Industrial

Industrial Revs Up

A broad-based recovery gains momentum.

Despite some hiccups in the industrial market earlier in the year - due in part to labor disputes at key California ports - the sector is back on track and moving full steam ahead.

Continued improvement in the economy has lifted all property types, and industrial is no exception. The industrial recovery continues to expand across multiple industries, geographic markets, and property types. “It is a very broad-based recovery,” says Ryan Severino, CFA, senior economist and director of research at Reis Inc. in New York City.

Despite some hiccups in the industrial market earlier in the year - due in part to labor disputes at key California ports - the sector is back on track and moving full steam ahead.

Continued improvement in the economy has lifted all property types, and industrial is no exception. The industrial recovery continues to expand across multiple industries, geographic markets, and property types. “It is a very broad-based recovery,” says Ryan Severino, CFA, senior economist and director of research at Reis Inc. in New York City.

Looking back a year ago, it was still a recovery that was relatively concentrated in larger properties, such as big box distribution centers. But, in the past six to 12 months, demand has started to come back across the board, even among some of the smaller buildings and a larger number of markets across the country. “It is not just a handful of markets that are driving the train and everybody else is following along. There are a good number of markets that are performing well these days,” Severino says.

That recovery is translating into greater absorption of space. The vacancy rate for warehouse/distribution space declined a further 20 basis points to reach 10.8 percent at the end of second quarter. Vacancy rates are now 340 bps below their recession peak of 14.2 percent in 2010, according to Reis. Effective rents in that sector also rose 2.5 percent in 2Q15 compared to a year ago. In the flex/R&D space, vacancies declined 100 bps YOY in 2Q15 to reach 12.3 percent, while effective rents improved by 2.3 percent, according to Reis.

“We have seen acceleration in the improvement of fundamentals in terms of how vacancies and rents have been trending, and I think that will persist for a while,” Severino says. “So, even stronger times are ahead over the next couple of years.”

Landlord's Market?

The industrial sector is not yet at the point where the national market could be characterized as a landlord's market. However, conditions in a number of individual markets are clearly swinging back in favor of landlords.

Economic expansion is feeding a robust pipeline of deals for lease transactions, build-to-suits, and spec development across many U.S. markets. “I would characterize our industrial leasing market as hot. We have already seen over 4 million square feet announced in new deals in 2015, and there are several large users out in the market now that will sign this year,” says Brian Young, CCIM, SIOR, a managing broker at Cushman & Wakefield/Thalhimer in Greenville, S.C.

That demand for space has contributed to improving fundamentals, including falling vacancies and rising rents. Overall, rents for all industrial asset classes in the Greenville/Spartanburg market have increased by 30 to 40 percent from their 2011 lows. The market also has historically low vacancy at around 7.5 percent, with an unprecedented amount of spec space currently under construction or recently delivered - about 1.5 million sf, notes Young.

Cushman & Wakefield/Thalhimer recently represented a tenant looking for 150,000 sf. The company had three buildings leased out from under them. The firm ended up doing a three-year lease on their fourth option even though the building was twice as far from their desired location. “This was a decent building for the tenant. However, it was a real win for the landlord who was able to stabilize the asset,” Young says. The building had been historically vacant or under leased for the past decade.

The local industrial market for flex space is “red hot” around the Dallas-Fort Worth Airport, including surrounding communities such as Grapevine, Coppell, and Southlake, Texas, according to Russell Webb, CCIM, a managing partner at Silver Oak Commercial Realty in Southlake. “There are a ton of smaller flex users, and there is just not enough inventory,” Webb says. In particular, there is high demand and virtually no property available for sale or lease in the 3,000- to 10,000-sf range.

People want to be close to the airport, and that region also is centrally located within the Metroplex, Webb says. Smaller buildings available for purchase are especially hard to find. For example, Webb sold a small 10,000-sf metal building in Lewisville, Texas, in late 2014 that was only on the market for three weeks. “Finding single tenant or even multi-tenant buildings is very, very thin,” he says. However, tenants do have more options for larger blocks of space above 10,000 sf, and there will be new options coming online in 2015 due to current new construction.

