For all the difficulties faced by the retail sector in recent years, there is one subsector that continues to shine — the neighborhood shopping center with a grocery store as the anchor. This classic retail operation has survived and even thrived through the online shopping onslaught and the predicted demise of the mall.
A top supporter of this form of retail is Gary D. Rappaport, whose company, Rappaport, has been developing and operating shopping centers for nearly 40 years. Rappaport and his team have invested more than $1 billion in retail properties throughout the District of Columbia, Maryland and Virginia. He is also the author of “Investing in Retail Properties: A Guide to Structuring Partnerships for Sharing Capital Appreciation and Cash Flow,” with the third edition published by Forbes Books last month.
“Retail real estate, I believe, is the most complicated sector of commercial real estate.”
Rappaport spoke with Scotsman Guide earlier this year about the unique strength of the neighborhood shopping center. He also offered advice to investors who are interested in the sector.
What are some of the main trends you see in the shopping center sector?
Grocery-anchored shopping centers continue to be the most stable property subsector in retail, as well as one of the strongest property types in all of commercial real estate. Whereas most retail categories have a few creditworthy tenants, the grocery category — more specifically in the Washington, D.C., market where most of our operations are located — has multiple creditworthy tenants all seeking to expand. There have been very few neighborhood and large community, open-air shopping centers built during the past 10 years. Because of this, occupancy and demand for space have remained relatively high.
What are the key factors investors interested in this sector should keep in mind?
Location is very important, but so is the creditworthiness of tenants and the length of their leases. The type of financing we place on these acquisitions is also key. For example, fixed or floating loans and the length of time, which we use to obtain the projected returns versus the evaluated risk. The grocery-anchored product tends to have a significant, reliable cash-flow growth potential that investors can have confidence in. The yield of this type of real estate can start at a much higher point relative to office, industrial or multifamily.
Why has this type of real estate been so successful?
Shopping centers attract retailers that cater to consumer needs for essential products and services. I describe it as necessity retail that is mostly internet-proof. You can buy groceries online and have them delivered, but most people want to see the food for themselves. The centers also tend to act as last-mile merchandise providers because they are closer to where consumers live than the regional malls. At the same time, the open-air centers are less costly to operate and so can offer lower total occupancy costs than enclosed malls. The centers are attracting anchors and specialty retailers such as Kohl’s, Lululemon, Athletica, Express, Apple and Foot Locker. These retailers have been pivoting away from malls for more than a decade.
What do you look for in a shopping center property?
There is virtually no new supply being built and while difficult to find, we are always looking for a shopping center where we can use our expertise to create value through re-leasing, remerchandising, renovation, and professional management and marketing. I believe there is nothing like local knowledge and relationships to give us an advantage over other buyers. We have a reputation as strong community members who add value to a shopping center and the whole close-by community.
What are some of the mistakes that investors need to avoid with these kinds of projects?
Retail real estate, I believe, is the most complicated sector of commercial real estate and the sector in which the expertise of the sponsor is most important. In retail, one needs to understand cross-shopping and tenant mix to maximize sales across the property. One needs to understand tenant leases with clauses, such as exclusive and broad leasing rights, co-tenancy requirements, no-build areas, percentage rents and other restrictions that could materially affect the long-term success of a retail property.
Some developers are quite successful buying a shopping center that needs a capital investment and expertise, as we would provide, and then when the property stabilizes, they sell. I do not sell. I believe owning real estate for the long term is the way to create material assets for one’s partners and one’s family. Investors wishing to place funds in a partnership — as opposed to purchasing shares in publicly traded REITs — should be aware that this is a long-term investment and they need to have a long-term horizon for their investment. They must be content with receiving fairly reliable, tax-advantaged annual distributions that equal about 8% of their initial investment. ●