Commercial Real Estate

Making A Slow Comeback

By Nancy K. Crevier

The typical way to gauge the health of commercial realty in a specific market, said Bryon Atherton, president of Atherton Associates Commercial Properties in Shelton, is to determine how much vacant space is available and the rate at which it has been consumed. Looking at the Newtown market then, the town has approximately five to seven years of office space on the market, based on what was absorbed in 2011, he said. Historically, a stable market in Newtown would be considered to be an 18-month supply of office space available on the market. Even though that has not happened for some time, he remains cautiously optimistic about the improving health of commercial real estate in the community.

“We’re starting to see better demand for commercial office space over the past 18 months. It is slow and tempered, but there is a little up-tick in demand,” he noted.

“One year ago, the absorption [rate] here was a six- to eight-year market,” said Mr Atherton, who holds one of only 9,000 certifications worldwide as a Certified Commercial Investment Member, and has been involved in commercial real estate for ten years. “Three years ago we were looking at over ten years of office space on the market in Newtown. But we’re not,” he said, “out of the woods. Any potential development can change that,” he said.

The property at Fairfield Hills is a unique and difficult situation in Newtown’s commercial market place, Mr Atherton said. “There is no demand for new property, and that is considered, basically, ‘new’ building. Why,” he asked, “would you build when it is cheaper to buy? Until the excess supply on the market is consumed, we will only see ‘one-off’ in new construction, such as that at the Lexington Gardens site. Lexington Gardens is a signature property in the heart of the borough. It makes sense to build on speculation there,” he said.

Unless a tenant specifically desires to be at Fairfield Hills, or the old Fireside Inn site where new construction is also available, there is little reason in the current Newtown market to go there, Mr Atherton observed.

The rare new construction in town is happening only in small pockets, he said. “The Sandy Hook market was underserved for years. That’s changed substantially now and there’s an incentive for people to locate offices there. The Betts House, at 107 Church Hill Road, renovated by builder Michael Burton, is one example. He completed that building just as the market was crashing. It is fully leased,” he said.

Commercial real estate is a constantly changing environment, with small and large spaces fluctuating. The wild card in gauging the commercial market is retail space, which is more troubling than office space, said Mr Atherton. Imagining a pyramid with office space demand at the peak, residential demand in the middle, and retail demand at the bottom, he noted that there is a sort of trickle down effect. Employment demands drive office space demands, so the big driver, he said, is what happens with employment. “The rest follows suit,” said Mr Atherton.

Investors own approximately 90 percent of the commercial properties in the Newtown and overall market. Leased properties that have become unoccupied or new buildings that have never been occupied are the result of the current sluggish economy and the period between 2002 and 2007 when money for speculative construction (building without tenant commitments in place) was easy to come by. New buildings popped up, spaces were renovated, and a glut of office space was created that exceeded the demand when the economy slowed. “That was not a normal market,” Mr Atherton said. “It was predicated on loose lending and created an artificial inflation of asset values and transactions.”

Unlike residential real estate that rapidly collapsed into short sales (when the mortgage holder and seller agree on a price below what is owed) or foreclosures when underqualified buyers were no longer able to afford mortgages they had received in the hey-day of lending, it is only recently that commercial properties are finding themselves in short sale or foreclosure situations. “The commercial real estate market typically lags behind residential in foreclosures because of one reason only,” said Mr Atherton.

A Competitive Landscape

“Most commercial assets are leased on a three-, five-, or ten-year window. So now, and in the next few years to come, those higher rents from the peak years are ready to be renegotiated, but the tenants have a lot to choose from in town and are seeking lower rates for a lease. This creates a very competitive landscape.

“Leases taken on at the peak of the market are very vulnerable and [commercial property owners] can end up with empty buildings or difficult-to-lease properties, or they have to lease at the new market rate, below their debt level,” he said. Properties taken on at the peak of the market demand a certain minimum lease, and that may not be something easy to achieve in today’s market. “So you are seeing more commercial properties in foreclosure or short sales than in recent years,” he said.

Complicating matters for commercial property owners is the fact that commercial mortgages are usually lent on five- or ten-year terms, explained Mr Atherton. Loans taken out ten years ago demanded a higher lease income to cover the loan costs than loans taken out more recently, in an environment that is seeing interest rates of just four percent. If an earlier lease has not been linked to the Consumer Price Index, the tenant is not beholden to continue on at a rate that may be substantially higher than other properties offered for rent in the area — ones that have no debt to offset, for example. The tenant moves on, and the property owner is left struggling to find a tenant willing to pay the higher price, or loses his/her investment.

It will continue to be a difficult market for commercial properties, predicted Mr Atherton, and much is dependent on the outcome of local and national elections this fall, and the balancing of the national budget. The thing about commercial real estate, though, is that it can quickly swing one way or the other: toward recovery or worsening. Employment, he emphasized, remains the driver to recovery.

Still, he said, he finds today’s commercial market more invigorating than that of five to ten years ago. “I don’t like the sad stories I hear now, but the market before made no sense. There is rationale in today’s market. What is comforting to me,” he said, “is that we are rebuilding for the future. If you look at trends, we will get out of this mess and things will improve. I’m feeling positive. Activity is increasing. There is absolutely a light at the end of the tunnel.”