Washington is America’s Top State for Business in 2017

Washington is America’s Top State for Business in 2017

  • Washington’s economy grew 3.7% in 2016, nearly two and a half times the national rate.
  • The nation’s largest concentration of STEM (science, technology, engineering, and math) workers reside in Washington state.
  • Washington state follows California in the most patents filed last year.
  • Washington state has no income or corporate income tax, but wages and rent are among the highest in the United States.
Washington is CNBC's Top State for Business

With the nation’s fastest-growing economy and an all-star business roster of household names and up-and-comers, Washington — the Evergreen State — soars above the competition as America’s Top State for Business in 2017.

The home of Amazon and Costco, Boeing and Expedia, as well as rising stars like Adaptive Biotechnologies, online marketplace OfferUp and space company Blue Origin, Washington has the old and new economies covered — as well as pretty much everything in between.

But the success story does not end there. At a time when the best workforce rules, Washington boasts the nation’s largest concentration of STEM (science, technology, education, and math) workers. Nearly 1 in every 10 Washington workers is in those professions, according to the U.S. Bureau of Labor Statistics. The University of Washington’s computer science school — recently named for one of the state’s most famous natives, Microsoft co-founder Paul Allen — is world class. There is no brain drain here; no state does better at hanging on to its college graduates. And the state is consistently a magnet for investment capital. Washington businesses attracted nearly $1.6 billion in venture capital last year, the sixth-highest total in the nation.

Washington climbs to the top of our rankings this year with 1,621 out of 2,500 points, including top 10 finishes in five of our 10 categories of competitiveness. As always, we score all 50 states using 66 metrics across those 10 categories. Using our tried-and-true methodology, we assign a weight to each category based on how frequently the states use them as selling points in their economic development marketing pitches.

This year’s categories and point totals are:

  • Workforce: 425 points
  • Infrastructure: 400 points
  • Cost of Doing Business: 350 points
  • Economy: 300 points
  • Quality of Life: 300 points
  • Technology & Innovation: 225 points
  • Education: 200
  • Business Friendliness: 150 points
  • Access to Capital: 100 points
  • Cost of Living: 50 points

Washington’s first-place finish culminates a steady ascent since the state first cracked our top 10 in 2014 — the same year the Seattle Seahawks won their first and only Super Bowl. Also that year, Gov. Jay Inslee told legislators, “Washington’s outstanding workforce is our state’s greatest asset.”

Since then, that workforce has been outdoing itself.

Washington’s economy grew 3.7 percent in 2016, the largest increase of any state and nearly two and a half times the national rate. That, along with solid job growth and one of the hottest housing markets in the country, wins the state a No. 3 finish in our Economy category.

Washington also finishes No. 3 in Technology & Innovation. Only Californians received more patents last year, and Washington institutions were among the largest recipients of medical research grants. All those smart workers help the state finish No. 5 in the important Workforce category. The state also finishes No. 5 for Quality of Life and No. 8 for Access to Capital.

Education a sore spot

But all is not perfect here. The state is under orders from its own supreme court to adequately fund its 19th-ranked education system. The state has been paying fines of $100,000 per day for every day without a plan that complies with the state constitution. The fines began in 2015.

Washington is also notoriously expensive. Even though the state has no individual or corporate income tax, it finishes No. 37 for Cost of Living and No. 32 for Cost of Doing Business. With the average worker earning $26.83 an hour, according to the U.S. Bureau of Labor Statistics, Washington wages are the eighth highest in the country. And with office space going for more than $26 per square foot, according to the CoStar Group, rent is the sixth highest.

In the increasingly important Infrastructure category, Washington lands in 32nd place. Two-thirds of the state’s roads are in mediocre or poor condition, according to the U.S. Department of Transportation.

All of the failings prove that despite Washington’s strong competitive position, it is not immune to the polarization gripping the rest of the country. The state government in Washington is about as divided as can be. Gov. Inslee is a Democrat, and Democrats narrowly control the House of Representatives, 50–48. But Republicans control the state Senate by a single vote, 25–24. No wonder that it took three special sessions for Gov. Inslee and the legislature to reach an agreement on a new budget, narrowly averting a government shutdown on July 1. The new budget relies primarily on higher property taxes to increase school funding, raising more than $7 billion over four years and, the legislature hopes, finally complying with the Supreme Court order.

