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Regaining its swagger?

At the crossroads of the nation, Chicago has been suffering something of an identity crisis lately. The city that for decades has prided itself on being the biggest and best — it had the world's tallest building, busiest airport and largest airline — has begun to lose its bragging rights. The tallest building is now in Malaysia, the busiest airport is in Atlanta and the biggest airline — American has supplanted United as No. 1 — is based in Fort Worth, Texas.

Dozens of leading corporations have been acquired or moved away, and local critics even are complaining that the renowned Chicago Symphony has been hitting sour notes of late. The embattled municipality has been struggling to stave off a collective gloom, its swaggering capital-of-the-heartland confidence shattered.

All of these setbacks have only set the stage for a comeback already in the making, orchestrated by activist Mayor Richard Daley with real estate as its centerpiece. The metro area is about to embark on its biggest cavalcade of public works projects within memory, pouring billions of dollars into the area economy and spurring massive parallel investment by the private sector over the next decade.

Most of the construction hasn't started yet, and there are still questions about financing and land acquisition to be resolved, but if even half of what public officials are planning gets accomplished, Chicago will doubtless find itself launched on a renewed arc of prosperity.

Airports are a major preoccupation in the region right now. Mayor Daley is lobbying for a $6 billion expansion of O'Hare International Airport that would add runways and terminals and boost capacity — a project that experts estimate could add as many as 200,000 jobs and $26 billion annually to the local economy.

Meanwhile, Gov. George Ryan is proposing a new airport, in the south suburb of Peotone on what is now a vast expanse of empty farmland. Not to be outdone, the city's other major airport, Midway, is in the midst of a $1 billion makeover that includes a new terminal and parking garage, as well as other improvements.

The debate over O'Hare vs. Peotone is expected to be settled by the end of the year, with serious planning and perhaps even site work ready to start in 2002. Handicappers predict it's likely that Daley and Ryan both will get much of what they want. If Peotone is built, it could transform the blighted south suburbs, which have suffered from a decline in steel and other heavy industries, into a powerful destination for business.

And that's not all. Plans have been approved for an $800 million expansion of McCormick Place, which will add 800,000 sq. ft. to the 2.2 million sq. ft. facility, and cement its position as the country's largest convention center. Mayor Daley, who helped push through the McCormick funding plan, also was instrumental in getting the state Legislature to back public assistance for a $600 million modernization of Soldier Field, home of the Chicago Bears of the National Football League.

Elsewhere, U.S. House Speaker Dennis Hastert, whose district encompasses the western suburbs of Chicago, has sponsored federal funding to support plans for a sprawling new high-technology corporate park on some 900 acres adjacent to DuPage Airport in West Chicago. He also is backing a new “outerbelt” freeway that would connect interstates 80 and 90 at the exurban western edge of the metro area.

It would be the first expressway built anywhere around Chicago in more than a decade, although land acquisition is expected to be so complicated that the start of construction might be as far off as eight years. Speculators with an eye cocked toward the future are already buying up tracts of land around the suburban periphery, confident that a new freeway will touch off a fresh corridor of commercial development.

Of course, public investment spurs private developers to step up and spend. This past summer, Donald Trump announced that he will enter the Chicago marketplace for the first time, partnering on a proposed 2.4 million sq. ft. mixed-used project at 401 N. Wabash Ave. — just a block from the tony Michigan Avenue shopping district — on the site of the current headquarters of the Chicago Sun-Times newspaper, which also is participating in the deal. Trump originally suggested he may try to reclaim the title of the world's tallest building — Sears Tower was No. 1 until about five years ago — for Chicago with his new project. However, in the aftermath of the Sept. 11 terrorist attacks on the World Trade Center, Trump reportedly has reconsidered and does not want to build such a tall skyscraper.

Long-standing corporate anchors such as oil giant Amoco Corp. have been swallowed by bigger merger partners, leaving Chicago with a worrisome shortage of Fortune 500-quality office tenants. But the out-of-town migration reversed itself in May with the decision by Boeing Co. to move its headquarters from Seattle to a 250,000 sq. ft. space in the 100 N. Riverside building located at the west edge of the Loop.

