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More Investors Eye Grocery-Anchored Shopping Centers for Better Risk-Adjusted Returns

When Kroger-anchored Crossroads South hit the market earlier this year, Matt Annibale, senior director of acquisitions with First National Realty Partners (FNRP), jumped at the chance to acquire the 201,404-sq.-ft. shopping center located about 16 miles south of downtown Atlanta.

At 92 percent occupancy, Crossroads South generated more than a dozen offers, according to Annibale. FNRP, a Red Bank, N.J.-based real estate investment firm, went through multiple rounds of bidding before coming out on top, closing the deal in mid-November for $16.2 million.

Crossroads South is one of 11 grocery-anchored centers that FNRP has acquired this year, bringing its total portfolio to more than 30 retail properties. The firm, which invests in grocery-anchored centers almost exclusively, has another 13 deals under contract. It is currently one of the most active buyers in the U.S., according to real estate data firm Real Capital Analytics (RCA).

“Grocery-anchored retail has always been attractive to us, but the pandemic revealed to the world the real value of grocery-anchored centers,” Annibale says.

Annibale points to another deal that FNRP closed recently as proof of the sector’s desirability: City Center Crossing, a 98,408-sq.-ft. Lidl-anchored shopping center located in the northern Atlanta suburb of Sandy Springs, garnered interest from more than 20 bidders.

City Center Crossing sold for just over $20 million. Jim Hamilton, a senior managing director with JLL Capital Markets’ Atlanta office, brokered the deal, along with Brad Buchanan and Andrew Michols.

“Demand for grocery-anchored investments is the strongest we’ve seen in nearly two decades,” Hamilton notes. “We have seen many investors shift their strategy to retail investments, with grocery-anchored being the most highly sought after. Demand for retail investments from all capital sources is much stronger today compared to before the pandemic.”

Pandemic-resistant properties

Investor demand for grocery-anchored shopping centers is fueled by several factors. Historically low interest rates certainly play a role, but the record high pricing in other property sectors, particularly industrial and multifamily, is a more significant motivator.

“I don’t think investor interest for retail is as strong as it is for industrial or multifamily, even for grocery-anchored centers, but there’s no doubt that grocery-anchored centers were a bright spot in retail before COVID, and they’ve gotten even brighter,” says Dana Haynes, CFO of Citivest Commercial.

The California-based company, which has been investing in grocery-anchored centers for about 15 years, recently put a Raley’s-anchored property in the Sacramento, Calif. area on the market. The 108,081-sq.-ft asset received final offers from 10 buyers and is now in escrow.

Of course, investors wouldn’t be quite so interested in grocery-anchored assets if they’d performed poorly during the pandemic. But if anything, the pandemic showed just how resilient they truly are.

For several decades, investors have described grocery-anchored centers as “recession-resistant”—after all, people have to eat, even during economic downturns. Today, however, investors insist these properties are more than recession-resistant. They’re pandemic-resistant.

“It has long been our belief that leading grocers and necessity-based retailers provide greater stability and resiliency than other types of retail,” says Jeff Edison, chairman and CEO of Phillips Edison & Co. (PECO). “This is demonstrated by our strong relative performance before and since the COVID-19 pandemic.”

Cincinnati-based PECO has been investing grocery-anchored shopping centers since the early 1990s. With a portfolio of nearly 290 shopping centers comprising roughly 30.4 million sq. ft. across 31 states, the REIT is one of the largest grocery-anchored center owners in the nation.

During the third quarter of 2021, the company acquired two centers totaling $48.3 million: Fox Ridge Plaza, a 54,000-sq.-ft. property shadow-anchored by King Soopers in the Denver MSA, and Valrico Commons, a 138,000-sq.-ft. center anchored by Publix in the Tampa, Fla. MSA.

As of Sept. 30, 2021, PECO’s portfolio had a leased occupancy rate of 95.6 percent—the highest level in four years, according to Edison. And since the beginning of the year, the REIT has collected 99 percent of its monthly billings and reported a tenant retention rate of 91.2 percent for the third quarter of 2021.

Grocers adapt to consumer demands

PECO, along with every other investor in the grocery-anchored space, has kept a close eye on the grocers in its centers. Prior to the pandemic, many grocery chains were in a tough spot, weighed down by debt and struggling to meet changing consumer expectations. But the outlook for many chains has changed significantly over the past 24 months.

Grocers, deemed essential businesses at the beginning of the pandemic, have worked hard to adapt their supply chains, store layouts and business models to meet consumer needs, whether in-store, with curbside pick-up or home delivery.

Their efforts have paid off: most chains experienced an increase in sales from 2019 to 2020, and some reported growth of nearly 20 percent year-over-year. That trend has continued into 2021 and shows no signs of slowing.

