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CALIFORNIA FINDS GOLD AT END OF RAINBOW

Following the real estate recession of the late 1980s and early 1990s, analysts in California guaranteed the state's economy would recover but definitely not to the level it had reached in the mid- 1980s.

In particular, analysts said, Southern California would see its role in the state and in the world diminish as a result of the loss of many thousands of civilian-based defense jobs. Military base closures in both halves of the state would also have a severe negative impact because California faced a disproportionate number of them.

The analysts, as it turns out, were way off the mark. Not only has the state recovered, but it also is experiencing what some commentators refer to as the biggest economic boom in California history. While that may be hyperbole, there is no question the state is doing well. And by retail standards, it is doing very, very well.

Virtually every economic indicator a retailer would like to see go up is increasing. Employment, population, incomes and spending are all on the rise. Perhaps more important, so is the general mood.

"The early '90s was the deepest recession we had seen," says Patrick Donahue, executive vice president of Donahue Schriber, a Newport Beach, Calif-based retail developer. "Unemployment was a major, major issue. Now people are very confident about where this economy is going."

Population soars According to the state Department of Finance (DOF), the state added some 537,000 residents between July 1997 and July 1998, raising the total population to almost 33.5 million people. When the agency releases its July 1999 statistics early next year, the sentence no doubt will read "more than 34 million people," for by all accounts the in-migration continues.

The '97-'98 population jump represents a growth rate of 1.6%. For the preceding 12-month period, the figure was even higher at 1.8%. State officials caution not to read the decline as a trend. The finance agency is projecting growth this year will at least match last year. And if nothing else, a rising tide of illegal immigrants promises to boost the population.

Whether it is illegal immigrants, legal immigrants, people relocating from other states, or space aliens, new arrivals rather than new births or fewer deaths clearly account for the population growth. A report from the Californians for Population Stabilization estimates newcomers accounted for 96% of the population increase from 1990 to 1997. The Legislative Analyst's Office (LAO) figures dispute the percentage, attributing between 60% and 70% of the growth to new arrivals.

Though the conventional myth holds that people move to California for the sun, these days they come for the jobs as well. The state Employment Development Department (EDD) located in Sacramento reports that as of June 1999, California had enjoyed 38 consecutive months of record-breaking employment gains. Between May and June 1999, it added a record 28,400 jobs.

LAO forecasts employment will increase 2.5% in 1999 and 1.9% in 2000. Figures from DOF show that employment jumped from 15.37 million to 15.71 million jobs between June '98 and June '99, an increase of 2.2%. According to EDD, unemployment declined to 5.3% in June 1999, compared with 5.9% a year earlier.

Although the number of new arrivals exceeds the number of jobs created, industries in many parts of the state report a labor shortage. The shortage is particularly acute within the construction and high-tech/biotech industries.

EDD has calcuated that the number of construction jobs increased 8.7%, from 609,600 in June 1998 to 662,500 in June 1999.

In Santa Clara County alone, high-tech jobs will be short 160,000 employees this year, according to Joint Venture: Silicon Valley Network, a Santa Clara, Calif.-based business and local government coalition. The software and multimedia sectors will account for more than half the shortage, it says.

The situation has grown so serious that employers are offering extraordinary incentives to land workers. Stories abound of employees being given free daily use of new BMWs, trips to Hawaii or bonuses of $10,000 to $100,000 for staying in a job for a specified period.

Personal income for California in 1999 is forecast to be $953.3 billion, an increase of 6%, following a 6.3% gain in '98 and a 6% increase in '97, according to Dr. Kelly K. Matthews, executive vice president and chief economist for First Security Corp. in Salt Lake City. Matthews says taxable sales should rise in line with income, increasing 5.5% this year, compared with 6% last year.

Planned growth The improved economy is having a positive effect on the retail industry, with construction increasing throughout the state. The construction boom stems in part from efforts to satisfy the pent-up demand created by the recession, according to Donahue.

Additionally, consumers are responding to their own personal pent-up demand by making purchases, taking trips and engaging in activities they deferred for several years.

The renewed optimism has led to a renewed commitment to living in California. And with that commitment has come a desire to maintain the quality of life by limiting and directing development.

"There's a substantial increase in community activism," Donahue comments. "Entitlements are a big issue for us as a developer. It's becoming very difficult to get approvals. Local residents have come to understand they can flex their muscles."