The move will add 400 new jobs to the local economy, but more importantly it has reignited confidence that Chicago — which won the Boeing bid over rival cities Denver and Dallas by agreeing to $53 million in public incentives — is a desirable place to live and work.

Economists, in fact, believe that Chicago is essentially healthy and, in such sectors as the healthcare corridor on the North Shore, even robust. “In earlier times, people imagined Chicago and its environs around the Midwest as the Rust Belt, but not anymore. There has been a dramatic transformation of our business base here,” said Sheldon W. Stahl, an economist and director of the Center for Business Development at Aurora University in Aurora. “Our strength is in our diversity.”

Which isn't to say that local developers are all singing happy tunes lately. Indeed, there are troublesome clouds lingering over parts of the landscape. Over the past two years, park district and forest preserve officials have suddenly gone mad for open-space preservation, floating bond issues of $70 million and more to fund the acquisition of some of the most desirable development sites left before properties can be built on them.

Many cities are imposing sharply higher impact fees, assessing developers for the roads and schools required to serve their developments. Meanwhile, a campaign by Mayor Daley to plant trees on city parkways in recent years has stripped local nurseries of most of their arboreal stock. Frustrated contractors are going as far away as Pennsylvania to find the maples and lindens they need for landscaping around offices and even retail stores.

Office: Slowing but solid

It's no surprise, given the economy, that vacancy rates are rising in both Chicago and the suburbs. Yet the increases have been modest and manageable, experts say. Nobody is predicting a return to the sorry state of the local office market a decade ago, when vacancies in some sectors reached 20% or more.

“Lease-up periods are stretching out longer now,” said Marilyn Lissner, a senior director in the brokerage division at the suburban Chicago office of New York-based Cushman & Wakefield. “The foundation of the market here is still solid, however. Development has been more restrained because developers have learned from the past. They are more careful now. We're not in any real jeopardy.”

In the 116.6 million sq. ft. downtown office market, Cushman & Wakefield pegged the overall vacancy rate, subleases included, at 10.2% at the end of the second quarter, up from 10% in the first quarter and 9.1% in second-quarter 2000. Slowing leasing activity — about 5 million sq. ft. in the first half of this year, down 35% from the same period last year — received much of the blame for the vacancy increase.

Many brokers hadn't counted on a surge in sublease space dumped on the market — 2.6 million sq. ft. was available at the end of the second quarter, up 75% from a year earlier, according to Cushman & Wakefield. Some 1.3 million sq. ft. of that total is in Class-B buildings.

Savvy investors often are ready to pounce at such moments. In mid-July, the billionaire Marvin Davis shook up the local market with the revelation that he had a contract to acquire the 50-story skyscraper at 181 W. Madison for $239 million from Tokyo-based Yasuda Mutual Life Insurance Co. The Los Angeles-based Davis is paying some $255 per sq. ft., ranking the transaction as one of the most expensive in Chicago's central business district (CBD) over the past decade.

In making the deal, Davis reportedly outbid such rivals as Toronto-based TrizecHahn Corp. and Chicagoan Paul Beitler, the original co-developer in 1989. The building is 99% leased, and it's expected that Davis will earn a modest capitalization rate of 8% on the deal.

Also, the 1.02 million sq. ft. Two Illinois Center in the East Loop was purchased for $173.5 million by Jackson, Miss.-based Parkway Properties. And the 844,000 sq. ft. Quaker Tower in the River North neighborhood was purchased for $133.5 million by a partnership of Houston-based Hines Interests and New York-based JPMorgan Chase.

A parade of new construction will open downtown over the next year with mixed prospects. One North Wacker, a project that locally based John Buck Co. and New York-based Lend Lease Real Estate Investments are developing, is due to deliver with nearly all of its 1.7 million sq. ft. leased. On the other hand, the 527,000 sq. ft. Congress Center reportedly was still completely vacant in July even though it is scheduled to be delivered by December.

Overall, New York-based Julien J. Studley Inc. calculates that nearly 4.5 million sq. ft. in office space is under construction downtown and scheduled to come on line within 24 months. The firm predicts that the new space could depress rents by 10% to 15% over the next year.

