California's commercial real estate market starting to stir

The Sacramento BeeJanuary 2, 2013 

— Sacramento's long-depressed housing market started ticking up early last year. Now the commercial real estate market, which has suffered from plunging rents and soaring vacancies, is stirring as well.

As with housing, players in the nascent revival range from large institutional investors attracted by low purchase prices to the business equivalent of first-time homebuyers – startup shopkeepers drawn by affordable rents.

Last month, Westcore Properties of San Diego and DRA Advisors, a New York-based investment firm with billions of dollars in real estate holdings, wagered $600 million on a vast collection of warehouses and office buildings assembled by the late Sacramento developer Joe Benvenuti. Their assumption: Rents and property values will rise in coming years.

It's the second-largest commercial real estate transaction in Sacramento history, and it echoes similar institutional interest in Sacramento housing, with big firms such as Blackstone, based in New York, snatching up hundreds of rental houses here.

Westcore president and CEO Don Ankeny said his company has faith in Sacramento's commercial real estate market and sensed an opportunity to boost the performance of Benvenuti's portfolio.

"A little new blood coming to the table can put energy into it," he said.

The weak commercial real estate market has created bargains for tenants as well as buyers. In recent months, some businesses have taken advantage of lowered costs and high vacancy rates to open shop or expand, including in former industrial spaces where rents are rock bottom.

"We're finally, after about five years, starting to see vacancy rates drop in industrial and retail space," said Sally Hamilton, a professor at Drexel University's LeBow College of Business in Sacramento.

Right now, she said, there is "a lot of movement and opportunities."

Whole Foods moved into the former Borders bookstore in Davis, while a competitor, Fresh Market, has set up shop in a former Borders in Roseville and plans to occupy one on Fair Oaks Boulevard in Sacramento.

Another newcomer to the area, the Sprouts grocery store chain, has occupied old supermarkets in Land Park and elsewhere.

Revitalization and change are also bubbling up on a more micro scale, with homegrown entrepreneurs seeking opportunities for rental bargains.

Take Track 7 Brewing, a small business that celebrated its one-year anniversary this week and is preparing to double its space.

The brewery, which has a retail taproom, occupies a roll-up garage along the railroad tracks in an industrial area south of Sacramento City College, on West Pacific Avenue.

It attracts a devoted crowd of beer fans, who sit at picnic tables under patio heaters and bright lights, drinking ales and eating from the food trucks parked outside.

The two young couples who own the brewery roll up the garage door on the days they're open for business.

"This is the property that had the lowest cost per square foot" of any properties the owners looked at, said Ryan Graham, the main brewer and one of the four owners.

There are 10 units in the warehouse-style building, which also houses an auto body shop. A number of the units fell vacant during the recession, but after Track 7 opened, a bike shop, a dance troupe and a cross-fit gym also arrived, Graham said.

The brewery pays about 50 cents a square foot for the 2,200-square-foot unit – a little more than the going rate of 30 cents to 40 cents a square foot for warehouse space in the region.

It's now bumping into an adjoining unit. In between brewing beer, Graham has been busy rebuilding the bathrooms.

When the brewery rented the space in 2011, the landlord at the time, Chris Brocchini, offered months of free rent and upgrades, including gas and water lines, Graham said.

That was at a time when the building was more than half empty.

"In the bottom of the recession, he was very motivated to help us out here," the brewer said.

Brocchini, whose former business partners have since taken over the building, owns similar sites around town, where changing fortunes have led to new tenants.

They include a former paint store on S Street where Revolution Wines and Temple Coffee now operate, and a one-time typewriter repair shop on P Street occupied by a pet-washing business, Splash Hound USA.

The recession and other changes put some tenants out of business and created openings for new ones, Brocchini said.

"It's a business cycle," he said. "Some things work for a while and they don't work anymore. Certainly now the entry cost is much lower because the rents are lower and everything costs less."

How long low rents and high vacancies will persist depends on whom you ask. And it depends if you're talking about the retail and industrial sectors, which show some signs of improving, or office space, which is still struggling.

Scott Kingston, vice president with Ethan Conrad Properties, said the commercial real estate market typically lags about a year to 18 months behind the residential real estate market.

That means the commercial market won't significantly improve until later this year. For now, he said, "Commercial's not getting better. It's just not getting any worse."

Garrick Brown, director of research for Terranomics, expressed skepticism about any quick improvement in Sacramento's commercial real estate market. Rent increases in the Bay Area could lead to companies moving here, but not for some time, he said.

Especially with retail, "I suspect that it will end up, at worst, as flat overall growth for the region and, at best, as more of the same slow growth," he said.

Los-Angeles-based CBRE, the world's largest commercial real estate firm, says in its 2013 outlook that the Sacramento region shows some improvement across all commercial sectors: retail, industrial and office.

Falling vacancy rates and increased net absorption – the rate at which properties are leased minus the rate at which they're vacated – are expected to improve the local outlook.

But it could be a while before things start to return to normal, CBRE executive vice president Randy Getz wrote in his 2013 forecast.

"The consensus sentiment was that the worst has passed, that things will now improve," he wrote, "but that it will be a year or two before it starts to feel as if the local economy is developing traction."

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