Despite a sluggish start to the new year, the Phoenix retail sector continues to post strong numbers as it waves goodbye to the lowest points of the recession. With vacancy dropping and net absorption continuing to post positive figures, the market is making up ground. New retailers moving into the market place show the increased interest in the Phoenix market. The Portillo Restaurant Group, an Illinois based quick service restaurant that brings with it a large following, opened a location in Scottsdale and have a second location slated for Tempe Marketplace. Conn’s Home Plus, a home electronics and furnishing chain originally from Texas, recently opened a location in Tucson and has plans for two Phoenix locations opening this summer including one in Arizona Mills.

Vacancy continued to decline in the retail sector, dropping to 11.0% in the first quarter of 2013, down a full percentage point year over year when the vacancy rate sat at 12% in Q1 of 2012. Retail sales volume also reflected the buzz of increase in the local retail market; Q1 of 2013 totaled an impressive $109 million. This is up considerably from the $67 million posted in Q1 of last year, and is the largest sales volume seen in the first quarter since 2008. Average rental rates, while down slightly this quarter to $14.29, also seem to be leveling out from the rapid declines seen during the recession, which could be part of the overall market correction being felt in the retail market.

Net absorption fell this quarter to 484,073 SF of space absorbed, down significantly from the impressive 2012 year end of over 1.5 million SF. While dips in absorption numbers during the first quarter are common place as the market rebounds from the increase during the holiday season, Q1 of 2012 posted significantly higher SF of space absorbed at 762,725 SF. Leasing activity also lagged during the first quarter of 2013; total deals fell to 437 in contrast to Q1 of 2012 when 607 deals were completed, and square footage leased totaled just over 1.2 million down from almost 2 million in the final quarter of 2012. While leasing has seen a slight lull this quarter, the market seems to be stabilizing overall, steadying the frenzy to new space seen during 2012.

Over 200,000 SF of space remains under construction this quarter in addition to the 147,751 SF of new space delivered so far this year. The top lease transactions of the quarter included a 26,115 SF lease to Arizona Humane Society at 4240 W Camelback Rd, a 25,740 SF lease to Goodwill at 860 E Warner Rd, and a 25,261 SF lease to Sprouts at 6760 W Deer Valley Rd. The top sales transactions so far this year include a $7.6 million 14,820 SF space in Vistancia Marketplace at 28516 N El Mirage Rd in Peoria, occupied by Walgreens, and the $6 million sale of 1661 S Alma School Rd, a 120,026 SF space currently occupied by Roomstore Furniture.

The Phoenix housing market, a primary pulse check for the Valleys commerical real estate market, has had a positive impact on the retail sector. With constant news of climbing home prices and leaps in construction dominating daily news, the previous doom and gloom mindset of any homeowner in Phoenix has begun to shift. With a path out of the residential slump in sight, fears have been eased and consumer spending is on the rise, with less reservation as to when things will improve. Adding to this confidence is an employment increase that may soon come close to pre-recession levels. In November of 2012, 224,000 retail jobs were added in the Phoenix market, a difference of just 20,000 jobs compared to pre-recession 2007 totals. These numbers represent an 8.38% decline in employment for the Phoenix retail sector over the last 5 years, compared to the 4.3% drop seen nationwide. While the struggle continues, these signs show that what was once viewed as impossible may be just around the corner.

Average rental rates fell during the fourth quarter of 2012, but are showing hopeful signs of slowing the downward trend. The year began with average rental rates of $14.72, and ended Q4 with an average of $14.28. In contrast, both 2010 and 2011 showed an average rental rate decrease throughout the year of over $1.10. While still on the decline, the fall seems to be slowing and even stabilizing in some areas; the Scottsdale, North Scottsdale, and Northeast Phoenix submarket clusters all showed slight increases in rental rates.

Net absorption levels showed positive signs of improvement throughout 2012. The fourth quarter raised the bar with over 1.5 million net SF absorbed, bringing the yearly total to 2,814,752 net SF absorbed. Leasing activity fell slightly in the final quarter of 2012, down 9.4% from Q3. Overall, the total 2012 leasing activity increased 6.6% compared to 2011, and is up a staggering 20% from the total SF leased in 2010.

