As 2022 begins, it is hard to believe that we are entering the third year of a global pandemic that has disrupted nearly every facet of our daily lives in one way or another. The initial changes that took hold at the outset of the pandemic – mask wearing, social distancing, avoiding crowds – have become ingrained as part of a new normal and they will continue to impact our lives and real estate investments in 2022.
In this article, we are going to discuss how the new normal is expected to impact commercial real estate markets in 2022 with a specific focus on the types of grocery store anchored retail centers that we invest in. By the end, readers will be able to identify key commercial real estate trends and can use this information as an input into their own 2022 capital allocation strategy.
At First National Realty Partners, we specialize in the acquisition and management of grocery store anchored commercial centers. If you are an accredited investor and would like to learn more about our current investment opportunities, click here.
Grocery Store Business Outlook in 2022
Logically, a discussion on grocery store anchored commercial real estate trends should begin by talking about the health of the grocery business itself. Let’s start with the good.
Positive Grocery Trends in 2022
Spending is Expected To Rise
According to Supermarket News, an industry trade publication, a recent survey of 1,000 consumers indicate that they expect to increase their average monthly grocery spend to $611, which is up from $532 last year (2021). The increases are driven by a combination of rising prices and an increased focus on preparing meals at home due to the pandemic.
On the whole, the increase in grocery spend is a tailwind for grocery stores because it will drive higher revenue and profitability.
The Number of Customers is Increasing
According to the same report, the number of grocery store customers rose by 5% from January to September 2021. This trend is expected to continue throughout 2022 and it is driven by growth in the online grocery delivery channel. Net new customer additions is a good thing for grocers because they can also drive higher revenue and profitability.
Online Grocery/E-Commerce Sales Continue To Grow
Online grocery sales is the fastest growing segment of the grocery business. From January to September 2021, they saw a ~200% increase from previous yearsaccording to Supermarket News. Again, this trend is expected to grow through 2022 and beyond given the safety and convenience of shopping this way. In fact, many of the newest grocery store customers are entering through the online channel which is a positive for eventual in person sales.
Demand Remains Resilient
The main thing that makes a grocery store such a good anchor tenant is that demand for their product – food – is evergreen. Every single person in the US needs it every day to survive. As a result, their sales have remained stable over the past year – a time of great uncertainty. This will not change in 2022. In fact, it is precisely because of this fact that CBRE says, in 2022, “…grocery anchored centers remain the gold standard of retail investment.”
Near Term Risks To The Grocery Business
Despite the overwhelmingly positive trends in the grocery business, the news isn’t all good. There are near term risks that many grocers will have to mitigate in order to maintain their current levels of sales and profitability.
Supply Chain Risks
The fast spreading Omicron variant of the coronavirus has caused staffing issues at grocery suppliers. When combined with shipping challenges and surging demand, grocery stores may struggle to keep their shelves full. Shortages of staple products like milk and fruits/vegetables pose a risk to sales volumes.
Inflation
Prices are rising, there is no doubt about it. In fact, a late December 2021 inflation reading indicated overall inflation of nearly 7%, the highest growth since 1982. But, certain food items like meat, poultry, fish, and eggs rose even faster at 12.8%. The cause of inflation – supply chain disruption, staffing shortages, increased demand, higher input costs – can be debated, but the risks it presents can’t be. Food price increases outpace income gains which means that consumers may not be able to afford to buy the same amount of groceries they are used to.
Safety
Of course health and safety still present an issue. A more highly transmissible variant of the virus means that some shoppers may stay away from the store and health and safety protocols mean that infected staff members may need to be sidelined for a certain period of time. This can exacerbate staffing issues and cause a poor customer experience.
To address these risks, grocers will need to be proactive to secure their supply chains and they’ll need to continue to adapt their health and safety protocols to the ever-changing nature of the virus. We believe that grocers with the most experience and strongest management teams are best suited to address these risks in 2022.
So, What Does This Mean For Grocery Anchored Real Estate?
Given the 2022 outlook for the grocery business described above, there are several commercial real estate investment implications that should be considered.