An even bigger concern for the state is whether the recent pace of growth is sustainable. The state’s largest employer, Boeing, has cut more than 8,400 jobs in Washington in the past year. That has prompted “I told you so’s” from critics of the generous subsidies the state has provided the company, as well as broader concerns about whether Washington’s competitive position has peaked.

A rise to the  top

Our 2017 field of Top States is our most competitive since we began ranking the states more than a decade ago. Washington outranks its nearest competitor by a mere five points. And second-place Georgia outscores third-place Minnesota by a single point.

Georgia and Minnesota illustrate a running theme in our study year after year: There is no exclusive path to competitiveness.

Georgia follows a more traditional route, the one typically favored by business, emphasizing lower taxes and fewer regulations. The state has come roaring back from the Great Recession, which hit Georgia hard. Now it has the best all-around economy in the nation, according to our study. But it falls seriously short in two categories that often benefit from more state support: Education, where it finishes No. 33, and Quality of Life, where it finishes No. 28.

By contrast, Minnesota takes the position that you get what you pay for. The North Star State finishes No. 2 for Education and No. 3 for Quality of Life. And the state is no slouch in the Economy category, finishing No. 6 with the help of a solid housing market and strong state finances. But the state finishes No. 36 for Cost of Doing Business and No. 31 for Cost of Living. State taxes — at least as far as the top brackets go — are among the highest in the country.

Minnesota ranks 3rd in America’s Top States for Business  

Culture clash

Our 2017 study marks the first time since our rankings began in 2007 that Texas has fallen below second place, dropping to No. 4 this year. In that sense, it is a remarkable drop for a three-time Top State (2008, 2010 and 2012).

The biggest factor in Texas’ slippage is its economy, which plummets to No. 25 this year from No. 1 last year. And the biggest factor in the Texas economy is the price of oil.

While prices have bounced back somewhat, they are still well off of their 2014 highs and roughly 70 percent below their peak before the 2008 financial crisis. That has led to some difficult budget decisions in Austin. The blow is cushioned somewhat by the state’s strong reserves, a decades-long push to diversify and a tentative return to Texas-style GDP growth at the beginning of 2017.

But Texas gets low marks when it comes to Quality of Life, where it repeats at No. 37 this year. The state has the lowest percentage of people without health insurance—17.1 percent, according to the U.S. Census Bureau—a fact that state policymakers ascribe to personal freedom, but one that affects Texas residents or would-be residents nonetheless.

And despite widespread outcry from business groups, Texas remains 1 of only 5 states with no statewide antidiscrimination protections for non-disabled residents. Inclusiveness counts in our study, where we consider it a factor in Quality of Life. This year’s biennial session of the state Legislature has been marked by multiple proposals aimed at making the state even less inclusive.

Another state without such protections is North Carolina, which finishes No. 5 overall for a second straight year. In the face of a nationwide business backlash, the Tar Heel state this year repealed its so-called bathroom bill, which restricted transgender people’s use of public facilities. But even as it repealed the law, the state affirmed its prohibition of local antidiscrimination ordinances.

Some businesses and events that had boycotted the state over H.B.2 — like the NCAA Men’s Basketball Tournament — decided to return anyway, and North Carolina does improve to No. 28 from No. 30 last year in Quality of Life. But the state remains among the least inclusive in the nation. That partially cancels out some of North Carolina’s big advantages, including its No. 7 Workforce and its No. 6 finish for Technology & Innovation.

Indeed, for the second year in a row, both North Carolina and Texas might have finished at or nearer to the top of our rankings had either state decided to be a bit more welcoming to workers.

Changing state dynamics

This year’s most improved states — a three-way tie — are all in the Northeast, each jumping 10 spots in our overall rankings this year. But beyond the numbers, the stories of Massachusetts, Pennsylvania, and Connecticut are very different.

Massachusetts’ jump lands the Bay State in the Top 10 for the first time since 2011. The state logs solid improvement in Quality of Life (tied for No. 10 vs. No. 17 last year), Economy (No. 14, up from No. 18) and Access to Capital (No. 7, up from No. 19). The state is a perennial leader for Education and Technology & Innovation, but high costs and poor infrastructure ultimately hold Massachusetts back from true Top State status.

Pennsylvania, which moves into the top half at No. 23, posts the best all-around improvement. The Keystone State moves higher in five categories: Workforce (up 8 spots to No. 21), Economy (up 8 spots to No. 34), Education (up 11 spots to No. 10), Business Friendliness (up 7 spots to No. 28) and Access to Capital (up 7 spots to No. 5). It is the state’s best overall ranking in six years.