“Nearly every grocer has adopted an omni-channel strategy, and we believe grocery is poised to continue to evolve to shifting consumer preferences in the future,” Edison says. “We are confident in and encouraged by the strong performance of our grocers.”

During 2020, PECO’s average annual sales per sq. ft. for reporting grocers came to $609, an increase of 14.1 percent over the prior year. That number outperformed the 11.0 percent increase for all grocery sales in 2020 (including big-box retailers such as Walmart, Target, Sam’s Club and Costco), according to the U.S. Census Bureau.

Moreover, in-line tenants have started to bounce back. These tenants—restaurants, spas, hair and beauty salons, dry cleaners, coffee shops and med-tail services—offer in-person experiences that can’t be replicated online.

“If a center saw less than a 10 percent sales increase throughout the pandemic, that would be a cause for concern because it didn’t get a larger pop,” Annibale says.

Record deal volume

Investment sales volume for grocery-anchored retail assets hit a record high in the third quarter of 2021, reaching $5.3 billion, according to RCA. Grocery-anchored centers represented almost a third of total retail investment volume during the quarter.

During that period, investment in grocery-anchored centers registered a 61 percent increase in activity compared to the average level seen in a third quarter between 2015 and 2019. However, nearly 40 percent of all transaction volume can be attributed to one deal: the Kimco Realty’s $3.8 billion acquisition of Weingarten Realty Investors, which closed in August.

“We heard institutions say they needed to reduce retail exposure, but they need to deliver cash flow to their investors, and [grocery-anchored centers] offer pretty attractive levered returns,” says Mark Horgan, executive vice president and chief investment officer for Brixmor Property Group, another REIT that focuses on grocery-anchored shopping centers. “The market is very liquid, financing for retail has turned back on, and big portfolio trades have returned.”

Many REITs and life companies that put the brakes on retail investment in 2020 are now on the hunt for grocery-anchored centers, particularly across the Sunbelt. Brixmor, for example, recently acquired Pawleys Island Plaza in South Carolina for $26.3 million. Situated between the only two bridges providing access to Pawleys Island, the 120,411-sq.-ft. center is anchored by a Publix. At the end of the third quarter, the New York-based REIT has another $250 million to $300 million in retail deals under contract, according to financial filings.

Likewise, private investors, family offices, and investment funds are actively acquiring grocery-anchored properties. JLL’s Hamilton attributes the shift to the record amount of available capital and the attractive returns that grocery-anchored assets can generate compared to other investment opportunities.

Earlier this year, Hamilton’s team at JLL brokered the $19.2-million sale of Madison Commons, a 75,340-sq.-ft., Publix-anchored center in metro Huntsville, Ala., to ExchangeRight. According to RCA data, ExchangeRight was the third most active retail buyer during the third quarter of 2021, outpaced only by Kimco and Ares Management.

“The buyer composition for grocery-anchored centers over the past 12 months has shifted, with buyer depth greater and more diverse today than we have ever seen,” Hamilton notes.

Never-before-seen cap rates

Grocery-anchored shopping centers are more valuable today than they were prior to the COVID-19 pandemic, with cap rates compressing between 25 basis points and 100 basis points compared to pre-pandemic pricing, according to Hamilton.

At the end of the third quarter, the RCA Hedonic Series cap rate for a grocery-anchored assets averaged 6.8 percent. Cap rates in the sector rose by 20 basis points from the prior year, but are still 10 basis points below the average for the third quarter of 2019.

Annibale, who has recently evaluated grocery-anchored deals in nearly every region of the U.S. including Alaska, says prices are “getting more and more competitive in every market.” He adds: “We’re seeing cap rates we haven’t seen before, and given the amount of investor demand, I expect cap rates will either hold steady or continue to drop.”

Cap rates across the spectrum of grocery tenants vary widely, according to RCA, with assets occupied by some grocers trading at a premium. For example, cap rates for Whole Foods Market properties were about 160 basis points below the third quarter average, while Food Lion cap rates were 160 basis points above.

“I’d say the grocery sector represents the best-in-class risk-adjusted returns,” says Eric Hochman, chief investment officer of PEBB Enterprises. The Boca Raton, Fla.-based owner and developer recently completed a new Publix-anchored center near Jacksonville, Fla., and is currently working on two Spouts-anchored centers: a ground-up project in Boynton Beach, Fla. and a redevelopment play in Delray Beach, Fla.

“It’s a seller’s market, so a lot of developers are considering selling when they otherwise would have held long term,” Hochman says. “In some cases, sellers are receiving unsolicited offers—sometimes multiple offers—if they have a center with solid fundamentals.”

The biggest challenge facing investors in grocery-anchored shopping centers as they head into 2022 isn’t the pandemic or vacancies. It’s the lack of product relative to the amount of capital seeking these assets.

“We anticipate demand for these investments to remain elevated for the foreseeable future,” Hamilton says.

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