City’s Core Possesses Potential Aplenty

As businesses and residents return to greater downtown area, new retail investment possibilities emerge

Denis O'Neill, Associate Vice President, NAI NBS

Tired of doom and gloom in the real estate world? We are clearly in a down cycle driven by the implosion of the financial markets. However, if you are not inclined to spend 2009 searching the globe, do solid retail real-estate-investment opportunities exist right here in Portland? Here’s a tip: Follow the money.

Since the late 1970s, civic and business leaders have pursued a strategy to stop the suburban flight of retail and office businesses. Through the Portland Development Commission, public resources were channeled back into the core, initially through the establishment of the urban renewal districts, and later through substantial infrastructure investment in light rail and the streetcar. Propelled by the city’s desire to increase residential density around mass transit and fueled by property tax subsidies, we saw an explosion of condominium units.

New commercial investment followed residential growth and continues throughout the Central Business District and Northwest Portland. The Pearl District’s success is flowing both across Burnside to the west side of downtown and up Burnside toward Northwest 23rd Avenue.

On the south end of downtown, Portland State University and Oregon Health Science University’s ambitious expansion plans are linked both by the streetcar and the tram to Portland’s newest neighborhood, the South Waterfront District. South Waterfront boasts multiple high-rise apartment and condominium buildings, such as the John Ross and Meriwether, and a growing number of retailers, from a bank and restaurants to a neighborhood market and dry cleaner.

Dead zones are disappearing and districts are growing together. For years, talk of a 24-hour downtown was a planner’s mantra and little more. A city where people lived, worked and played seemed futuristic. Are we at a tipping point?

Two demographic trends appear irreversible. First, no one wants to commute. The rebirth of neighborhoods and commercial corridors near downtown, such as Southeast Belmont, Southeast Hawthorne, Northeast 28th Avenue and now, North Mississippi, were early indicators that an increasing percentage of people were rejecting the suburban lifestyle.

People are seeking a more diverse, urban lifestyle, minimizing the need for a car for work and play. An estimated 11 percent of the Portland metro area’s workforce walks, bikes or rides mass transit to get to work. The increase in gas prices has only encouraged this trend, and TriMet ridership continues to rise.

Portland’s unique neighborhoods and downtown are heralded by travelers and national publications alike. For instance, Travel + Leisure’s America’s Favorite Cities 2008 ranked Portland No. 1 for public transportation and pedestrian friendliness, safety, cleanliness, public parks and environmental awareness.

Second, young professionals and creative types want to work close to downtown. Leasing agents consistently report that companies are now trying to relocate from suburbia to the core, and recruitment and retention of talent are the drivers. This is a fundamental business shift.

So where are the investment opportunities? If you believe the lure of working and living near the core is going to only grow stronger, downtown real-estate values will surely benefit.

For the last year we have been dealing with a wide gap in the “ask” and “bid” resulting in a nationwide drop in the number of investment sales. Though buyers were quick to price in new financing costs, sellers were not ready to accept lower prices. Prices are now falling as available financing shrinks. The average cap rate for core office and retail properties is now about 7.5 percent, up from the low 6-percent level in early 2007. In addition to a rollback in rental rates, credit restrictions have finally forced sellers to acknowledge the new financing realities.

In emerging commercial areas like South Waterfront, the ground-floor retail space is being built as an amenity to attract condominium buyers. Until a critical mass of retail is reached, the retail components are being offered for lease and sale at subsidized rates. Rents are in the $25 NNN per-square-foot range, 10 to 20 percent below the market for established spaces. This translates to sale values in the low $300 per-square-foot range, well below construction cost for a Class A building.

However, South Waterfront has distinct advantages over earlier urban renewal areas. For the initial retail developments to be successful they must generate customers besides neighborhood residents. OHSU, Portland’s largest employer, is an engine that will continue to deliver research and medical space to South Waterfront and its 35-acre Schnitzer campus.

Plus, the sheer scale of the density and construction is unprecedented. Despite the downturn, South Waterfront will deliver more residential units, office and retail in five years than seen in the first 10 years in the Pearl.

South Waterfront may be the obvious example of where public and private investment creates opportunities for investors. But years of investment in Portland’s core, ever-increasing density, lifestyle and demographic trends make solid purchases in all of Portland’s areas near downtown a very good bet.