Connecticut’s 10-place move takes it out of the bottom 10, but the Constitution State still finishes a disappointing 33rd. Connecticut owes much of its improvement to a big jump in its Education ranking, climbing to No. 3 from No. 18, due largely to better high school test scores. But the state is in a budget crisis, with school funding a central issue as Gov. Dannel Malloy seeks to overhaul the state formula to redistribute money to districts in need. Meanwhile, Connecticut does poorly in Infrastructure (No. 47), Cost of Doing Business (No. 43) and Cost of Living (No. 45). With a number of high-profile companies leaving or thinking of leaving the state, a No. 33 finish in our Top States rankings is what passes for good news in Connecticut these days.

The biggest move in the other direction is Wyoming, which plunges 14 spots to No. 27 after the state’s resource-rich economy practically ground to a halt last year amid low commodity prices.

That also helps explain a new Bottom State for 2017. Suffocating under the weight of declining coal production, West Virginia falls to No. 50 from No. 47 last year. Other states bringing up the rear are No. 46 Maine, No. 47 Alaska, No. 48 Mississippi and No. 49. Hawaii.

Notice something missing from the bottom five? That would be Rhode Island — just barely. The state is still something of a mess, with high taxes, sky-high utility bills, and America’s worst infrastructure. But efforts by the Ocean State to improve itself are paying off in a stronger economy. Rhode Island’s 45th-place finish is the best it has ever done in our study.

Full Article Can Be Found Here!

Slowdown in Rent Growth Cools Portland Apt. Investment Levels

CoStar Market Insights: Slowdown in Rent Growth Cools Portland Apt. Investment Levels

June 7, 2017

Jared Kadry is a Market Analyst with CoStar Market Analytics.
Jared Kadry is a Market Analyst with CoStar Market Analytics.

Introducing CoStar Market Insights: a new feature providing a snapshot of recent real estate trends in your market. The CoStar Market Analytics team monitors commercial and multifamily real estate across 206 metro areas, with a granular understanding of the projects, players and economic trends that move these markets.

Slowdown in Rent Growth Cools Apt. Sales

Institutional and local investors alike had the Rose City on their radars earlier in this cycle, mostly due to the strong apartment fundamentals and robust rent growth, but high yields Class A and B properties have mostly become a thing of the past.

Annual multifamily sales volume in 2016 marked a cycle high and cap rates for 4 & 5 Star product were some of the tightest on record. However, sales volume in 2017 is on pace to be much lower than last year’s, with first quarter volume amounting to about half of the apartment sales from first quarter 2016. Much of this can be attributed to external factors such as interest rate hikes, but local trends such as the significant slowdown in rent growth have also caught the attention of investors.

Portland enjoyed the strongest apartment rent growth among US markets in 2015, but has decelerated significantly over the last two years due to supply-driven vacancies, especially in the urban core.

Despite this slowdown, multifamily remains the preferred asset type in Portland for investors, with office being a distant second at around half the sales volume in 2016.

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Although Sales Volume Falls, Pricing Still Moving Up

Somewhat surprisingly given the slowdown in sales, pricing for apartment properties is still on the rise in Portland. In Goose Hollow, Liberty Mutual and Security Properties formed a joint-venture and paid $47.5 million ($355,000/unit), at a 4.3% cap rate, for the 134-unit Modera Goose Hollow complex. Mill Creek Residential developed the property in 2015 and sold it shortly after it was stabilized.

Foreign investment has also made its way to the region. In December 2016, Thai-based Land and Houses paid $127 million ($446,000/unit), at a 3.8% cap rate, for the newly built YARD in Kerns. The property was reportedly less than 50% occupied when sold, highly unusual for such an expensive deal.

Multifamily investment activity over the last year has been concentrated in Portland’s suburban areas, especially the Sunset Corridor and Vancouver. The nearby Hillsboro market has also experienced high levels of institutional investment volume thanks to a few large trades, and Vancouver has seen a good mix of local and institutional players.

In the region’s largest multifamily property sale over the last 12 months, Invesco and Holland Partner Group combined to pay $140 million ($247,000/unit), at a 4% cap rate, for the 566-unit LaSalle Apartments in Beaverton in November 2016. The asset was reportedly 95% occupied when sold and is a great example of how tight cap rates are not unique to the urban core.