Multiple Growth Factors

Different sources are fueling the growing appetite for space. Fracking has been a source of growth in Ohio. The expansion of the Panama Canal is sparking a surge of activity in port cities along the Southeast and East Coast. Distribution is thriving, especially as e-commerce retailers and fulfillment centers jockey for position to deliver products to consumers very quickly.

Manufacturing activity has been rebounding in the wake of the recession. There also is a growing trend of re-shoring manufacturing that is spurring demand, particularly for advanced manufacturing, such as injection molding. “I think where you are seeing manufacturing come back is automotive, tech, or areas that require a higher level of education or precision,” says Mike Ferrer, CCIM, vice president, office and industrial brokerage at Lincoln Harris in Charleston, S.C. “Being a right-to-work state also has attracted interest to our area.”

This spring, Charleston saw two big automotive announcements. Daimler Chrysler is committing $500 million to expand an existing manufacturing plant that would add another 1,000 jobs. Volvo also recently announced that it will build its first North American manufacturing plant in the Charleston area. Phase one of that project calls for a $500 million investment that would create 2,000 jobs.

Economic activity in the manufacturing sector expanded in June for the 30th consecutive month with the PMI now at 53.5 percent, which is up 0.7 percent over the May level. Although there are clearly some weakness in oil and gas-related sectors, 11 of the 18 manufacturing indexes reported growth in June. Transportation equipment is among those sectors reporting positive growth, and automotive manufacturing in particular has seen its production levels rebound steadily. Automotive production in the U.S. totaled 11.6 million, including both cars and commercial vehicles, which represents a 5.4 percent YOY increase, according to data from the International Organization of Motor Vehicle Manufacturers.

Charleston has a number of factors at work in its market. In addition to aviation and auto manufacturing, the area has gotten a boost from activity at the Port of Charleston and a rebound in its housing market where new housing starts have been triple the national average. Smaller metal buildings less than 50,000 sf are getting gobbled up by companies that support residential building, such as HVAC suppliers, sheetrock contractors, and specialty flooring companies. “I have probably done six to eight leases this year alone to companies in those businesses that are looking to keep up with the housing boom in the region,” Ferrer says.

The Port of Charleston makes Charleston an attractive hub for third-party logistics providers. Activity is on the rise with the Panama Canal's latest expansion phase. The Panama Canal is in the process of adding a third set of locks that will allow it to accommodate larger vessels. The third lock project is set to open in April 2016 and is expected to bring more shipping traffic to southeastern ports.

Charleston currently has a project underway to dredge its 48-foot harbor to a depth of 52 feet to allow access for bigger and heavier ships. “This will give us a competitive advantage in the region,” Ferrer says. Other ports such as Savannah, Ga., and Miami are also making efforts to deepen their harbors.

Construction on the Rise

One sure sign that the industrial market is once again firing on all cylinders is the return of speculative development. An estimated 75 million sf of new warehouse/distribution space will be built this year. That is a little more than 2014, but net absorption is expected to exceed that. “So, even with construction ramping up relative to where it has been in the last two years, I would still expect to see vacancy rates trending down just because I think demand is going to be robust,” Severino says.

Since the Great Recession, Kansas City, Mo., has seen over 5.9 million sf of speculative industrial space hit the market with another 4.4 million sf currently under construction. To date, 5.3 million sf has already been absorbed.

“Even more astounding for our conservative marketplace is the fact that if we combine build-to-suits with Kansas City's overall spec numbers, then we have witnessed over 13.5 million sf of new class A industrial space come online since the recovery,” says Joseph Orscheln, CCIM, vice president, industrial properties at CBRE in Kansas City. “This significantly shows developers and institutional investors' overall confidence in Kansas City.”

Even at the height of the market before the downturn, Kansas City was not prone to overbuilding. Often competing with other Midwestern locations such as Dallas, Memphis, Chicago, and Indianapolis, Kansas City tended to get passed over because it didn't have the available bulk spec space found in the other markets. “Now we are in the game and on the radar,” Orscheln says.

Developers are also creating much needed modern space for users. Although Kansas City is home to a sizable industrial market of some 250 million sf, only about 15 percent is state-of-the-art space. Strong demand for that higher quality modern space will continue to fuel spec development activity in the near term, notes Orscheln. Much of Kansas City's spec building is bulk facilities larger than 300,000 sf with 28-foot clear heights or higher that are equipped with the latest in building amenities.

