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California's Hard-Hit Inland Empire Sheds Distressed Assets

June 4, 2010

Southern California's boom-and-bust Inland Empire CRE market remains mired in bust mode - and it may be quite a while before demand for business space catches up with a painful oversupply.

The imbalance likewise applies to residential space, as so many all-cash-investor-owned foreclosed homes are now competing with apartment landlords for tenants. Indeed, owners of all sizes and shapes of properties are feeling the pinch in the massive San Bernardino and Riverside counties east of Los Angeles.

Of course, that distress can translate into opportunities for savvy small-balance investors willing to live with the risk that user demand could be a long and painful road back to recovery. And investment opportunities are popping up more frequently, now that some of the area's less-optimistic lenders are shedding distressed assets.

Some lenders fear fundamentals, and in turn values, will remain weak for some time - or perhaps deteriorate further - and are opting to get what they can now for distressed properties, notes veteran Inland Empire broker Darrell Hale at Daum Commercial in Ontario.

For instance, a Hale lender client recently decided to foreclose on, and list for sale, a long-vacant, 104,000-square-foot former Kmart store in Colton. Plenty of small-balance entrepreneurial types took tours of the maintenance-challenged property, with an investor from nearby Orange County winning the bidding at $2.9 million.

"It was available at a price well below replacement cost" but badly needed some capital improvements, Hale explains. Indeed at less than $28 a foot, "a lot of people thought it was worth the risk" despite still-falling retail rents and an Inland Empire consumer base idled at 14 percent unemployment.

Quite a few all-cash buyers are ready to jump on such bargain-rate opportunities, but Hale and other deal-makers would like to see more lenders face up to reality and book their losses via foreclosure and short sales. However, the reality is that many remain reluctant to do so because they foresee - however unrealistically - a relatively robust recovery ahead.

"We're fighting that mentality for now," Hale laments.

Another issue hindering small-balance deal-making here is that many would-be buyers are still struggling to finance investments in the $3 million vicinity, Hale relates. "Many of them thought their banking relationships would come through, but ended up being disappointed."

But perhaps the biggest problem is the fear of pulling the trigger under ugly market conditions that by many measures have only continued to deteriorate so far this year.

Indeed, Boxwood Means reports that small cap office, retail and industrial rents in the Inland Empire all fell by more than 9 percent in the first quarter alone. And at the end of March the market's overall business vacancy rate of 11.3 percent was about a half-point higher than the national average of 10.8.

Data appear to indicate the Empire's dominant industrial market is stabilizing, while the office and retail sectors probably have a ways to go before seeing any marked improvement, Hale acknowledges.

Meanwhile investors continue jumping on a variety of small-balance distress-related opportunities.

Through a foreclosure sale, a group out of L.A. operating as Legend Apex was able to buy 36 unsold units in the 40-unit Arrow Terrace condo development in Rialto for $3.8 million - which factors to $105,500 per and roughly 40 percent of the previous debt balance. Hard replacement costs alone are estimated at $200,000 per unit.

In another foreclosure sale, a group headed by hotelier Chandrakant Patel bought the shuttered 50-key Block at Big Bear resort hotel, which had catered to Big Bear Lake snow-boarders. Appraised at $4 million in 2006, the property was listed for $2 million.

And, predictably, users looking to upgrade facilities at attractive prices are acquiring smallish Inland Empire industrial and flex-type properties, frequently tapping Small Business Administration financing programs, Hale notes.

A case in point: auto parts importer Procomp Electronics is expanding into the new, LEED Silver-certified 71,200-square-foot facility it just bought in Rialto for $3.83 million, or about $53 per foot, from developer Overton Moore Properties.

And the owners of bicycle retailer Jenson USA just bought a 73,875-square-foot, 2006-vintage building within Riverside's Sycamore Business Park for $3.32 million, or $45 per foot. The property had been listed for more than twice that price just last year when it was fully leased to General Trade & Technology.

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