Distribution Matters
We know that online sales are the fastest growing segment of the grocery business. Therefore, we believe it is best to look for grocery store tenants who have a clear commitment to the online channel. For example, the Whole Foods/Amazon partnership is a strong one that allows customers to receive their grocery deliveries or pick them up in store on the same day they were ordered.
Grocery businesses who continue to invest in their ecommerce channel represent lower credit risk so we believe they will continue to be great tenants.
Management Matters
With all of the pandemic related change still swirling, we think that grocery store tenants with strong, experienced management will make for better tenants than those with inexperienced or ineffective management.
Markets Matter
Markets and locations have always mattered to real estate investors. But, they may matter now more than ever. The pandemic has driven wider acceptance of work from home trends, which means that there are large shifts in where people are choosing to live. As a general rule, they are avoiding major cities like Seattle, San Francisco, New York City, and heading for the relative affordability, desirability, and space of secondary markets like Orlando and Nashville. There is no coincidence that the housing market and home prices in these markets are also among the hottest in the country.
So, from a real estate investment perspective, it will be important to be able to leverage the growth in these secondary markets to drive profitable investment.
Price Matters
This may seem obvious, but grocery store anchored centers must be acquired at a good price to maximize the chances of a profitable return. Competition for this asset class is intense with many well capitalized actors (like REITs) looking to deploy capital. So, real estate investors must take a disciplined approach and not get caught up in a bidding war where they end up paying an above market price for a property.
Interest Rates Matter
For the time being, the era of historically low interest rates appears to be over as the Federal Reserve and economists have signaled multiple rate hikes in the coming year. Rising commercial mortgage rates have the potential to make commercial real estate investments less profitable over the next year – especially those that are financed with variable rate debt. To protect against rising rates in the commercial real estate industry, it is important for investors to look for deals where lenders have provided long term, fixed rate debt. This will provide some degree of certainty about required debt service and limit impacts to cash flow over the investment holding period.
Tenant Mix Matters
We have spent much of this article focusing on the importance of the grocery store anchor – and they are very important. But, the mix of tenants complementing the grocery store anchor must also be considered. We think that tenants/renters with a multi-channel distribution strategy, experiential component, and service based offerings tend to fare better than those with commoditized products. For example, we like boutique fitness, quick service restaurants, coffee shops, emergency healthcare clinics, and nail/hair salons.
Perhaps the broader point is that, in a time of unprecedented change, fundamentals matter more than ever. Experienced real estate professionals, real estate experts, and first time investors alike should carefully evaluate potential investment opportunities using a conservative approach that focuses on the fundamentals of a property’s tenant base and cash flows. Those that are conservatively leveraged with strong tenants on long term leases and with fixed rate debt will be steady performers in a time of great uncertainty.
Final Thoughts on Grocery Store Real Estate Market & Trends in 2022
Since the start of the pandemic, there has been a great deal of speculation about when investment markets will return to pre-pandemic levels. There is an argument that they may never return to that point – instead it is time to focus on a new normal in the new year.
With this in mind, the grocery business appears set to benefit from continued tailwinds like new customers, increased monthly spend, rising prices, and the expansion of the online/delivery business.
But, there are also risks. Rising prices mean that consumers may not be able to buy as much. In addition, supply chain bottlenecks, staffing shortages, and continued focus on health and safety protocols mean that it is more expensive to operate a grocery store.
From an investment standpoint, these changes and market conditions mean that the best tenants will have a multi-channel distribution strategy, strong management, and excellent locations in growth markets. In addition, they will be supported by a roster of complementary tenants whose shopping experience offers some sort of experiential component.
In short, the fundamentals matter in 2022. Investors should take a disciplined approach that includes conservative levels of fixed rate debt and a market justified price.
Interested In Learning More?
First National Realty Partners is one of the country’s leading private equity commercial real estate investment firms. With an intentional focus on finding world-class, multi-tenanted assets well below intrinsic value, we seek to create superior long-term, risk-adjusted returns for our investors while creating strong economic assets for the communities we invest in.
If you would like to learn more about our commercial real estate investment opportunities, contact us at (800) 605-4966 or info@fnrpusa.com for more information.
