Overview of the Moscow Retail Centers Market

General Overview In 2009, for the first time in the modern history of Russia, The Russian people reduced their consumer spending, focusing on savings and on the repayment of previously obtained loans. This was reflected in the revenues of retail operators, even though the long-term trend is positive for the retail market – the reduction of debts and increased savings will contribute to rapid recovery of consumer demand once the economic situation stabilizes. According to 2009 figures, the retail sales turnover in Russia has, according to the Federal State Statistics Service, decreased by 5.5% compared to the same period of 2008, and totaled 14.5 trillion rubles. Taking into account that in 2008 the growth in goods turnover was more than 13% compared with 2007, the current drop can be considered as quite serious.

However, the forecasted reduction in consumer income, which had been growing at 12-13% annually in the pre-crisis years, has not fully come true. Instead of the forecasted decline, the real disposable monetary income of Russians, according to 2009 figures, demonstrated an increase of almost 2%.

The problems of retailers, which became evident in 2008 and developed more in 2009 are connected not only with a decrease in consumer demand, but also with the high dependence of this sector on borrowed funds, which today are extremely hard to come by. The forced stopping of development by retailers, as well as the withdrawal of some of the players from the market, has led to an increasing number of empty premises in retail centers Russia-wide, and as a consequence, to decreasing leasing rates.

Nevertheless, in the second half of 2009, after retailers adapted to the new economic situation, the demand for retail areas started to rise again. Consequently, in the 4th quarter of 2009, leasing rates started to stabilize. There was a decline in vacancy rates, despite the fact that several large commercial properties were commissioned.

However, this stabilization occurred only in the Moscow retail market - the situation in the regional cities is still very difficult - the majority of retailers have reduced their plans for expansion into regions, focusing rather on the capital city market.

Even with the crisis, the number of international retailers entering the Russian market keeps growing. As of today, the list includes such global largest brands as H & M, Gap, Bebe, River Island, IKKS, Coast, Ipekyol, New look, Gap, Nucleo, Centro, Fun City, Lindex, Kika, Burger King, etc. In the summer of 2009, the long-awaited arrival of the French network Carrefour happened. Anyway, as soon as in October of 2009, the retailer announced plans to terminate its business development in the country. All Carrefour stores in Russia were closed. The expected business expansion of a major British toys store chain, Hamleys, never took place in Russia either. The company was unable to reach an agreement with its Russian counterpart FDLab on the terms of cooperation.

In the near future, expectations are that the Russian range of international brands will be supplemented by such brands as Debenhams, Harvey Nichols, Habitat, Sainsbury’s, Tally Weijl, Li Ning, Naisten Pukutehdas Oy, Payless Shoes, and others.

Today, major international operators demonstrate a number of advantages over their Russian competition, one of the most important of these is the access to Western capital sources, where interest rates are several times lower than the cost of borrowed Russian money. In addition, the reduced leasing rates and availability of choice and quality retail areas opens the way for many Western retailers who previously avoided Russia because of the exorbitant rental rates and a shortage of retail areas meeting international quality standards.

Supply Despite the difficult economic situation, which has put some limits on financing of construction as well as purchasing activities, record volume of new retail premises were launched on the Moscow market in 2009. Many large-scale projects were commissioned, such as Metropolis, Golden Babylon, Gorod and Filion. These had passed “the point of no return” before the crisis, and a stoppage of their development would have been economically disastrous for their developers.

According to Magazin Magazinov in association with CB Richard Ellis, the combined total area of the newly commissioned modern retail centers totaled 895,400 sq m (GLA – 489,400 sq m) in 2009. The total volume of the supply of quality retail properties in Moscow, according to Colliers International, stood at 4,857,000 sq m (total area), 2,538,000 sq m (GLA).

The commissioning of several major projects has been planned for 2010 - the Kashirsky Mall, Gagarinsky, Mall of Russia, Hudson River, etc. According to Jones Lang LaSalle, the total area of the facilities that should be commissioned in 2010 is more than 1.3 million sq m - GLA of more than 750,000 sq m. At the same time, it is possible that, due to financial problems, as well as in anticipation of growth in consumer activity, a number of developers will postpone the commissioning of their facilities.

Demand Staring at the end of 2008, and during the first half of 2009, there has been low activity on the part of retail operators, and consequently a reduction in the demand for shopping center areas. However, by the autumn of 2009, many tenants were becoming more active.

