI intends to offer the industrial park for large users, from 300,000 to 1.3 million square feet, that do not need to be located directly by the port.

McDonald Development Company is developing Georgia Commerce Center Brampton Road, which consists of two buildings totaling more than 500,000 square feet located directly across from Gate 3 of the Garden City terminal in Savannah. Georgia Commerce Center Telfair Road is the second major distribution center at the Port of Savannah developed by McDonald.

AMB Property Corporation is developing four buildings at AMB Morgan Business Center in Savannah, all of which will be LEED certified. The buildings will include full concrete truck courts, energy efficient T-5 lighting, white TPO roofing systems, water use reduction in landscaping and restroom facilities, and warehouse skylights and clerestory windows.  

KENTUCKY/TENNESSEE INDUSTRIAL

Memphis

Commerce Farms in Lebanon, Tennessee.

Memphis has access to the busiest cargo airport, a rail center, an inland port and seven federal and two interstate highways and has been known as America’s distribution center for many years. Its industrial market should always remain stable due to these factors. Construction continues at a high velocity and currently there is 2 million square feet of construction underway with the majority of the space available for lease.

The majority of the new construction is taking place in the DeSoto and Southeast submarkets and the majority will be bulk warehouse space. As Memphis takes advantage of all of its resources, it has added the biosciences industry to its list of industrial tenants. London-based Smith & Nephew’s largest worldwide distribution center is located in Memphis; and Millstone Medical Outsourcing, a provider of outsourcing solutions to medical device makers based in Massachusetts, is opening a 105,000-square-foot distribution center in the fourth quarter of 2007.

Pratt Industries, a packing manufacturer, plans to bring one of its smaller distribution centers to Memphis, while Cartridge World is expanding its presence in Memphis and is opening five new retail stores and is considering Memphis for a distribution center.

Memphis International Airport has been cited as the world’s largest cargo airport by Airports Council International. The airport has begun construction on Phase I of a $7 million cargo facility.

Memphis is home to the worldwide headquarters and world hub of FedEx. Meanwhile, the smaller cities surrounding Memphis are experiencing the positive effects like Tupelo, Mississippi, which has been chosen for a new manufacturing facility by Toyota. 

“The Memphis market continues to be a very difficult one within the Tennessee state lines,” says Trey Hollingsworth, managing partner of The Hollingsworth Companies. “Many of the larger distribution users have moved to Northern Mississippi leaving large vacancies in Memphis proper.”

According to Hollingsworth, Mississippi’s tax abatement structures have provided for lower operating costs, causing many of the largest developers to purchase significant land positions in Mississippi, adding to the virtuous cycle of tenant movement across the state line.

The lowering of overall operating costs is one of the biggest trends in distribution in both Tennessee and Kentucky as well as Northern Mississippi. “Landlords must remember that the lease rate is simply one piece of the tenant’s overall operating costs,” Hollingsworth says. “Tenants have been sensitive to differences in those costs generated by a move of just a few miles.”

Nashville

Nashville has always been viewed as one of the Southeast’s best industrial cities, with three major Interstates intersecting there, I-40, I-24 and I-65. Its location to the Southeast, East Coast and Midwest makes it a preferred industrial location by developers and brokers for warehouse and distribution facilities. During the past few years, the bulk distribution category has experienced excellent results in Nashville in terms of leasing activity and deal velocity.

“Nashville has experienced a continued trend of greater diversification in distribution tenant types like auto, tech, retail and healthcare, which bodes well for balance with respect to exposure to any one industry,” says David McGahren, principal and senior vice president of Colliers Turley Martin Tucker (CTMT) in Nashville.

Traditionally, Nashville’s Southeast submarket has been the most active from a leasing and development standpoint. According to CTMT, the Southeast submarket has added 933,000 square feet of Class A bulk inventory in the past two quarters, while posting 896,000 square feet of positive net absorption year-to-date.

As the Southeast submarket remains the dominant industrial submarket in Nashville, it is beginning to receive competition from both the East and North submarkets, predominantly in the Class A bulk distribution market. These three submarkets are characterized by large facilities either occupied by one tenant or multi-tenant facilities with tenant spaces beginning in the 100,000-square-foot range.

“The big box distribution market emerged approximately 10 years ago in Nashville,” McGahren says. “In the mid 1990s, Nashville saw its first 500,000-square-foot spec building come out of the ground. It was leased before completion and the race was on.”

The trend is continuing primarily in big box development, but Nashville is witnessing some smaller product again, given the shortage of small industrial space players in Nashville.

“Nashville isn’t an extremely deep market as compared to Memphis,” Hollingsworth says. “But, Nashville has seen a flurry of Class A activity and a consistent rise in rental rates during the past few years.”

However, according to Hollingsworth, space is coming back onto the market in Nashville due to some larger users either leaving the market or moving to build-to-suit opportunities.

According to McGahren, though, fundamentals remain strong for Nashville. “We see the relative slowdown in current activity as a short-term correction that will likely improve during the next 12 months,” McGahren says.

Despite the mixed national economic indicators, look for Nashville to have a good 2008 as speculative product will come online in the North, East and Southeast submarkets.

“There are more than 1 million square feet of deals currently in the market now,” McGahren says. “While the market has slowed, interest remains strong in Nashville from both the user and developer communities.”

Northern Kentucky

Due to its central location and proximity to both Indianapolis and Louisville, Northern Kentucky remains a strategic location for users and a preferred industrial market for national and institutional developers. Developers are building larger, especially in the Hebron area, which is close to the Cincinnati/Northern Kentucky airport, and in the Richwood area, because users are occupying spaces in excess of 300,000 square feet. GSI, Safeway and Amazon.com have all entered or expanded in Northern Kentucky and leased spaces ranging from 300,000 to 600,000 square feet.

“Northern Kentucky will continue to be a prime location for companies expanding into the region,” says Tom McCormick, senior vice president of Colliers Turley Martin Tucker in Cincinnati. “The availability of sites, strategic location, cost of occupancy and competitive business environment serve as a strong foundation for positive growth in the short-term as well as the long-term.”

“Cincinnati, along with Nashville, is one of the hottest markets for distribution in the Tennessee/Kentucky industrial region,” Hollingsworth says. “Cincinnati has seen significant tightening during the past 3 years, although some vacancies have crept back in the past two quarters. In that light, Northern Kentucky has also seen significant tightening during the past few years and increased activity as companies look for advantages in traffic patterns and labor costs by moving outside Cincinnati proper.”

Just as Memphis is experiencing some companies moving to Northern Mississippi, Cincinnati is witnessing companies expand into Northern Kentucky, which could drive lower tax rates and more affordable labor among other operating efficiencies.

“We have seen a slowing in decision cycles in the Tennessee/Kentucky industrial markets, but there still seems to be the same level of activity in product classes across these two states,” Hollingsworth says. “We feel strongly that 2008 will be a steady, but not stellar, year for distribution across Tennessee and Kentucky. Cap rates may move up and investment sales may slow, but the fundamentals of distribution real estate should hold their ground barring any large unforeseen shocks.”

©2007 France Publications, Inc. Duplication or reproduction of this article not permitted without authorization from France Publications, Inc. For information on reprints of this article contact Barbara Sherer at (630) 554-6054.