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Santana Row was one of the most ambitious mixed-use projects to hit the drawing boards in the late 1990s. Federal Realty Investment Trust, the loudest advocate for multiple-use developments, bet heavily on the $455 million extravaganza. It followed several other “Row”-titled works such as Bethesda Row and Pentagon Row, and was expected to be the mixed-use pioneer's centerpiece. But by the time Santana Row was getting ready to open in late 2002, things were so bad that Federal was declaring its retreat from mixed-use and return to the cozy confines of grocery-anchored retail.

Then things got worse.

A major fire — whose cause has yet to be determined — wiped out retail and restaurant space and roughly 250 apartments. The opening was delayed and when it finally did debut, only 35 retailers and no restaurants were online. In December of that year, CEO Steven Guttman stepped down from Federal four months ahead of schedule. His planned departure was due to Santana Row's poor showing. The fire hastened his exit.

In response to the beating it took, Federal rethought its business strategy and decided to focus on strip centers.

“It was a very aggressive development,” admits Andy Blocher, vice president of capital markets and investments for Federal. “Obviously, the ebb and flow of the economy in the Bay Area had a significant impact. We acquired the land while the tech market was heating up, but leased the project during its drop.”

Less than three years later, however, Santana Row in San Jose has turned around in a big way, and the mixed-use concept is all anyone wants to talk about.

Even Federal, which swore off the format, is jumping back in. The plight of Santana Row, and how Federal reversed its fortunes, serves as a cautionary tale of the potential pitfalls involved in mixed-use development — but also the rewards that await if the project is done right.

By the end of September 2004, 92 percent of the Santana Row's retail space was leased to 115 tenants with 101 stores open and operating. Santana Row's 255 apartment units are 98 percent leased.

The $455 million first phase of the project, which included infrastructure and most of the retail, is now expected to reach its original projected yield of 5 percent by next year, says Jonathan Kayne, Federal vice president of real estate.

Federal's estimates for Santana Row put sales at $600 per square foot, with the restaurants pulling in $800 a square foot and retailers at $500, says Kayne. Last year, same-store sales increased 15 percent to 20 percent, says Kayne, far above the national average. Car traffic increased 30 percent.

“Overall, what's happened is that the project has not only stabilized, but the restaurants have done well and the retail has increased,” says Nanci Klein, manager of corporate outreach for the San Jose Office of Economic Development.

Besides having typical lifestyle center tenants such as Anthropologie and Chico's, Santana Row also houses retailers unusual to mixed-use developments, such as St. John, Gucci and Escada.

Federal has completed two more phases since the initial stage opened. Phase II added 85,000 square feet of big-box retailers, such as Best Buy and the Container Store, at a cost of $27 million. In August, Federal opened a $4 million CineArts Theatre, which is currently yielding a profit of 10 percent, says Kayne.

Recently, the center signed an agreement with Brooks Bros. to open a store in the beginning of the second quarter. “We feel it brings that male component to the center, and we want to expand upon that because we feel there is a male contingent here,” says Kayne.

In the end, what made Santana Row a success was what attracted Federal to the project in the first place: a big fat parcel in one of the most affluent areas of the country.

The tech wreck of 2000 and 2001 was a huge blow, but the area's core strength remains intact. “Silicon Valley will always be successful because this arguably is the tech nucleus of America and the world,” says Jon Stansbury, a commercial broker specializing in retail for Terranomics Retail Specialists.

Currently, unemployment in San Jose is about 5.4 percent, says Klein; far below the 6 percent to 7 percent peak during the height of the recession.

The number of CEOs in Silicon Valley who said they would hire new employees in the first two quarter of 2005 was 58 percent. “It's guarded optimism here regarding the economy,” says Klein.

While the Valley still has a high office vacancy rate, about 20 percent in May 2004, rents are dropping to more reasonable levels, encouraging companies to locate there. “We are back on stable footing,” says Stansbury.

During the darkest days of the tech recession, the opening of the center's restaurants helped improve business, Federal officials said. Many of the restaurants at the center opened in the first quarter of 2003.

“We found that the restaurant is a really critical component in terms of driving traffic to the project,” says Kayne. Santana Row has 16 restaurants now operating with one owner looking to open a second eatery at the center.