Though many developers, particularly from outside the state, chafe at the constraints, Donahue considers them an asset in the long run because they insure that a property will maintain value.

"Communities have created barriers to entry, but once you're in, you don't have to worry about encroachments from competition," he says. "You also know the demographics are going to remain positive."

This change in thinking, which occurred in Northern California much earlier than Southern California, has spawned a significant shift in shopping center design, with aesthetics and people orientation high on the list of developer concerns. Virtually every new project of significant size built in California today is attractively designed and landscaped, and most feature pedestrian and transit access, and gathering spaces. Donahue reports his company is introducing gathering areas to 20 Southern California properties it acquired last year as part of Mesa, Calif.-based Diversified Shopping Centers' merger into Donahue-Schriber.

Ethnic influences Another major trend in the state is the attention to ethnic tastes. About 10% of the state's populace is Asian and 26% is Hispanic. Although many people are fully assimilated, many also retain strong ties to their ancestors' culture of origin. These cultural ties have created great demand for shopping centers and districts catering to specific ethnic groups.

According to the Orange office of Northbrook, Ill.-based Grubb & Ellis, if Los Angeles area Hispanics were counted as a stand-alone city population, it would rank as the sixth largest city in the nation. The brokerage notes that La Curacao, a department store catering to the Hispanic market, recently expanded its flagship store in downtown Los Angeles by 150% to 90,000 sq. ft. and is looking for additional locations throughout the region.

In Oakland, a 10-block area immediately north of downtown is being transformed into a Koreatown, where 15 to 20 Korean-owned retail and service businesses have opened in the past two to three years. Farther north in Albany, the 250,000 sq. ft. Pacific East Mall opened last year, tenanted primarily by Asian-owned businesses.

Los Angeles also has a Koreatown, as well as a Chinatown and Little Tokyo. San Francisco has numerous ethnic neighborhoods, and Santa Clara County is dotted with neighborhood centers geared to Hispanic or Asian consumers.

San Francisco Bay Area Two key factors determine the course of retail in the Bay Area: high income levels and growth restrictions that create a shortage of developable land. Median incomes for Alameda, Contra Costa, Marin, San Francisco, San Mateo and Santa Clara counties far exceed the figure for the state as a whole. Levels for a family of four, based on current Housing and Urban Development (HUD) figures, range from a low of $67,500 a year for both Alameda and Contra Costa counties to a high of $82,600 a year in Santa Clara County. This compares to a national average of about $51,000.

Bay Area store locations are in such demand that new tenants are ready to move in as soon as the old move out, says John Cumbelich in the Walnut Creek office of Los Angeles-based CB Richard Ellis. Cumbelich says vacancies are low everywhere, ranging from a remarkable 2% in Concord to 8.3% in Livermore. Most submarkets are under 5% vacant, he says.

Luxury and power-center retailers are dramatically overtaking traditional "middle-market" retailers. At the upper end, Nordstrom, Macy's, The Gap, and Eddie Bauer continue to perform well and expand, while the big-box retailers are fast approaching the number one spot in the market, accounting for more than 45% of space. Among the fastest expanding retailers are B lockbuster, Home Depot, Gateway Country and Best Buy.

Only a few large projects are in construction or planned, mostly in new-growth areas. A notable exception is development of projects combining housing and retail on the west side of the bay. In addition, San Francisco is challenging its long-standing anti-mall reputation with a spate of large projects. The 350,000 sq. ft. Sony Metreon opened this summer and five additional projects, ranging from 300,000 sq. ft. to 1.2 million sq. ft., are proposed.

National and international retailers have identified San Francisco as a "must" location along with New York, Los Angeles, Tokyo, Paris and other international cities, according to Jill Paul, a CB Richard Ellis retail specialist in San Francisco. As a result, Union Square addresses command up to $300 per sq. ft. annually, according to Terranomics Retail Brokers in San Francisco.

Notable changes in the Union Square district include major expansions of Macy's and Neiman Marcus, and openings of large flagship stores for Old Navy and Levi-Strauss, both locally owned. Neighborhood rents can hit $48 per sq. ft., but $36 per sq. ft. is the more common ceiling, according to Terranomics.

Sacramento Sacramento is enjoying a major boom. According to John Austin in the Roseville office of CB Richard Ellis, 30,000 new residents enter the area annually. Per capita income has increased 6.8% per year since 1996 and employment growth has averaged 5.5% for the past six years.

