Federal Realty’s Berkes

By Ian Ritter
Globe St. Realty
Jan. 30, 2006

With a portfolio of about 17.5 million sf of shopping centers, Rockville, MD-based Federal Realty Investment Trust is by no means the largest retail-asset owner in the country. However, the firm’s executives tout the quality of the company’s portfolio. With centers in Northern California, Southern California and the Boston, New York, Philadelphia and Washington DC metro areas, Federal is concentrating on redeveloping its core markets without expanding quickly. And according to a recent UBS Real Estate Research report, the average household incomes at Federal Realty’s centers is close to $90,000, eclipsing its peers in the open-air, retail real estate sector. One of the company’s newest projects will be Crow Canyon Commons, a 228,000-sf grocery-anchored shopping center in San Ramon, CA that it acquired for $47.5 million at the beginning of the year. Jeff Berkes, Federal Realty’s senior vice president and chief investment officer, recently took time to speak to GSR about his company’s strategy.

GSR: How are you able to get desired properties in competitive markets without paying unattractive prices?

Berkes: We invest in only seven markets in the country. We’re not buying in Dallas, Denver, Des Moines and Detroit. We’re not spread out all over the country. We’re very focused on what we believe to be the best real estate markets. Since we’re focused and we’re not under pressure to buy to move our FFO-per-share growth because of all of the internal growth that we generate, we can take our time and be a lot more selective and patient. We have acquisition people in Boston, Washington and California, who spend the lion’s share of their time driving submarkets, identifying what they think is the best real estate and spending time with what they think are the owners of that real estate. A lot of times that real estate gets put on the market, and we’re in the same bid process as everybody else. But more often than not, because of the work that we’ve done and the relationships that we’ve developed, we get the opportunity to buy the property without going to market. It’s a lot of hard work, and we’re able to do that because we’re not trying to shove $1 billion out the door every year. We also have the ability to do very flexible and creative structuring deals to meet all of an owner’s objectives. With our joint venture with ING Clarion, we have the ability to compete for the fully-marketed, stabilized deal as well. It opens a whole spectrum of buying opportunities within each of those markets for us.

GSR: So are you constantly redeveloping your current portfolio?

Berkes: We’re constantly evaluating our portfolio and looking for redevelopment opportunities. Some you can schedule out and predict, and others avail themselves over time as the tenancy of the property shifts. Retail is a dynamic property type, and retailers fail or get bought and that opens up opportunities at some of our properties. We’re constantly looking at our portfolio for development opportunities, and we’re constantly in the market trying to buy as well.

GSR: Do you do similar redevelopments across your centers or is each asset different?

Berkes: It varies by center and by market. Our redevelopment pipeline runs the gamut, from simply adding a pad site in front of one of our shopping centers to our Rockville (MD) Town Center property, where we tore down the entire site and brought in a developer that’s doing a very dense, residential-retail project, and we are buying back the retail shells underneath the residential buildings. And we do everything in between, adding anchors, expanding grocery stores, adding grocery stores. We’re very broad in the way that we approach that, and because of the quality of real estate in our portfolio, it opens up opportunities that wouldn’t be available in a typical suburban neighborhood or community center.

GSR: What are the differences between the northern and southern California retail markets?

Berkes: California gets painted with a broad brush, but not every market in California is the same. We’re in what we think are the three best markets: the Bay Area, LA Metro and San Diego. We’re not, for example, in the Central Valley. In the Central Valley you don’t have the population densities and incomes like you have in the other three markets or the barriers to entry for new supply. There’s definitely a difference within California. There’s probably more similarities than there are differences, all three of those markets are, generally speaking, densely populated, affluent and have significant barriers to entry. On the margin, I would say that Northern California is somewhat more supply constrained. There’s a more difficult development environment there because you’ve got a lot more political involvement and also some geographic restraints or boundaries. There seems to be older properties with redevelopment opportunities in Northern California than Southern California.

GSR: What is the process that goes behind entering a new markets?

Berkes: It’s similar to what we do in our existing markets. We spend a lot of time talking to tenants and talking to brokers and other owners. We spend a lot of time driving the markets. We look at what kind of competitive position we can develop in a market. We evaluate a handful of markets every year. I would imagine that over the next couple of years that we would add some markets, but they’ll have some basic characteristics of the seven markets we’re in. They’ll be major metropolitan areas with barriers to entry for whatever reason and a lot to choose from with dense populations and strong incomes. We look at markets that are close to other markets that we’re in. We’re not planning at all to go into secondary markets or markets in the middle of the country that are far flung.

GSR: How are you preparing for Wal-Mart’s push into California? Is that a factor?

Berkes: It is, generally speaking. There’s been a lot written about Wal-Mart and their push into California. I think they’re probably not where they want to be in terns of getting stores open as quickly as possible. But Wal-Mart’s a very well-run company that knows what it’s doing and has a lot of financial strength. Eventually they’ll get to be where they want to be. The way we look at it, though, is that we’re in what we think are the best markets in the country. Within a 10-mile radius of our properties, only 4% have a Wal-Mart in that radius. If you look at our peer group of shopping-center REITs, the average percentage for that same radius is 54%. We have extremely low exposure to Wal-Mart. And because we’re in densely populated, affluent, supply-constrained markets, if Wal-Mart comes in, it’s not likely to have much of an impact on the retailers in our centers. It’s not that we’re not concerned about it or aware of it. We are aware of it, and we think about it when we make investment decisions. But it just doesn’t have the impact on us that it’s going to have on others that are in less densely-populated areas where there aren’t as many barriers to entry. Those owners will feel some pain, and we don’t expect to feel that pain.

GSR: Are you still interested in developing lifestyle centers or mixed-use properties in California?

Berkes: Let’s be careful about the label because what we do is buy, redevelop and, in certain circumstances, develop what we like to call high-quality retail, regardless of format. Whether someone would put a lifestyle label on it or a neighborhood or community center label on it, it doesn’t just matter to us. What matters to us is that it’s in a market with barriers to entry, population density and strong incomes. We’re always looking to acquire and redevelop high-quality retail. In terms of ground-up, mixed-use development, no, we’re not looking to take on all of the development risk. But we are doing that in the case of the Rockville property. We’re an active participant in the development of that, but somebody else, the residential developer, is building the buildings and taking the cost and development risks. Our risk is limited to leasing up the retail space and what it costs to build out the retail space from a dark-shell condition. We’re absolutely looking for more opportunities like that in all of our markets. GSR: What are some new retail-real estate trends you’ve been seeing?

Berkes: There’s clearly, nationwide, a focus on retail in a mixed-use environment, and the number of opportunities for us to participate with other developers in those types of deals has ratcheted up significantly over the last number of years. We’re getting a lot of calls, particularly from residential developers to partner up with them on their development opportunities and handle the retail space. What we’ve proven in our own portfolio and what residential people are now more attuned to and educated about is that if you do plan a project with retail on the ground floor, and you execute that retail correctly, you add a lot of value to the use, whether it be multifamily or office. Conversely, if you don’t execute well, it detracts the value.