Federal also made changes of its own to help Santana Row during the economic slump. For one, it gave up its original idea of having only upscale boutiques and brought on big-name traffic drivers such as Crate N' Barrel and the Container Store.

“They initially wanted less dependence on large square footage stores, but the wisdom of including some large anchors was acted on by Federal,” says Klein. “During the recession, people were spending more at the value-added stores.”

Santana Row also seems to have succeeded despite its location across the street from one of Northern California's most profitable retail centers: Westfield's 1.4 million-square-foot Valley Fair Mall. Initially, naysayers said the project was redundant because of its proximity to Valley Fair. At the same time, Westfield was prepared to do battle against the new kid on the block.

First, Westfield extensively remodeled Valley Fair. Then, it ferociously tried to steal away high-end tenants from Santana Row, successfully persuading Tiffany's to open up at its center instead.

“Sure there are certain tenants over there that we would like to have in this property,” says Kayne. “But it also provides a lot of synergy with us.” For example, many shoppers at Valley Fair cross the street to eat at Santana Row's restaurants, says Kayne.

As with many mixed-use centers, the success of the retail is aided by the popularity of its residential units. With an occupancy rate of 98 percent, Santana Row's apartments have found a niche with a young, hip demographic and “urban refugees.”

“The center has successfully targeted and created the younger higher-income demographic as its customer,” says Stansbury. “It's a hip place to be.”

The center creates an urban ambience for the 20-something to 30-something crowd in Silicon Valley, who may not want to be totally immersed in the city environment of nearby San Francisco.

The center's successful retailers have been those who have capitalized on its appeal to the tech-savy, affluent Gen Xers of Silicon Valley.

Retailers, especially, high-end ones, who don't have any product line or marketing effort to tap into this demographic have been less successful.

Considerable retail turnover should be expected in the next 24 months, says Jay Leupp, senior U.S. REIT analyst for RBC Capital Markets. “Some retailers have struggled, although we don't know for sure who is doing well and who isn't,” says Leupp. Federal doesn't release sales figures for Santana Row.

“I expect there will be more residential units in the future,” he says. “You could also see them taking out two retailers and replacing them with a larger retailer.” For example, one large retailer, the Pottery Barn, is reportedly doing very well at the center.

Initial tenant turnover included Mulholland Brothers, which was replaced by Tommy Bahama subsidiary Indigo Palms, Fiona and Cou, a jewelry store.

“As Santana really comes into its own, tenant turnover gives us an opportunity to bring retailers that fit in with the demographics better,” says Kayne.

One source, however, says that there has been some concern among high-end tenants about the lack of a luxury anchor.

Federal was supposedly in discussions to bring Neiman Marcus on board, but that attempt fell through, according to the source. Neiman Marcus would not comment on whether they were ever in negotiations with Federal.

As a result of its success recasting Santana Row, Federal now is again talking of doing mixed-use business. “I think it was a common misperception that we were out of mixed-use,” says Blocher. “We are currently involved in a number of mixed-use developments. I think, however, we are undertaking them in a much more risk-adverse way.”

Federal is a development manager for the Rockville Town Center, a mixed-use redevelopment project in Maryland. Federal is expected to buy back 175,000 square feet of retail at the project, which is scheduled to open in 2007.

Federal also wants to expand its presence in select areas. In April, it paid $97 million for the 637,000-square-foot Westgate Mall, four miles from Santana Row.

Federal owns two other developments in the area, the Old Town Center and King's Court in Los Gatos. “If you look at the four properties that we own there, they are all very different,” says Kayne. “We have four types of product in the same market so that if a tenant looks to expand, we have a property to fit their needs.”

It also still has plans for filling out Santana Row.

Future plans call for Federal to spend $58 million to build an additional 256 apartments that will open next year.

The company overall has entitlements to build 1,201 apartments, of which only 511 have been built or proposed. Federal officials also said they are exploring the option of converting the initial 255 rental units into condominiums.

“We are only 82 percent built out,” says Kayne. “We also have the ability to add another 125,000 square feet of retail.” It has not yet been determined when the additional retail will come online, according to Kayne.

The two parcels yet to be developed are also some of the most valuable land at the development, adds Blocher. One is a parcel located in the front of Santana Row along Stevens Creek Boulevard.

The available land is zoned for retail and 200 hotel rooms. The second property at the back of the center can be used for additional retail and residential units.

There's plenty of room to grow.

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