Virtually the entire line-up of national retail tenants is seeking to either penetrate the Sacramento market or augment existing facilities, Austin says. Robert Hicks, general manager of the Sacramento office of Palo Alto, Calif.-based Marcus & Millichap, figures the area will see about 1.8 million sq. ft. of completions this year, a 7% increase in inventory.

The market experienced a similar jump last year, Austin reports, and a much larger amount of square footage remains in the pipeline, with more than 2.2 million sq. ft. of power centers alone in development. In addition, some 1 million sq. ft. of community, neighborhood and specialty centers recently opened or went into construction and the 750,000 sq. ft. first phase of The Roseville Galleria, a new regional mall in Roseville, is set to open in 2000.

Central Valley Markets are slower in the Central Valley but far from stagnant. The market for Stanislaus and San Joaquin counties is the most active it has been in several years, with centers finally filling long-standing vacancies, says Jerry Eppler, a broker in the Modesto office of Boston-based Prudential Commercial Real Estate. Although Tracy and Stockton are drawing national retailers, he says, Modesto is primarily attracting local independents and franchisees.

Wendy Coddington, director of the Grubb & Ellis office in Stockton, says Tracy and Manteca in particular are attracting retailers due to the large number of new residents, most of them commuters to Bay Area jobs. There are quite a few power centers in progress in that submarket, she says.

The North Fresno market has been extremely active, reports Scott Negri, a partner in Commercial Retail Associates in Fresno. One section of North Blackstone Street has 750,000 sq. ft. of shops and restaurants open, another 350,000 sq. ft. will open in the next 12 months, and additional projects are planned. Negri terms rents flat throughout most of the market, with monthly rents ranging from $1 to $1.40 per sq. ft. in well located and anchored shopping centers. Along North Blackstone, however, shop space goes for $2 to $2.75 per sq. ft. "(Shop) rents there are setting new records," Negri says, "and the sales are there to back it up."

Though vacancy levels in Bakersfield are a relatively high 10.9%, the trend is downward, according to the local office of CB Richard Ellis. And with obsolete properties removed from consideration in the 9.3 million sq. ft. market, the brokerage says the rate is closer to 7%. A 500,000 sq. ft. mall set to begin construction is the only significant upcoming project, but numerous tenants are seeking freestanding or pad sites. Those tenants include Leslie's Poolmart, Factory 2 U, Road House Grill, Old Navy, Pacific Theatres, Hallmark, Schlotzky's and Conroy's 800-Flowers. Also, Burlington Coat Factory, Lazy Boy, Port of Subs, Carpetland and Los Hermanos recently entered the market.

Los Angeles In the words of a Grubb & Ellis report, "a retail development tidal wave has engulfed Los Angeles." The brokerage reports 15 centers comprising 4.5 million sq. ft. are in construction and another 38 centers totaling 7.6 million sq. ft. are planned.

The source of the tidal wave is not hard to uncover. According to a study by the Southern California Association of Governments, northern Los Angeles County alone will experience a dramatic population increase of approximately 169% by 2020. The county is already the largest in the state, with nearly 10 million residents.

The brightest news is the continued redevelopment of Hollywood. With six projects totaling 1.5 million sq. ft. on the horizon, club and restaurant owners have initiated plans to revive the sluggish nightlife scene. For example, the King King Club will relocate to Hollywood Boulevard, while the Knitting Factory will open a 10,000 sq. ft. version of the New York hot spot a few blocks away. Several smaller clubs and restaurants also are preparing to open. The recent completion of a subway station at Hollywood and Vine is expected to give the area an additional boost.

Long Beach has an exceptionally strong roster of planned projects, according to CB Richard Ellis, with more than 2 million sq. ft. of new development or redevelopment. Meanwhile, Mark McGaughey of CB Richard Ellis in Glendale calls Palmdale "the newest hot market for retailers." Palmdale grew 51% from 1990 to 1996, making it the fourth fastest growing city in the nation, he says.

Retail and restaurant chains continue to look for selective, high-profile locations throughout Ventura County, says Reed Henkleman of CB Richard Ellis in Ventura. He expects vacancies to inch up from the current level of approximately 6%, due to new retail developments coupled with continued consolidation of drug stores and supermarkets.

