9th Annual Alabama Commercial

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• 9th Annual Alabama Commercial
• Real Estate Conference

2009 Emerging Trends in Commercial Real Estate
Best Bets What To Avoid
January 30, 2009
Presented by Susan M. Smith, MAI Director
PwC
connectedthinking
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Emerging Trends in Real Estate2009

• 30th annual forecast
• Industrys longest published survey
• Highly regarded report
• Published jointly by PricewaterhouseCoopers and
  the Urban Land Institute (ULI)
• More than 700 industry leaders completed surveys
  and/or were interviewed

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Korpacz Real Estate Investor Survey

• Now in its 22nd year
• One of the industrys longest running quarterly
  publications
• Covers over 30 national and local commercial
  markets, as well niche markets
• Participants represent a diverse group of major
  institutional-grade equity investors

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U.S. Fundamentals The Big Picture
Office faltering quickly Demand has markedly
dropped Relentless job losses Rental rate
growth is declining Apartments feeling pain
Negative net absorption Many markets drowning
in supply Sacrificing rent for
occupancy Retail hits the wall Too much
construction Closings bankruptcies rise
Consumers are tapped out Warehouse barely hangs
on Supply is outpacing demand Drop in
consumer demand hurts Large and small hubs
suffer
U.S. Vacancy Rates as of 4Q2008 CBD office
11.2 Suburban office 16.2 Apartment
6.6 Retail (community/neighborhood)
8.9 Industrial 11.3 Source Cushman
Wakefield Reis Torto Wheaton Research
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U.S. Capital Trends Big Changes
Deal flow has dramatically declined across all
property sectors. The credit crisis has
depleted lending options for investors.
Tighter lending requirements and more
conservative underwriting have impacted buyers
and sellers. The pricing gap remains very
wide. A major price correction is
underway. Back to fundamental investing.
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What Can the Industry Expect for 2009?

• Interviewees expect
• Worst period since 1991-1992
• Dramatic drops in value and negative returns
• Increases in delinquencies and
  foreclosures

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Investors Face Multiple Disconnects

• Multiple Disconnects
• Some owners drowning in debt
• Declining values
• Lenders without money
• Unprecedented risk avoidance
• Declining income levels
• Flight to quality and liquidity
• Reduced tenant demand

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For much of 2008, industry players were focused
on the credit crisis. As one interviewee pointed
out - - -
People had been so focused on the credit-crisis,
no one noticed the economy sneaking up to knock
their legs out from under them.
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Another respondent said - - -
(The downturn) looks like a long doubleheader.
The first game is the credit crisis and were
only in the middle innings. And now we have
another game to play and thats the poor economy.
Every day that goes by without economic
improvement increases the risk for real estate.
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No Escaping the Minefield of Issues

• Huge employment losses
• Significant housing mess
• Major credit crisis
• Rising energy and healthcare costs
• Battered consumer confidence
• Dismal retail sales growth
• Broken financial system
• Stock market volatility
• Global uncertainty and distress

It is hard to remember when the economy faced so
many negative factors at once.
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• Im just happy to have a job.

Source Emerging Trends in Real Estate2009
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Value Losses Will Average 15 to 20
Value declines relate to peak pricing realized in
mid-2007. Pain will not be universal.

• Amount of value loss will depend on three things
• Location
• Secondary markets will see more erosion than
  gateway cities
• Property type
• Retail and lodging will see more erosion than
  apartments and warehouse assets
• Quality
• B/C quality assets will see more erosion than
  Class-A assets

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Huge Repricing Consequences
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Delinquency Rates Nowhere to Go But Up
Expect a sharp rise in delinquency and
in-foreclosure rates, but below early 1990s.
There is a lot of equity out there looking to
recapitalize desperate borrowers in return for
ownership stakesand that should help restrain
the ramp up.
Source Emerging Trends in Real Estate2009
Long-term, low-leveraged holders will fare the
best.
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Simply put - - -
The deeper the recession, the greater the
potential for an even worse performance.

• Its hunkering down time where the winners will
  be companies (that) can out lease and out manage
  the competition.

