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San Francisco: Riding the Retail Wave

Expanding retail and job growth are driving real estate development.

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Expanding retail and job growth are driving real estate development.

When it comes to scouting where to locate fashion retail, the City by the Bay remains a sure bet, having so far largely skirted the economic fallout from the subprime mortgage fiasco, which has slowed consumer spending elsewhere in northern California and nationally, according to real estate investors and brokers.

“If there’s any impact, it’s more of a cautious attitude,” observed Kazuko Morgan, senior director of San Francisco retail at real estate broker Cushman & Wakefield. However, “there are a lot of deals in the works,” Morgan said. “Retailers are either relocating to Union Square or to other high-profile locations or expanding, and we are still continuing to see a fair amount of European tenants enter this market.”

Since 2005, after recovering from the dot-com bust of 2002, San Francisco has seen a flurry of specialty stores locating to its Union Square shopping district downtown. The influx of fashion specialty stores — from Bloomingdale’s to Barneys New York, Juicy Couture to Miss Sixty — and the addition of a second indoor shopping mall have reinvigorated the neighborhood already anchored by Saks Fifth Avenue, Neiman Marcus and Nordstrom, as well as Macy’s West Coast and Levi’s flagships.

“There is still a great deal of interest among retailers who want to come here,” said Julie Taylor, a principal with broker Cornish & Co. “Demand is being fueled by tremendous job growth in biotechnology research and other technology, which gives us a larger base of affluent, sophisticated consumers.”

Tourism — the local economy’s largest engine — also remains strong, with the visitor’s bureau reporting hotel occupancy rates exceeding 85 percent. Per capita income in the city is $55,801, the second highest in the country. San Francisco retailers also draw customers from around the Bay Area in wealthy enclaves like Silicon Valley an hour south and Marin County to the north across the Golden Gate Bridge.

Luxury specialty stores planning to locate this year in the 20-block Union Square area include diamond purveyor De Beers on Post Street, New York sportswear designer Tory Burch on Maiden Lane and Prada, which is upgrading from a tiny shop on Geary Street to an 18,000-square-foot space on Post Street across from De Beers.

Demand for space is also driving retail store rents up in the prime Union Square district, with landlords asking 10 percent more than a year ago, Morgan reported. On average, Union Square rents are generally $275 to $300 a square foot, she noted.

San Francisco is enjoying part of a larger Bay Area wave of retail sales growth, although the pace has slowed since last year, according to commercial realtor Grub & Ellis’ 2008 real estate forecast. “The overall slowing housing market combined with escalating energy and food costs is definitely weighing on consumers’ minds and pocketbooks, but has not translated into negative performance for the Bay Area retail market,” the forecast observed. Last year marked the Bay Area’s fifth consecutive year of retail sales growth.

The San Francisco office market is also feeling some economic headwinds. As Union Square retail real estate further strengthens, office rent increases have cooled. For two years, prime downtown office buildings have changed owners repeatedly, with each subsequent buyer paying more and raising the rent. According to Grubb & Ellis, office rents last year spiked 27 percent, the strongest growth in seven years — just before the city’s robust dot-com economy hit the skids. Some tenants are now complaining rents are out of kilter with the market, according to several real estate brokers. The weighted-average asking rent for prime Class A office space is now $49.14 per square foot a year, and Class B space is $34.72, according to Grubb & Ellis. The issue could come to a head this year when leases for several blocks of office space are due for renewal. “The question is whether or not the current health in the market can be sustained,” said a Cushman-Wakefield market report.

A factor in all real estate equations is the limited free space in the city to be developed within the confines of its 49 square miles that requires high-density building. New developments with a retail component are being focused south of Market Street among condo towers that are changing the skyline; biotechnology office campuses are on the waterfront in Mission Bay where cargo ships once called, and in the Bayview, a low-income neighborhood, a new light rail has sparked investor interest in development. Still on the drawing boards is a proposed new cruise ship dock on San Francisco Bay near where the city’s Giants baseball team plays in AT&T Park.

Also planned for south of Market at Hunter’s Point — a 500-acre former Navy shipyard — is a “retail town center” of still-undetermined makeup, along with 8,500 low-income and market-rate condominiums and apartments. Additionally, if San Francisco voters approve the plan, a new stadium would be built there for the 49ers football team.

Other obstacles to development in the city of 808,844 include several neighborhoods like North Beach and Haight Ashbury having no-chain-store policies. Compromises have been struck on limiting the number of apartments and residential hotels that convert to condos, as part of several steps being taken to keep lower-income residents from being priced out of city housing. The city has a strict eco-friendly planning policy, including a no-new-parking garage policy.

The area immediately south of Market from downtown is lacking retail of any kind. Stores that have found spots among light industry, warehouses, modern condo complexes and residential hotels include outdoor clothing outfitter REI and a cluster of retail sites tucked under a garage that include a Trader Joe’s, Nordstrom Rack, Pier 1 and Bed Bath & Beyond.

Upcoming this year in the neighborhood at Fourth and Harrison is a T.J. Maxx, the first in the city, and across the street will be Fresh & Easy, a grocery store by London-based food retail giant Tesco.

“We are bullish on San Francisco,” said Alicia Glen, managing director of the Goldman Sachs Urban Investment Group, which is developing the project and says the city has “not enough housing or retail.”

Glen hopes to fill out the shopping area with an independent coffee bar, and possibly “a funky, edgy local clothing and accessory or home furnishing store, a cool hardware store and probably an organic dry cleaner.” National fashion names, she projects, will lag behind in locating on the Third Street Muni metro line. “Those guys are a long way from locating there. Certainly some stores like Old Navy have been willing to go into lower income neighborhoods,” Glen said. “It will take another five years before you can get some critical mass and no doubt national retailers will come.”

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