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Mark McCloud | Investment Broker

Meet our Newest Broker!

Mark McCloud comes to Coldwell Banker Commercial Jenkins & Associates with 45 years in residential real estate in the Clark County area. He looks to expand his horizons to Investment Properties.

He began his real estate career in Vancouver/Clark County with Whitfield-Bernhardt, Inc. – widely recognized at the time as the premier company in this market. CBC Jenkins & Associates stems from Whitfield-Bernhardt, Inc. as well. Mark progressed from being a broker to branch manager and eventually the owner/designated broker of his own company.

Mark is a Certified Real Estate Instructor by the State of Washington Department of Licensing-Real Estate Division. His professional memberships include the National Association of Realtors (NAR), Washington Association of Realtors (WAR), and the Clark County Association of Realtors (CCAR). In addition, he has achieved numerous professional designations, earned many awards, and has been active as a community volunteer as well as serving on industry committees and boards of directors, including:
– Board of Directors – CCAR
– Grievance Committee – CCAR
– Professional Standards Committee – CCAR
– Board of Directors – Multiple Listing Service
– City of Vancouver:
Downtown Parking Advisory Committee
– Clark County Commissioners:
Mental Health Advisory Committee
Landfill Siting Advisory Committee
– Youth Basketball and Baseball Coach

As a commercial real estate investor himself, Mark is excited to be part of Coldwell Banker Commercial Jenkins & Associates, a firm which is consistently an Elite firm with Coldwell Banker commercial.

Whether it’s throughout the Pacific Northwest, across the nation, or anywhere in the world – Mark and the entire team of professionals at CBC can assist you with any and all of your real estate needs.

Eight Economists Offer Investment Advice for 2017

Despite rising interest rates and a slowdown in price growth on commercial real estate assets, there are still opportunities in the market for astute investors. We asked eight real estate economists and researchers their advice for today’s commercial real estate investors.

Hessam Nadji, president and CEO, Marcus & Millichap

“We are in a window of time that offers an opportunity for investors—it is also a window for sellers. Rising interest rates and a wait-and-see stance regarding tax reform, regulatory easing and infrastructure spending proposed by the Trump Administration have created a pause in the marketplace. These factors are resulting in an exaggerated slowdown in commercial property sales. Sales declined in the fourth quarter of 2016 by approximately 15 percent and have slowed further in the first quarter of 2017. I say that the slowdown is exaggerated because we have healthy property fundamentals and rising rents in most property types and less leveraging in this cycle. On the lending front, as interest rates went up in the fourth quarter, lender spreads came in and absorbed the impact to a large degree. As interest rates keep climbing, there will be less margin for spreads to tighten further and borrowing costs will go up, but they are expected to do so in line with job and rent growth. We don’t anticipate seeing the interest rate spike that we saw in the fourth quarter, which was tied to the presidential election outcome.”

Jim Costello, senior vice president, Real Capital Analytics

“Make sure you can back up your underwriting assumptions. Those assumptions in place the last few years—using modest income growth, easily accessible debt, low interest rates—those aspects are changing. Deal volume is down so far this year. Buyers are looking at rate changes and cost of debt and [are] not willing to pay—sellers saw assets go for high prices last year. Sellers are not feeling pressured to sell right now, especially if they have cash-flowing assets. Now we are at an impasse.”

Peter Muoio, chief economist, Ten-X

“For multifamily, one investment theme is to look to the post-housing bust markets. They were slow to recover economically and demographically, but this also held back development. Now they are growing robustly, but have tame supply pipelines so the outlook for fundamentals is good.

Gateway cities, particularly New York and San Francisco, have a good deal of development coming on-line and are going through digestion issues.But investors with long-term capital may want to take advantage of any near-term dislocations in these markets.

For office investment, head west. The non-Bay Area markets on the West Coast are ‘Goldilocks markets’—they have healthy economies and good demand, but not too much supply.

In retail, ‘demographics is destiny.’ We are seeing better opportunity in the Southeast, Southwest and West than in the North and Northeast because the population is growing faster there, helping to offset the multiple headwinds brick-and-mortar retailers are facing.

The Las Vegas hospitality segment looks good now because travel is up, but the long workout from the over-building of the last cycle and the sharp drop in visitors during the Great Recession has constrained development. Miami, New York City, the Bay Area and Seattle are dealing with excess hotel supply situations, as a substantial number of rooms are coming on-line. These are also the markets seeing more competitive threat from Airbnb. They are also more vulnerable to slowing foreign travel to the U.S., owing to the strong dollar, weak economies abroad and declines in bookings since the election because the U.S. is perceived as less welcoming.”

