Veteran broker Ben Lazzareschi recently became the latest expert to join JLL’s growing retail team (now eight strong and led by Jeff Badstubner) in San Francisco. We asked Ben for his insight into the current retail market outlook in city and broader Bay Area markets. Here’s what he told us:
What’s the state of the retail real estate sector in San Francisco?
Retail fundamentals in San Francisco and throughout the Bay Area are very strong. It’s hardly surprising because we have a robust local economy driven by the growth of the technology sector as well as strong tourist travel—we are after all, one of the most visited cities in the world. We’re also one of the key gateway markets to the U.S. for Asian retailers, and we’ve seen strong increases in demand in this category so that is propelling our retail market forward, too. Another positive factor for retail is population growth. San Francisco’s population hit a low in the 1980s of around 680,000 but since then the trend line has been way up and we sit today at about 850,000. As a result, this market is one of the stand-out performers in the country—in company with Miami, New York, Houston, Dallas and Boston.
Rents rose 2.3 percent in the first quarter of 2016 and 6 percent year-over-year, despite negative absorption of space between January and March 2016. Retail rents in San Francisco are up almost 25 percent since the 2007 recession. In terms of specific sub markets, Union Square is still seeing strong demand but not at the rate we saw in 2015 where deals were setting new high water marks.
I am very bullish on the South Financial District and Transbay areas for obvious reasons—the transportation landscape downtown is shifting entirely. I am a huge fan of Hayes Valley and Market Octavia corridor, as well. There are some amazing retailers we have worked with that are doing great here—Warby Parker, Linus Bike, Pladra and Oak+Fort. 388 Fulton, a project we worked on with 7×7 Development, has two incredible concepts opening soon with Johnny Doughnuts first San Francisco store and a to-be-announced sushi concept from a local group.
What’s happening in terms of new construction?
In the traditional sense of new large shopping centers being developed: not much, really. In spite of first quarter negative absorption of more than 88,000 square feet, a dearth of new construction means the supply of traditional retail space is gradually dwindling. New centers, like Irvine Company’s Whole Foods-anchored Santa Clara Square Marketplace fill up quickly. This is not surprising as it’s a premium project with the most attractive grocery anchor for most retailers from a co-tenancy perspective. Most new retail space coming to market is in the form of shop retail in mixed use residential and commercial projects. However, as a percentage of the entire development project this retail space remains a very small amount.
Multifamily developers have become smarter about incorporating the right amount of quality retail space as opposed to too much, poorly laid out retail space. Retail is much better understood by these groups with a focus on quality of use, accretive branding and uses being an amenity for residents as opposed to just filling space. Lennar Multifamily’s Parker Place in Berkeley—where we signed a lease with Equinox Health Clubs is a great example—it’s a best in class brand, a true amenity and a high quality use. Equinox immediately makes that project a more attractive place to live. It will be interesting to see how cities balance zoning and their desire for retail and its tax benefits with the market demand for housing density in the future. I don’t think you will continue to see retail centers with huge vacancy problems in the future as the land is too valuable not to develop to market demand.
What about the restaurant sector?
This is a very interesting topic at the moment. Some restaurants are doing very well, but I believe we have reached a certain degree of saturation here in San Francisco. Per capita, San Francisco has more restaurants than any major city in the country. However, this city has become the most difficult major city in the country to open new restaurants. While top line sales are strong, bottom line costs are paralyzing many restaurants. Increased health care costs, a rising minimum wage and labor costs, combined with premium rents and substantial competition create a very challenging environment.
It’s no surprise you see many restaurants closing, and it’s important to note that some of the closings are well known chefs and operators not just tired restaurants or inexperienced groups. No matter your restaurant pedigree, once you get in a hole due to costly delays you are often doomed.
However, on the flip side we’re seeing an expansion of traditional chain restaurant offerings in the Bay Area. Companies like Dunkin’ Donuts have been received very well and are showing strong sales at their existing units.
Healthy, quick-serve concepts continue to do quite well downtown and in neighborhoods. I am very excited about a new client of ours called The Organic Coup. They are incredible operators and are off to a great start. It is a smaller concept, but the ability to move quickly and focus on doing a few things very well as opposed to doing too much too soon, and the concept is being very well received by the market.
There’s always an opportunity for creative restaurant formats and brands to expand in the Bay Area because of the population base, demographics and lifestyle here, but finding the right locations is a challenge and always competitive. Working on both sides of the coin with restaurants and with landlords leasing restaurant space, I can say the biggest issue for both is unanticipated costs and delays and, unfortunately, I don’t see that changing anytime soon.
Any advice for tenants then?
Sure, call me! In all seriousness, it’s amazing how many retailers do not realize the resources available to them and come into this market with no real plan. Even the equity groups investing in them surprise me. They are willing to give a company millions of dollars based on P&L, proof of concept or other reasons but often don’t understand the challenge of going from five stores to twenty five stores.
If you hope to expand your retail or restaurant concept in the Bay Area, first and foremost develop a solid, yet flexible, plan based on market intelligence—primarily current lease comps and sales volumes. Understand where the best performing locations of your competitors are and dig into the reasons why. If you see the right locations, lock them in early because you are not the only retailer circling the space. This is a market that when you enter, you need to go into it full speed. With the right team: PR, branding, contractors, architects, permit consultants even. The ones with the team asking the right questions are always the best at expanding. The more you know, the less roadblocks and delays you will face and moving more nimbly than a competitor is often what gets a retailer the deal.