The number of leasing agreements increased. All this has led to a decrease in vacancy rates in Russia’s retail centers and as a consequence, leasing rates stopped dropping, and in some of the most successful projects, they started to increase slightly.

Another important trend of the last year was the differentiation of indicators that related to quality retail centers and lower quality and poorly thought out projects. Market participants have noted an increased rotation of tenants even in the most successful retail projects (Atrium, Evropeysky, Metropolis and others), which, however, has not lead to a significant reduction in rental incomes. Moreover, due to the increased demand, many owners of successful retail centers stopped providing discounts and making other concessions to tenants in the second half of 2009.

Such premises still have waiting lists of tenants. At the same time, owners of the less successful projects are facing a significant increase in vacancy rates and are forced to make major concessions to tenants in terms of leasing rates and payment schemes.

In 2009, the level of vacant premises in Moscow fluctuated, reaching its historical peak by mid-year - according to Colliers International, this figure reached 15%. In the fall along with the general rally in the market, the vacancy rate in Moscow reduced, and by the end of the year it stabilized at around 5-7%. At the same time, a noticeable trend was the opening of retail centers with half-empty shopping galleries, stores that were not ready for operation when the premises opened for business. This occurs due to delays in project time schedule, as well as because many retailers lack funds for the project implementation.

Rates and Investments According to Jones Lang LaSalle, the share of investments in retail centers went down from 23% in 2008 to 8% in 2009, and a significant number of transactions related to acquisition of assets by the banks for unpaid loans.

Last year, the market saw only a few retail properties on sale - two retail centers in Novosibirsk (Kalina and Omega Plaza), one in St. Petersburg (the Great Furniture Center).

In Moscow, several properties were purchased by the Tashir Group. The developer bought from the Avenue Group the Tryapka Retail Center, which was built on the Leningradskoe Highway, Tashir also bought out the share in the Seventh Continent and in the Chocolate retail and entertainment center project in Reutovo near Moscow. In 2010, the company has acquired the Europark retail center on Rublevskoye Highway by purchasing the loan commitments granted to the owner on security of the property. Retail real estate is still attractive to investors, but successful retail centers, being a source of stable income, are generally not being sold by their owners.

Reduction of leasing rates on Russia’s retail real estate market began in late 2008. By mid-2009, the decline in the rates averaged between 30% to 50% in USD terms, according to Colliers International. At the same time, in successful retail centers leasing rates dropped by less than 10%, while in badly located retail centers with a poor development concept, the decline was 50% or more.

An important trend in price calculation during the crisis has been the transition to the leasing rate calculations based on a percentage of total sales or combined calculation systems. In the middle of 2009, the fixed part of the leasing rate was extremely low, and today this is becoming more substantial. We can suggest that the willingness of property owners to make concessions to tenants has been decreasing.

Moreover, in late 2009 the owners of successful retail centers ceased to offer discounts to tenants. This trend shows that the highest quality retail center sub-segment has probably survived the crisis.

Trends • Consumers are becoming more cautious in their spending, directing funds towards savings and repayment of loans, which, in turn, leads to a reduction in revenues of retail operators;

• Retailers have curtailed their plans for regional business development, focusing exclusively on the Moscow and St. Petersburg markets;

• The number of vacant premises in Moscow retail centers has declined compared with the maximum indicators achieved in mid-2009;

• New retail facilities keep coming to the market with partially operating shopping galleries. The remaining stores often open only when the whole project finishes;

• There are less and less concessions to tenants taking place on the market: owners of the most successful retail premises are no longer willing to make considerable concessions to tenants.

Forecasts Despite the positive changes in the moods of the market participants, for now we can only talk about some stabilization on the retail property market. The notable increase in leasing rates is likely to begin in some 1.5 to 2 years, while the growth of the new supply keeps decreasing. After the remaining “pre-crisis” retail facilities are launched on the marked, we expect a break in the commissioning of new retail premises - the experts note that, taking into account the sluggishness of the real estate market in general, the new, “post-crisis” projects in mass will not open until 2012. On the other hand, in case the domestic economy stabilizes, the ongoing year may become the beginning of a new rally in the commercial real estate market.

In the short term, experts do not exclude to see some growth (5-10%) in leasing rates, particularly for the well-located and high-quality projects. At the same time, the number of the retail premises planned for commissioning in 2010, allows us to forecast a slight increase in vacancy rates that would dampen the upward trend in leasing rates. Availability of vacant areas at reasonable rates will ease the further entry of international retail operators onto the Russian market.