Michael Duncan, a managing director at Chicago-based CSFB Realty Corp., reports that most new Class-A buildings are asking for rents approaching $30 per sq. ft. on a net basis. “Considering the new space coming to the market, we could see the downtown office vacancy rate rising to 12% or 13% by 2004,” Duncan said. “If that happens, then you might see a slippage in some lease rates of $2 to $4 per sq. ft. Rates obviously aren't going to collapse. But unless the economy gets a lot better and demand increases, I don't see much possibility of any upside in lease rates in the near future.”

In the suburbs, according to Cushman & Wakefield, the overall vacancy rate surged from 12.6% at year-end 2000 to 15.5% at mid-year 2001. The Oak Brook submarket had a Class-A vacancy rate of 17.4%, but rents nevertheless rose a dollar to $25.34 per sq. ft. on a net basis from the end of 2000, fueled by 430,000 sq. ft. in new leasing activity in the first half of this year — the best performance for any submarket during the period.

“We're seeing a softening,” affirmed Terry Mostrom, senior managing director of Studley. “I'm hearing about landlords offering free rent — in the ballpark of a year free on a 10-year deal. I haven't seen that since 1993. It's not nearly as radical as 1991 and 1992, however, when we were getting four years of net free rent on 10-year deals.”

Industrial: Rising vacancies

The Chicago industrial market, at nearly 1 billion square feet, is by most measures the largest in the nation. But it has been shrinking on some fronts as older facilities are closed and converted to other uses. Earlier this year, for instance, a 300,000 sq. ft. manufacturing plant in Morton Grove that was once occupied by Santa Clara, Calif.-based 3 Com Corp. was sold to the Menards Inc., an Eau Claire, Wis.-based home improvement chain. Menards plans to open a 161,000 sq. ft. store along with parking on the 22-acre site.

Also, Brach's Confectioners Inc. announced plans early this year to shut down its 2.2 million sq. ft. plant on Chicago's West Side in phases over the next three years. The company, reflecting a wave of local candymakers that have moved operations offshore in search of cheaper labor, said it doesn't know what it will do with its 13-building complex, but many observers believe that it will be difficult to find another industrial tenant to take the site. Redevelopment for a different use seems likely.

At the same time, big deals are still being hatched. Housewares distributor Pampered Chef Ltd. has begun work on a new 780,000 sq. ft. headquarters/warehouse in Addison after rejecting proposals to move to Wisconsin, where utilities and labor rates are cheaper. The new building, which Atlanta-based IDI will develop, is scheduled for completion in second-quarter 2002. The site was assembled from more than two dozen different property owners.

“Wisconsin would have cost Pampered Chef less, but it doesn't have the supply of labor and the transportation network that suburban Chicago has,” asserted John Berley, Addison's director of community development.

One of the emerging industrial sectors has been the Interstate 88 corridor between Naperville and Aurora, where a half-dozen corporate parks are under development. In this area, HSA Commercial Real Estate, Chicago, acquired a 20-acre site with plans to erect a 400,000 sq. ft. distribution center that will be expandable to 900,000 sq. ft.

There is a shortage of good, marketable industrial space around O'Hare Airport. Thus, the news that Chicago-based CenterPoint Properties Trust — the city's biggest industrial landlord — had won a contract to build an 800,000 sq. ft. air freight facility on the north side of the airport was greeted with much enthusiasm. The City of Chicago gave the project a boost by agreeing to issue $50 million in tax-exempt bonds to finance construction, which is expected to start in October.

As the O'Hare market has become overcrowded, many industrial tenants have begun looking toward the wide-open spaces of southwest suburban Will County as an alternative. For example, Chicago-based Learning Curve International Inc., a distributor of children's merchandise, recently decided to move from its 125,000 sq. ft. location in Elk Grove Village to a new 325,000 sq. ft. facility in the Remington Lakes Business Park in Bolingbrook. Englewood, Colo.-based Corum Real Estate Group owns the park. “Corum chose to develop this property due to its ideal location along the rapidly growing Interstate 55 corridor,” explained David Bercu, a Corum principal.