Kevin J. Thorpe, chief economist and global head of research, Cushman & Wakefield

“More often than not, a gradual rise in interest rates signals that stronger NOI growth is right around the corner. The Fed is raising rates, in part because they see a stronger economic trajectory is forming. A stronger trajectory means stronger leasing fundamentals (strong demand for space, occupancy gains, rent gains, more free-flowing debt). Build-to-core strategies, redevelopment projects and value-add are likely to benefit the most from the stronger growth scenario and offer higher yielding opportunities. Markets that have strong employment growth and low levels of construction are also attractive.

Don’t fight aggressive foreign capital for core assets. Instead, take advantage by selling some core assets at a premium price and reinvest in other geographies/product types where new construction is limited and where foreign capital is less likely to go (yet), such as: most secondary markets (all product types), suburban office in most markets, smaller warehouses along the supply chain, most niche product types (e.g. data centers, medical office). Those investments offer more upside and less competition from foreign capital. A corollary is that as more investors are ‘pushed’ into different markets and strategies, liquidity will improve creating the potential for a virtuous cycle.”

Robert Bach, director of research—Americas, Newmark Grubb Knight Frank

“The investment cycle has toned down a bit from the peak year of 2015. Sales volume is a bit soft at the start of 2017, but pricing has softened only a little. The yield curve suggests the next recession is at least a year down the road, and probably longer. The Federal Reserve has penciled in two more rate increases this year, meaning that rates will remain low by historic standards. The labor market is hot, but overall growth, as measured by GDP, is unlikely to reach the Trump administration’s informal goal of 3 percent. It may be closer to 2 percent this year. Add it all up and you get an investment cycle that is in its latter innings, but the innings are long and drawn out. Industrial and medical office assets are among the solid performers that can produce good returns now and will have staying power through the next downturn. Gateway cities are pricey, but the next tier of markets—traditional growth markets such as Dallas and Atlanta, along with Millennial magnets such as Nashville, Denver and Portland—will hold up well.”

Sam Chandan, founder of Chandan Economics

“Conceding the uncertainty in the magnitude and exact timing of long-term rate increases, we cannot dismiss the impact of higher risk-free yields on the performance of real assets. Nor can we ignore the longevity of this economic expansion and the likelihood of a contraction before monetary policy normalizes fully.

Investors and lenders should be careful of overly general assessments of price responses to changes in interest rates. Depending on a range of factors, including the density of investors and lenders in a particular location and market segment, adjustments in cap rates and debt yields will not be uniform.

Constraints on timing are crucial for investors when making investment decisions in this environment. Investors with defined time horizons and hard exit requirements for their funds should be cautious in navigating secondary markets. Having to exit at the bottom of a cycle in locations that exhibit severe liquidity constraints during the cycle’s trough will exacerbate losses.”

Barbara Byrne Denham and Victor Calanog, economists at Reis Inc.

“Few would argue that there is more uncertainty plaguing the market today than there was a year ago, although things always look better in retrospect. At this point in 2016, there were tremendous concerns centered around the oil markets and accompanying stock declines, yet the S&P 500 has climbed 14.8 percent from one year ago—who would have predicted? As for commercial real estate, apartment rents are up over 3 percent this year and office rents are up 2 percent. Yes, the landscape is bumpy across the U.S., with some metros outpacing others. Investors would be wise to look to the apartment and office markets in those markets with strongest job growth, including Dallas, Orlando, Nashville, Atlanta and Jacksonville. Job growth has been positive in nearly every metro with a few showing small losses—namely, Fairfield County, Conn., Tulsa and Milwaukee. The retail sector is still suffering from some major structural shifts, but many neighborhood and community center shopping centers that we track still see positive rent growth, although growth rates have been very low. The industry that has fared the best of late is warehouse/distribution and flex/R&D that have seen tremendous growth from e-commerce. Those on the coasts and in the central parts of the U.S., such as Chicago, have seen the most growth.

In general, we advise that investors look at the fundamentals and not worry as much about the broader macro uncertainties. In this year’s case, the uncertainties stem from the new administration and the mixed reports on how it will proceed with its agenda. It is too soon to make any predictions on much, but the fundamentals are still expected to stay sound as they have over the last few years.”