As in Kansas City, the pipeline of spec projects is growing around the country. “We're very excited about the return of speculative development here in Charleston,” Ferrer says. As of midyear, developers had announced four spec projects for big box distribution facilities that are 200,000 sf or larger. In Charleston, developers are looking to build modern facilities with 32-foot clear heights.

Despite rising construction activity, new supply remains in check. “We are not near a point in the cycle where I worry that, at least in aggregate, we are going to develop too much,” says Severino. There is still good demand relative to the new supply of space that is coming online, he adds. “The major issue is the macroeconomic outlook. As long as that remains relatively optimistic, then this sector should behave pretty well.”
 
 

Beth Mattson-Teig is a business writer based in Minneapolis.

 

by Beth Mattson-Teig

Buyers ranging from foreign sovereign wealth funds to local owner-operators are chasing industrial properties.

“Deal flow is very strong. Across the board we are seeing excellent activity,” says John Joyce, CCIM, a principal at Transwestern in Rosemont, Ill. In the Chicago metro warehouse and distribution facilities are hot, and there also is strong demand for refrigerated facilities that can handle food storage. On the owner-occupied side, manufacturing companies and light assembly firms also are expanding and looking to acquire or develop buildings to accommodate their growth or consolidation, Joyce adds.

Industrial sales year-to-date through May totaled $8.0 billion, which is up about 30 percent compared to the almost $6.2 billion that occurred during the same period in 2014, according to data from Real Capital Analytics. In fact, one of the biggest complaints from investors and brokers alike is lack of good product on the market, particularly modern, institutional quality facilities.

“Every other week we have an institutional investor coming to town wanting to talk about investment opportunities. Unfortunately, we just don’t have a lot to present to them. If there were, I think there would be great competition for those opportunities,” says Joseph Orscheln, CCIM, vice president, industrial properties at CBRE in Kansas City, Mo.

That buyer demand also is sparking more activity on the portfolio side as some owners are capitalizing on premium pricing and recycling capital for new ventures. One of the most high profile deals this year was the $8.1 billion sale of the 117 million-sf IndCor Properties portfolio that included properties in 29 markets. Singapore sovereign wealth fund GIC bought the portfolio and operating company IndCor from Blackstone in first quarter.

Institutions are also seeking buying opportunities in solid second tier markets as they look to boost yields and diversify portfolios. For example, a number of portfolio deals have traded in Richmond, Va., this year. Earlier this spring, First Potomac Realty Trust sold an 827,000-sf portfolio of properties that included both office and flex properties to New York-based Baker Properties for $60.3 million. “These larger institutional companies are gaining more confidence in the Richmond area, which is probably typical of some other markets,” says Richard W. Porter, CCIM, Porter Realty Co./Corfac International in Richmond.

That investor interest also reflects the economic expansion occurring within smaller markets. Traditionally, Richmond has been a place where a lot of the growth has been generated internally. “Now we are seeing some of these projects coming from outside of Richmond that are much bigger scale,” Porter says. Richmond is less than two hours from Washington, D.C., and about 90 minutes from the Norfolk, Va., port. It also is situated on I-95, a major north-south thoroughfare on the East Coast. “Richmond is strategically located, and it is poised to see much more growth,” Porter says.

The limited supply of for-sale properties coupled with heavy demand from local, national, and international investors is putting pressure on pricing. Nationally, the average capitalization rates for sales this year through May was at 6.5 percent for warehouse properties and 7.3 percent for flex properties, according to RCA. “The competition is pretty fierce,” Joyce says. For example, class A industrial properties in Chicago are trading at cap rates below 6 percent.

The Chicago industrial market did not recover as quickly as markets on the East and West coasts, and rent growth in Chicago had been nonexistent until the last 18 to 24 months. “So, buyers view Chicago as relatively inexpensive,” Joyce says. Institutional buyers in particular are shopping for properties in Chicago where the yields are higher than in other markets such as Southern California or New Jersey, he says. “I am very bullish on leasing and investment sales activity in our market for the next 12 months, maybe even the next 24 months.”

 

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Beth Mattson-Teig

Beth Mattson-Teig is a business writer based in Minneapolis.

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