The Interstate 80 corridor also is emerging. Ryan Cos., based in Minneapolis, has begun development of its 352-acre Laraway Crossings Business Park in Joliet, near the strategic intersection of interstates 80 and 53. All around the suburbs, merchant power plants are suddenly in vogue, too. Libertyville and Woodstock turned away power plant proposals, but Aurora has one operating on its far east side.

Round Lake told Buffalo Grove, Ill.-based Indeck Energy Services Inc. that it would welcome a 300-megawatt, $100 million plant on a 10-acre site in the town's industrial park. The caveat: Indeck would have to pay a steep $400,000 per year for its ground lease.

The overall industrial vacancy rate in metro Chicago, according to Los Angeles-based CB Richard Ellis, stood at 8.7% at the close of the second quarter, up from 7% a year earlier. In northern DuPage County, an older submarket, the vacancy rate was particularly high at 15.4%.

The lowest vacancy rates were in Cook County at 6.2%, and in the south suburbs, at 6.5%. A mere 4.7 million sq. ft. of new construction commenced during the first half, down from 8.1 million sq. ft. in the first six months of 2000.

Retail: Too many stores?

Old-style retailers such as Plano, Texas-based J.C. Penney Co. Inc. have closed dozens of stores around Chicago this year. No matter — there seems to be no shortage of willing replacements ready to step in. For instance, when the JCPenney store at the Charlestowne Mall in St. Charles closed over the summer, a Von Maur department store quickly took its place. Based in Davenport, Iowa, Von Maur is also planning a branch store in Glenview to supplement its older anchor store in Lombard. The company is an oddity, that rare department store that is still in a growth mode. Rivals Marshall Field's and Carson Pirie Scott have largely shut down expansion efforts around Chicago.

Most observers insist that metro Chicago is overstored, but that hasn't stopped developers from planning additional shopping centers. Roseland, N.J.-based Chelsea Property Group is proposing an outlet shopping mall encompassing 443,000 sq. ft. at a cost of $80 million in Aurora.

The announcement surprised local officials because the outlet shopping segment has been generally depressed. A more powerful rival, Arlington, Va.-based Mills Corp., had given up on a plan to build a similar center on Aurora's west side a year ago after it failed to garner interest from tenants. Chelsea vows to press ahead with its project anyway.

The so-called lifestyle center is suddenly the rage around Chicago. One has opened in Deer Park, another has been approved in Orland Park and a third was recently given the green light in Geneva. The latter project will have 275,000 sq. ft. spread over 26 acres. A partnership that includes Cincinnati-based Jeffrey R. Anderson Real Estate Inc. and The Jaffe Cos., Chicago, is developing the project.

Grocery and gasoline combos are another hot concept. Supermarkets and convenience stores around the suburbs are rushing to carve retail gas islands out of their parking lots. “It's hard to fit gasoline onto existing store sites,” said Michael Bell, president of Chicago-based Pentad Realty Inc. “But in the future you'll see grocers and other retailers taking bigger sites to accommodate gas pumps.”

Meanwhile, store closings are hitting some of the region's older malls. The Randhurst Shopping Center in Mount Prospect, the second enclosed mall built in metro Chicago, took a double-barreled blow earlier this year when two of its four anchors, JCPenney and Wards, both closed, leaving a 400,000 sq. ft. hole in the 1.4 million sq. ft. complex. No replacement tenants have popped into view so far.

The timing was bad for the owner of the center, Columbia, Md.-based Rouse Co., which is trying to sell the property. Rouse subsequently sued JCPenney, claiming that an operating covenant prohibits the chain from closing.

Elsewhere, landlords have had to be creative, looking for non-retail tenants to fill older spaces. When a Wards store closed in St. Charles, its space was taken over by the Kane County Clerk and turned into government offices.

As with other sectors, retail vacancies are on the rise. CB Richard Ellis reported an area-wide vacancy rate of 9.4% at the end of the second quarter, up from 7.3% a year earlier. In unanchored strip centers, vacancies rose to 14.6% from 12.5%.

CB Richard Ellis said 3.8 million sq. ft. in new shopping center space was under construction, down from 4.9 million sq. ft. a year ago. David Bossy, a principal with Oakbrook Terrace, Ill.-based MidAmerica Real Estate Group, forecasts continued new construction.