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Overall Cap Rate Shifts (on average)
During Holding Period

Source Emerging Trends in Real
Estate2009
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Emerging Trends OAR Findings

• Revert to normal range overall cap rates need
  to increase about 150 to 200 basis points (on
  average) from their recent lows to a more normal
  range of 7.5 to 8.5.
• Trophy, 24-hour city assets should have less
  exposure overall cap rates expected to rise 50
  to 75 basis points.
• B and C product could see increases of 200 to
  300 basis points.

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Korpacz Survey OAR Findings
Overall cap rates are expected to be much higher
in midyear 2009 than they were 18 months
ago. Discretionary retail sectors are expected
to see the largest increases.
Source Korpacz Real Estate Investor Survey
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Korpacz Survey OAR Findings
Rates have been slow to move and remain quite
low. 1Q09 results show that increases are
growing.
Source Korpacz Real Estate Investor Survey
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Korpacz Survey OAR Findings
OAR increases for office markets vary based on
prior downturn trends and expected performances.
Source Korpacz Real Estate Investor Survey
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Rent Growth Is on the Decline
When combined with increasing OARs, lower rental
rate growth assumptions will also lower values.
Source Korpacz Real Estate Investor Survey
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Rent Growth Drops Across the U.S
Tenants have regained control of most major
office markets. A dramatic slowdown in demand
will maintain this trend through 2009.
Source Korpacz Real Estate Investor Survey
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2009 A Very Good Time to Buy
Interviewees rate sell opportunities at their
lowest level in Emerging Trends history. Buy
prospects continue to improve from record lows
three years ago. For many owners, the best course
will probably be to hold through the downturn.
Source Emerging Trends in Real Estate2009
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Markets to Watch
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Location, Location, Location

• Annual city ratings decline markedly
• Flight to quality 24-hour cities rank best
• Global pathway markets remain favored
• Secondary cities see opportunities dim
• - Harder to reach and more vulnerable to
  corporate downsizings
• - Investors concerned about
• limited economic drivers
• lack of in-migration
• their exit strategy
• Return to urban cores and infill areas
• - Rising energy and transportation costs
• - Increased congestion shorter commuting time
• - Vertical development and mixed-use development
  preferred

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Top Markets
Coastal global pathway markets rank the
highest. Seattle is number one.
Seattle
Minneapolis/St. Paul
Detroit
Boston
Chicago
Philadelphia
New York
Denver
St. Louis
San Francisco
Washington, DC
Las Vegas
Charlotte
Los Angeles
Phoenix
Orange County
Atlanta
Dallas
San Diego
New Orleans
Houston
Orlando
Miami
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City Rankings at a Glance
New York dropped from 1 in 2008 to 4 in
2009. San Francisco held at 2, but San Diego
dipped again.
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Sunbelt Rankings
Denver 5.52
Nashville 4.98
Atlanta 4.67
Dallas 5.33
Phoenix 4.14
New Orleans 3.33
Austin 5.64
Houston 5.74
San Antonio 5.02
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(No Transcript)
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Preferred Assets for 2009
Apartments and warehouses continue to be
investors favorites. CBD office rates a strong
hold, but suburban office tracks down. Retail and
hotels drop significantlythese sectors will be
hard hit.
5.77
Apts Moderate
5.66
Warehouses
5.51
CBD Office
5.50
Apts High Income
5.04
RD
4.67
Neigh./Comm. Shopping Ctrs.
4.66
Full Service Hotels
4.56
Suburban Office
4.47
Limited-Service Hotels
4.06
Power Centers
3.89
Regional Malls
1 Abysmal
5 Fair
9 Excellent
Source Emerging Trends in Real Estate2009
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Apartments

• Buy or hold moderate-income assets since owning a
  home is not an option for many Americans right
  now
• Value-add plays and rehabbing older product near
  dominant workforce hubs should perform well
• Avoid upscale product in struggling condo markets
  
• Focus on enhancing leasing activity and retaining
  tenants
• Buy distressed, well-positioned condos at the
  right price for future sales

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Housing Troubles Mount
Cities in California and Florida account for 9 of
the top-10 metro foreclosure rates.
Nevada, particularly Las Vegas, is struggling.
Source RealtyTrac Inc., September 2008
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Industrial (Distribution)

• Buy or hold big-box properties in leading gateway
  ports despite near-term softness
• A global/marketplace will keep goods moving (but
  at a much slower pace)
• Short construction lead times keep supply
  relatively in check
• Truck routes are being overshadowed by rail
  routes be cautious of location
• May be too early to get excited about potential
  shipping hubs in Kansas City, Memphis, and
  Columbus.