For the Original Article Click Here

Meet a Broker – Steve Mack

Steve Mack specializes in Investment Property Sales in the Vancouver & Portland Metropolitan areas and also holds the position of Sales Manager for the Coldwell Banker Jenkins & Associates office. With more than 25 years in commercial real estate, he has a proven track record of providing guidance to clients. Steve is experienced in the sale of office buildings, retail shopping centers, Triple Net leased investments, multi-family properties, manufactured home communities, mini-storage facilities and land.

In 2016 Steve had many successful sales some of which include the following;


We are excited to see what Steve has up his sleeve for 2017! Wish Steve a successful year.

Coldwell Banker Commercial helped Pines Coffee get a new location!


Pines Coffee, currently located off Mill Plain Blvd. & Grand Blvd, is Moving! Coldwell Banker Commercial helped Pines Coffee secure a spot off Mill Plain Blvd. and Garrison Rd. More updates to come but let’s Congratulate Pines Coffee for their new location!

4th Quarter Top Producer – Gordon Lewis

gordon-web Gordon Lewis has been awarded the “4th Quarter Top Producer of 2016” by Coldwell Banker Commercial Jenkins & Associates. Gordon has been a valued broker of CBC since 1986. He specializes in Commercial Land Properties. We thank him for his hard work and dedication to the Company.

Learn more about Gordon Lewis.

View all of Gordon’s Listing’s

2016 Top Producer – Kelly Shea

kelly-and-julie-webflippedKelly Shea has been awarded the “Top Producer of 2016” by Coldwell Banker Commercial Jenkins & Associates. This is the second year in a row that Kelly has won top producer! Kelly has been a valued broker of CBC for over 19 years. He is the top industrial real estate specialist in all of Clark County. We thank him for his hard work and dedication.

Learn more about Kelly Shea.

View all of Kelly’s Listings.

Why is CRE demand Back?

Modern open space office with city view

This is Why Demand in CRE is Back

by SIOR HQ from

More capital investments from foreign investors buying CRE in bulk is spurring the market. This, coupled with low interest rates and increasing valuations, is causing a big uptick in the number of CRE transactions. In fact, for the first three months of last year, big dollar “commercial real estate transactions increased by 45%.” Those numbers, while more volatile over 2016, are still showing positive signs for CRE investors, buyers, and sellers.


Buyers are Looking for the Good Stuff

What was discovered in a survey conducted by Real Capital Analytics is that the strongest demand is for the most highly sought after and desirable commercial real estate properties. The pool of potential investors is much tighter than the general real estate market so buyers are buying multiple properties at once.

Buying multi-million dollar properties in bulk results in enormous discounts for the buyer; causing investors to buy more rapidly throughout the primary and secondary CRE markets. Those looking to invest in the industrial and office sectors are drawn to places like southern California and New York City where sales prices for some of the most prime office space is over 30% higher than it was at the height of the housing boom before the bust in 2008.


Diverse Portfolios Yield Bigger Returns

Keep in mind however, that buying office space or even industrial space alone will not yield high returns. What investors are seeing is that the more diverse portfolios are reaping the biggest rewards. In fact, in Manhattan, an office building will give you a return on investment, but that return has dropped by over 4% over the last year, to the lowest it’s been since before the housing collapse.

That’s one of the reasons why bulk transactions for some of the best commercial real estate are rising so rapidly. Foreign investors make up a large portion of the commercial real estate investment market. They are snapping up properties that, on their own, would not yield a good return, but as part of a group of commercial assets which includes prime office space in downtown San Francisco, for example, will fetch a pretty penny.


Demand for Industrial CRE is Going Up

In a climate where this past January commercial properties sold for more than 15% higher than in the year before totaling close to $140 billion, the idea that demand for industrial space is forecasted to keep going up is welcome news.

Demand in turn is increasing the value of these diverse and often top of the market chunks of commercial real estate. Hotels are surging in conjunction with office space. All predictions point to a continued increase as the number of new construction projects continues to lag behind existing CRE sales.

Original Article Found Here!

Tenant Creditworthiness

Tenant Creditworthiness

Part I: How future tenants’ credit ratings affect leasing.

Most businesses that rely heavily on real estate in their day-to-day operations prefer leasing to ownership for managing their real estate locations. Among the many reasons for this preference are the cost of capital and corporate flexibility.