Hotels: New construction stalls

A spurt in new hotel construction appears to be running out of gas in both the city and suburbs. Ted Mandigo, president of Elmhurst, Ill.-based T.R. Mandigo & Co., a consulting firm, reports that 28 limited-service hotel properties were built between 1997 and 2000. Only two have gone up this year, however, in the face of declining occupancies.

For the first six months of this year, metro-wide occupancies dropped to 62.9% from 68.1% last year, according to Hendersonville, Tenn.-based Smith Travel Research. The average downtown room rate slipped to $149.71 per night from $150.24 per night, despite the opening this year of three high-end properties in and around Michigan Avenue — the 339-room Peninsula, the 311-room Le Meridien, and the 203-room Park Hyatt. Rampant discounting was apparent from the start. The Peninsula initially advertised rates of $350 but was selling rooms for less than $200 in early summer when it opened.

More new hotels are coming on line downtown. The 455-room Embassy Suites opened in late summer while a 415-room Sofitel is due to open next year. There are proposals to convert several older office towers into hotels, including the Carbon and Carbide Building at 230 N. Michigan, which is envisioned as a 400-room Radisson.

Are there enough travelers to fill all these new inns? Mandigo isn't sure. “The convention business is down in Chicago this year, and that's a big factor in the market,” he said. “Chicago is more fully built out with hotels than most other cities. We'll probably see the major hotel construction wrapping up soon, followed by a slower period.”

Suburban hotel projects are contingent to some extent on the approval of a new casino in Rosemont adjacent to O'Hare Airport. An investor group aiming to build an Emerald Casino was turned down by state officials, but its plan may yet be resurrected with new backing. If the gambling facility gets the green light, then Chicago-based Rezmar Corp. is poised to proceed with plans for a 200-room Embassy Suites while Jupiter Realty Corp., also based in Chicago, hopes to proceed on a 450-room Omni. A 350-room Marriott also has been proposed. If all three are built, Rosemont would gain 1,000 new hotel rooms, bringing its total to approximately 7,000.

Quiet on the apartment front

The soft economy notwithstanding, the demand for residential units in Chicago's downtown has continued to rise. However, the overwhelming majority of that demand centers on condominiums, not rental units. Some 6,760 residential units — condos and apartments — spread among 69 projects have either been announced or will be delivered this year, according to Chicago-based Appraisal Research Counselors. That figure represents an all-time record and a big jump from the 2000 total of 5,390 units.

However, apartment construction remains weak. Only 254 rental units will deliver downtown this year, according to Appraisal Research. Ordinarily an office and retail developer, John Buck Co. has acquired a former taxicab repair center at 1708 S. Indiana and plans to replace it with a 7-story, 192-unit apartment building, with rents slated to range between $1,500 and $2,200 per month.

Apartment construction has been difficult for several years in the suburbs, as many small towns have turned hostile to that property type. Donald Smith, chairman and CEO of Jupiter Realty Corp., noted that Schaumburg and Oak Brook have largely closed their doors to apartment developers.

“Our company builds apartments in a dozen metro areas around the United States, and Chicago is the toughest place to get zoning and approvals,” Smith said.

Jupiter has rented 60% of the 264 units it built during the second phase of construction at The Meadows complex in Lakemoor in western Lake County, according to the company. “The market has been a little softer than we'd like, though the lease-up has been steady,” Smith said.

Even if new apartment development is difficult, the marketplace has been kind to existing landlords. Cydney White, vice president of asset management at Chicago-based Equity Residential Properties Trust, reports that occupancies in the overall metro market are running at about 95%. On average, rent pricing has risen 4% in the suburbs this year and 5% downtown.

In a move that took many by surprise, Equity Residential announced in September that it would begin to experiment with condo conversions at some of its apartment properties, including the sprawling 1,500-unit Four Lakes Village complex it owns in Lisle. Some 50 properties out of the company's portfolio of 1,080 apartment properties are likely to face condo conversion within the next five years, the company said.

“Acquisitions of new apartment properties in Chicago are tough right now,” White said. “Prices are very high. We've looked at a number of deals, but we've been outbid.”

H. Lee Murphy is a Geneva, Ill.-based writer.

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