Orange County With 2 million sq. ft. under construction in the first quarter and an equal amount projected to enter construction by year end, Orange County is in the midst of a major building binge, according to a report from Grubb & Ellis. The brokerage reports the market underwent nearly 400,000 sq. ft. of absorption in the first quarter, compared with about half that amount in first quarter of 1998. New leasing lowered the vacancy rate from 4.7% to 4.3%.

The activity reflects the general economy. The area has one of the lowest unemployment rates in the nation at a mere 2.7%, according to EDD. Like the San Francisco area, Orange County has a high median income level, giving residents a lot of spending power. Recognizing this fact, retailers have been willing to pay monthly rents of $2.50 to $3 per sq. ft., particularly near the coast, according to Ian Brown in the Newport Beach office of Grubb & Ellis.

A major expansion of Disneyland promises to revive the lagging Anaheim market. The Disney Co. is planning a complete new theme park, Disney's California Adventure, and a 375,000 sq. ft. retail and entertainment district called Downtown Disney. Along with this, the city is halfway through a $4 billion redevelopment project known as the Anaheim Resort, which is intended to be a world-class destination.

The two projects have already attracted outside developers, with Western Asset Management and Excel Legacy proposing the massive Pointe Anaheim complex that includes 650,000 sq. ft. of retail and entertainment space, two themed tourist hotels and a convention hotel.

San Diego In the past five years, approximately 153,000 new jobs were created in San Diego County, boosting the total to 1.1 million jobs, according to Michael W. Moser, first vice president of CB Richard Ellis in San Diego. The county ended 1998 with an unemployment rate of 3.5%. New completions pushed the retail vacancy rate up very slightly from 6.15% in December to 6.27% in March, Moser says. But with only 540,000 sq. ft. in construction in a market with nearly 43 million sq. ft., vacancies should stabilize.

Moser calls the northern half of the county the most active area, with Escondido the single most active submarket. Its 31,000 sq. ft. of leasing in the first quarter represented roughly 25% of all activity in the county. Average asking high rents ranged from $1.25 per sq. ft. triple net per month in Fallbrook to $3 per sq. ft. triple net in Del Mar, Solana Beach and Rancho Santa Fe. An indication of the market's strength is that Grossmont Center in La Mesa has leased 98% of its 1.2 million sq. ft. less than a year after opening.

Not to be outdone by its suburban neighbors, the city of San Diego has a raft of projects in the pipeline. The proposed doubling of the size of the city's convention center and construction of a new stadium for the San Diego Padres appear to have ignited new interest in the already thriving downtown. Four large retail-entertainment projects are in development, including two that will expand the popular Gaslamp Quarter. Meanwhile, Lennar Development will include a substantial amount of retail as part of its massive redevelopment of the former General Dynamics Corp. site at Kearny Mesa. Retail will also be a prime component of the 60-acre Grove development in Mid-City.

Inland Empire According to the Inland Empire Economic Partnership, the two-county region is the fastest growing in the nation, with nearly another 1 million people projected to be added to the current 3.06 million by 2005. Thanks to the influx, the retail market has pulled itself from a long-time slump, says Kevin Assef, regional manager of the Ontario office of Marcus & Millichap. He reports 2.3 million sq. ft. of development was in construction or planning in 1997 and 2.6 million sq. ft. last year. For this year, his firm projects a figure of 2 million sq. ft.

According to Dennis Cruzan, CEO of John Burnham & Co./Oncor International in San Diego, big-box retailers dominate the market with an intensely competitive attitude, due to the region's strong growth mentality.

"The Inland Empire's retail hot spots include Temecula, Corona, Chino Hills, Rancho Cucamonga and certain low desert towns where there is strong demand for neighborhood centers to serve rapidly expanding residential development," he notes.

The Palm Springs-Palm Desert resort area is undergoing a renewal of interest, according to David Moore, executive vice president of Capital Commercial Real Estate Services in San Bernardino. But the linchpin of the area's renewal, he emphasizes, is Ontario Mills, the 1.7 million sq. ft. entertainment-outlet-power center that opened two years ago.

According to Mary Jane Olhasso, director of economic development for Ontario, the center drew 14 million people in its first year. In combination with the expanded Ontario International Airport and the recently completed $66 million Ontario Convention Center, Cruzan says, the project has made the immediate location the hub of retail development for the region.

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