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Office (CBD Suburbs)

• Buy and hold quality, stabilized assets
  long-term leases bridge the downturn
• Very few investors are looking for assets with
  empty space
• Avoid secondary and tertiary markets better
  quality assets in top cities tend to hold value
  better and rebound faster
• May make sense to trade concessions for better
  credit tenants
• A lack of supply may speed the recovery

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Layoffs Are Becoming Widespread
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Investors Expect More Job Losses
Wells Fargo takes over Wachovia
JPMorgan Chase Company buys Washington Mutual
JPMorgan Chase acquires Bear Stearns
Lehman Brothers files Chapter 11
Bank of America buys Merrill Lynch
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Retail

• Fortress malls and high-income-area neighborhood
  centers anchored by top grocers rank best
• Centers reliant on discretionary spending will
  suffer the most
• Avoid older and secondary regional malls, as well
  as lifestyle centers in tepid locations
• Could be a good time to buy and hold mall REIT
  stocks
• Pray that consumers come back soon

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The List of Troubled Retailers Grows
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Consumer Confidence Plunges
Consumers short-term outlook improved a bit late
in the summer, but plummeted in December 2008 to
the lowest level on record.
111.9
Consumer Confidence Index
38.0
The Consumer Confidence Index averaged 105.9 in
2006 and 103.4 in 2007.
Source The Confidence Board
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Hotel

• Hold quality assets and do your best to mitigate
  value loss through prudent management
• Major coastal cities reliant on business and
  foreign travel should hold up the best while
  fly-to vacation/destination cities, like Vegas
  Orlando, will suffer
• Buying opportunities may emerge from bad
  development timing
• Until the recession ends, most markets and
  lodging segments offer little upside so it might
  be best to avoid this sector

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Best Bets 2009 - Investments
Be patient and husband capital - until sellers
relent, investors should sit tight opportunities
will surface at significant discounts to peak
prices and patience will be rewarded Buy
discounted loans - lenders will be offloading
more loans at increasing discounts buyers need
to focus on underlying collateral scrutinize
loan positions Recap distressed borrowers -
some overleveraged owners will look to lifelines
from new capital sources rather than face
default Hold core - there is really no choice
well-leased assets with manageable rollover will
take some losses but will likely rebound
faster Buy public REITs - these stocks have
taken a major licking, but will lead any market
recovery many large REITs are well capitalized
with manageable debt loads Focus on global
pathway market - 24-hour mega-cities will hold
value better and bounce back more quickly Staff
up the asset managers, leasing pros, workout
teams - starting work properties to improve cash
flows and enhance future value try to mitigate
value losses
Source Emerging Trends in Real Estate2009
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Best Bets 2009 - Development

• Retrench financing is limited, tenants are
  scarce, vacancies increase, and construction
  costs remain high
• Go green cutting energy expenses should be a
  priority in controlling rising operating costs
  installing green technologies just makes sense
• Reorient to mixed use and infill people want
  24-hour residential environments closer to where
  they work energy prices and road congestion are
  burdensome
• Plan more transit-oriented development metro
  areas nationwide realize the need to build or
  expand mass transportation systems to overcome
  road congestion developers need to focus on
  project sites near rail stops and train stations

Source Emerging Trends in Real Estate2009
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Recovery Track

• - Private markets need to correct and investors
  need to take their beating
• - Debt capital needs to flow
• - Regulators must help restore confidence
• - The economy needs to improve
• - New job engines must surface

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In Conclusion.

• 2009 A downer
• 2010 Floundering around
• 2011 Slowly recovering

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All depends on the economy.
The industry needs a (positive) jolt!
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• Thank you.

Please contact me should you have any
questions. Susan M. Smith Director/Pricewaterhous
eCoopers LLP Editor-in-Chief/Korpacz Real Estate
Investor Survey 631-653-4145
susan.m.smith_at_us.pwc.com
PwC
connectedthinking
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• 9th Annual Alabama Commercial
• Real Estate Conference

2009 Emerging Trends in Commercial Real Estate
Best Bets What To Avoid
January 30, 2009
Presented by Susan M. Smith, MAI Director
PwC
connectedthinking