As a result, investor ownership of real estate leased to businesses represents a large and growing long-term, income-oriented global investment class. These net lease investments allow landlords to be passive recipients of what they expect to be predictable long-term, income-oriented returns.

A common investor perception is that such return predictability can be elevated by investing in real estate leased to high credit quality tenants. In turn, high credit quality companies have responded, offering a bounty of leased real estate to individual and institutional investors estimated to be valued well in excess of $1 trillion.

Just a glimpse of this market shows smaller free-standing properties leased to investment grade companies and held by investors were estimated to have a combined value well north of $500 billion in 2014. To place this $500 billion subset of the broader net lease market into context, this amount is about five times the combined enterprise values of publicly traded U.S. REITs, which invest in such types of leased assets. With such a broad investor demand for real estate leased to high credit quality tenants, it makes sense to examine the degree to which corporate credit metrics govern net lease real estate investment risk.

Dispelling Prejudice

During the past few years, real estate analysts and investors have answered which they would prefer: investing in a store leased to Home Depot or a store leased to an Ashley Furniture licensee. Home Depot wins, hands down.

However, the question is unfair because not enough facts have been provided. Still, the sheer number of people who prefer Home Depot as a tenant shows a prevailing presumption. Most respondents presume that everything else is equal and that all they have to decide on is the preferred tenant. They want the better credit, so they choose Home Depot.

Those who know more about real estate and real estate leasing understand that the leasing playing field is not equal.

Real estate leases are simply contracts that each come with certain landlord rights, and wide diversity exists among net-lease contracts. Of course, tenant credit quality is a key component of lease contract risk, but it is far from the only consideration.

An investment grade company, such as Home Depot, is very likely to pay the rent it owes over the next few years. Investors, however, should concern themselves with more than just the short run. They should pay attention to the ability of the contract to perform well over its entire lifespan, which is often 10 years or longer.

When considering the longer-term risks, various considerations come into play. Foremost is the price a landlord pays for the real estate.

If the asset becomes vacant, how much is the downside risk? It turns out that it is common for real estate occupied by investment grade tenants to sell for considerably more than it costs to create. It also turns out that it is typical for real estate that is leased to investment grade tenants to have rents that are well above those in the local marketplace.

Binding Multiple Tenants

Another issue is the availability of master leases. Master leases are an institutional investor creation and are basically a single lease that binds multiple tenant properties. Their value lies in tenant alignment of interest. Having a single, or master, lease across multiple properties allows for locations to be aggregated. So if a tenant falls on hard times, master leases are more likely than not to prevent tenants from cherry-picking properties or retaining only select locations within a bankruptcy.

That is because tenants generally have to treat a master lease in bankruptcy as a single contract that is not divisible into multiple contracts. Unfortunately, master leases are generally not available from investment grade companies.

In the case of profit-center property, investors should know exactly how profitable the business at each location is to assess this lease-rejection risk. That would be another desirable contract feature: unit-level reporting of profit and loss statements for profit-center properties. Here, it turns out that it is unusual for investment grade tenants to agree to provide unit-level reporting.

The small print in leases is also important. Other contract issues that pertain to investment risk include whether the lease is signed by the tenant or its parent company; lease term (longer is better); the extent of landlord obligations; the ability to shut down the location without landlord consent; assignment rights to ensure the tenant stays liable for the lease obligation; subletting rights to be sure that any subtenants can be easily removed if the lease defaults; condemnation clauses; and environmental risks.

As to the small print, a landlord should know one important fact: it is commonplace for investment grade tenants to write their own leases.

All of a sudden, the Ashley licensee is starting to look a lot better. And then the question comes into clear focus: how important is the credit quality of my tenant, anyway?

Deceiving Statistics

Across the U.S., about 18,500 companies have revenues of more than $300 million. This includes multiple types of companies – from electric utilities to banks, to insurance companies to REITs, and industrial to retail and service companies. Of all of these businesses, only 3,120, or 16.9 percent, were even rated by Standard and Poor’s in 2014.

Investment grade credit ratings start off at BBB- for Standard and Poor’s and Fitch Ratings and at Baa3 for Moody’s. As of 2014, less than half of all of Standard and Poor’s rated U.S. companies had an investment grade rating. The result is that more than 92 percent of companies with more than $300 million in revenues have either no rating or a rating that is below investment grade.