Vacancy also brought positivity to the fourth quarter posting rates not seen since 2009. The overall vacancy rate fell to 11.3%, down from the 11.9% posted at the beginning of 2012. Both the West Phoenix and Airport Area submarkets boasted the lowest vacancy rates with 8.3%, while the East Valley left the most to be desired with a 13.6% vacancy rate for the fourth quarter. While vacancy rates are continuing a slow and steady decline, down from the peak of 12.6% seen in the beginning of 2011, there is still a long way to go to reach the lows seen before the recession when rates were steadily between 6% and 7%. While the Phoenix retail market will not recover to that level for a few more years, the data indicates that the Phoenix market is trending up and is on a slow and steady path to recovery.

The top lease transactions for the third quarter included two large leases by Burlington Coat Factory, one in the Airport Area Submarket Cluster, and one in the Scottsdale Pavillions shopping center that was hard hit during the recession. Also leasing a large space in The Pavillions is Octane Raceway, signing 45,086 in the revitalized shopping center near Talking Stick Resort.

Third quarter was a small hurdle for the retail market, as fluctuations saw absorption trend down and rental rates drop. Despite these contractions, construction employment is up and consumer confidence is growing, according to the Conference Board. Retail sales across the nation showed signs of growth, according to the Department of Commerce. There was a 1.2% advance in consumer demand in August; the growth was noticed in 12 of the 13 retail sectors. Furthermore, on a national scale the outlook for manufacturing job growth and the increase in expendable income should boost the demand for retail products and space alike. Retailers will need to continue to compete with the online market, which, according to Forrester Research, will bring an estimated $327 billion in sales throughout the US by 2016, by enhancing the shopping experience. For consumers, the act of shopping is now more about the social interaction and ambiance of a store or mall, rather than the product options that that cannot compete with an online resource.

Absorption for the third quarter retail market stands at 137,091 SF. This marks the third consecutive quarter that absorption has decreased for retail space. Metro Phoenix’s absorption level is down nearly 35% from the previous quarter. The Scottsdale submarket followed that trend by displaying a reversal from last quarter, as absorption was (43,444) SF compared to second quarter’s 210,000 SF. Third quarter’s best performing submarket was the East Valley, where space absorbed was recorded at 112,878 SF. The commercial real estate industry has noticed the impacts of efficient technology such as smart phones and tablet PCs, all encouraging a reduction in square footage and employees.

The top lease transactions during this quarter include the 34,162 SF community center lease signed by Planet Fitness at 7333 W Thomas Rd in Phoenix, the 28,000 SF community center lease signed by Goodwill at 1546 E Southern Ave in Tempe, and the 18,646 SF community center at 1346 W Southern Ave in Mesa signed by K-MOMO, an urban lifestyle clothing retailer. On average, rental rates continued to trend down, averaging at $14.49 for the third quarter.

The Phoenix retail vacancy rate found no room for movement, and posted the same level of 12.1% as the previous quarter. By submarket, the Phoenix Airport area had the best recorded change in vacancy, declining from 13.5% to 9.0%. The lowest vacancy rate was observed in the Northwest Valley submarket which includes Surprise, North Peoria, and Anthem at 8.4%. Historical vacancy and average rental rates are both trending down and converging. Nevertheless, as vacancy rates continue to decline, and approach the historical 7% level, landlords should find more room to cease concessions and raise rental rates. Occupancy percentages have trended up since third quarter of last year, posting a rate of 87.7%

Construction activity on retail properties dropped during the third quarter. Third quarter recorded 192,484 SF of space under construction. Delivered space declined to 94,940 SF, a 42% decrease, while construction starts fell 84% to 55,000 SF. In September of 2012, the Producer Price index for inputs to construction, a weighted average of the cost of all materials used in construction plus items consumed by contractors such as diesel fuel, increased .9% in both September and August. Even with the onset of heightened costs, throughout the past year the addition of construction jobs put Metro Phoenix at the top of “new construction jobs” list, according to Associated General Contractors. As noted last quarter, it will take a considerable amount of time, or a huge spark in consumer confidence, to overcome the indecisiveness and market fluctuations throughout the US.

Nationwide, retail properties valued over $2.5 million had a total sales volume of $9 billion for the third quarter, down from the previous quarter’s $12.1 billion. Also on a national scale, capitalization rates for retail properties had little to no movement, averaging 7.15%. In Phoenix, cap rates trended down to 7.96%, recording a 2.7% decline. Year to date leveraged buyouts of US retail companies realized a significant allocation of capital, standing at $7.66 billion. This level is up from the $4.45 billion recorded throughout 2011. Investors will look to high quality retailers who can weather a recession, and are still finding pricing discounts, according to National Real Estate Investor.