The foremost reason for this big percentage is that approximately 83 percent of large companies elect not to be rated at all. Their choice generally reflects a corporate preference, rather than a reflection of their comparative credit quality. Businesses simply have credit options available that do not require them to have corporate credit ratings.

Of the approximately 1,400 U.S. companies rated investment grade by Standard and Poor’s in 2014, very few made the list of favored investment grade tenants. These tenants are defined as real estate-intensive businesses that employ numerous smaller, free-standing real estate locations.

In fact, Standard and Poor’s rates just 36 such companies and Moody’s rates 33. The highest-rated company today is Walmart, which is rated AA by Standard and Poor’s and Aa2 by Moody’s.

The first question an investor might ask is, “How likely is it that a corporate credit rating will last?” It turns out that corporate credit ratings can be fairly transitory.

Evaluating Probabilities

The Standard and Poor’s 2014 “Annual Global Corporate Default Study and Rating Transitions,” published in 2015, showed significant 10-year credit migrations for nonfinancial companies. The credit migration table is shown in Chart below.


If investors lease an expensive property to an investment grade tenant at a low investment grade tenant type of lease rate, the 10-year credit migration table might give them pause. And if investors look at the list of favored investment grade companies, more than two-thirds of their ratings are in the “BBB” area, where the probability of migration to below investment grade is about 56 percent during 10 years. Now, many leases extend for more than 10 years, which will meaningfully raise the likelihood that the tenant will no longer have an investment grade rating at the conclusion of the primary lease term.

Given that most real estate investors employ seven- to 10-year secured borrowings to acquire properties, tenant credit downgrades can have a definite adverse impact on the ability to refinance these assets.

Most of the downward migration movement across all investment grade ratings is to nonrated status. It is a corporate choice to join the 83 percent of nonrated larger companies. Of course, the credit migration table is a historic table that includes the Great Recession.

I think that in the future, however, migrations are likely to be the same or higher. This is because many investment grade companies are laden with real estate, which subjects them to activist shareholders who would prefer to see them with smaller, more efficient balance sheets.

Also, given that the number of retail and service companies is likely only a small portion of the nonfinancial universe evaluated by Standard and Poor’s, I surmise that the ratings volatility of such companies is likely to be even higher. In the end, public companies are run to benefit their shareholders, not their creditors, and their boards of directors will elect to do what they believe best for shareholders.

Evaluating Credit

The news recently has told me a lot about the notion of tenant credit migration. My career began as a credit analyst, and I have long known that corporate credit can be both volatile and transitory.

Credit quality can change because corporate business models that were once potent become functionally obsolete. Think Circuit City, the once-large appliance and electronics retailer that filed for bankruptcy in November 2008 and then shuttered all of its locations, or Borders Books, which disappeared not long after filing for bankruptcy in November 2011.

Most often, creditworthiness changes because of corporate strategic or capitalization decisions. Leadership simply abandons the credit status quo and opts for a new paradigm.

As is shown in the credit migration tables, most downward migration is comparatively orderly and not due to insolvency. But insolvencies do happen, with most businesses able to reorganize. From the vantage point of landlords and creditors, corporate insolvencies can come on quickly from once-investment grade ratings.

In 1990, Circle K, which was then the nation’s second-largest convenience store chain operating 4,631 stores in 32 states, filed for bankruptcy protection. A few years earlier, I had personally visited the investment grade retailer, which had a preference for leasing its stores.

However, the company declined to share unit-level profitability with landlords or the actual cost to construct its stores. I was told not to concern myself with these details, since the company, which was investment grade, would be fully obligated to make the lease payments. Such lack of transparency ultimately proved harmful to their many landlords.

Later, Kmart, a leading discount retailer, was rated Baa3 by Moody’s, with a stable outlook up to April 2000. Less than two years later in January 2002, the company filed for bankruptcy protection. Kmart emerged from bankruptcy after shedding approximately 300 unprofitable stores.

Unfortunately for the landlords, they had no advance warning, as the leases did not provide them with any unit-level financial reporting. They thought that their rents were being paid by the “credit” (the company).

Discovering Valuable Lessons

In bankruptcy, with unprofitable store leases either rejected or renegotiated, the landlords learned an important lesson. The rents actually came from the profits of the stores that they owned, and the “credit” was only worth something if the tenant was solvent. The landlords would have made far better investment decisions if they had understood the profitability of the stores that they owned.

George Bernard Shaw was unfortunately right. History repeated itself, and new generations of investors did not learn from their predecessors.

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