With the latest economic expansion heading into its 10th year, industrial real estate both nationally and in Portland are showing the most resiliency of almost any commercial real estate product type – yes, better than office, multi-family, tech and definitely retail, but it is always a city or region-by-region sort of calculation. While the current industrial market in Portland is sunny and pleasant there are some clouds lingering about that could be a passing haze or maybe a precursor of at least an intermittent rain shower, and hopefully not turn into a storm, as the first half of the year showed negative net absorption (at least that is what 3 out of 4 major brokerages showed).
This is because leasing of both new and recycled existing industrial space is slowing with some big huge empty buildings lingering on the market that were completed last year, and over a million square feet of new product is slated to hit the market in the next 6 months, which has led to rental rates slowing or stopping their march over the last few years.
To illustrate, two projects stand out as examples that have been slow to find tenants that are now coming up on two years after completion. Next to each other in Gresham, both are on the Port of Portland land they bought years ago from chipmaker LSI. Specht Development’s 730,000 sf behemoth project Vista Logistics with partner New York life got a bit of a life raft with a 300,000 sf lease to Medline last fall, and a recent 113, 000 sf lease with Imperial Brown, but still is 25% vacant. Additionally Trammell Crow has a very similar project across the truck court from Specht and though they have completed a couple of leases they still are at 50% leased, again over 16 months after completion. In fact, Trammell and its partner exited out of the project just recently with a sale of this 540,000 sf to Exeter Property Group at a healthy $112.00 psf… not a great sign of confidence.
Even if leasing regains its footing somewhat, there is another 1.3 million square feet coming on the market by the Q2 of next year, and additionally another 600,000 sf plus of somewhat older but very functional space in existing business parks sitting there vacant at rates up to 20% under the new stuff. And as a developer in-the-know related recently, “There just seems to be a bit of a lull in some larger industrial requirements in the market, and those larger requirements will have multiple options, and especially now with some older last cycle projects having some big holes like the Solopower space in Rivergate, and Columbia Distributing in Northwest, that can deliver space cheaper than all the new product, it can look like a glut of industrial space at the moment.”
Todd Shaeffer of Specht was a bit more rosy. “I agree that lease up is probably a bit slower than expected but Portland is a fits and starts market where you may seem some lulls but are often followed by strong bursts of leasing. We we are seeing strong regular interest so no reason to panic.”
Specht who had their Gresham project on the market earlier this year then pulled it is taking their bullishness a bit further as they are looking to construct a bomber building on their long held industrial site in Woodburn next year.
All of this new space like much of the development since coming out of the recession are mostly the “big bomber” logistics or distribution tilt product, with much of it catering to users over 100,000 sf and in many cases buildings that are surging close to 400,000 sf to get that big sort of whopper that really had not been a big part of the Portland market previously.
Not to worry too much for developers with this temporary leasing hiccup, because industrial shell rental rates have increased by over 50% since coming out of the recession, and depending on your geography, Portland industrial shell rates have touched an asking rate of $.60 psf on some projects, with most in the mid to high $.50’s psf (the older spaces often dip into the high $.40’s psf). This reflects both increasing demand and rising costs across the board from significant increases in land pricing (more about that later), steadily increasing construction costs (which are finally subsiding) and of course permitting and SDC costs which always are on a slow upward trajectory. This is far from the high $.30’s and low $.40’s psf rates of not too many years ago and has been a big impetus for considerable institutional money flowing into industrial real estate along with e-commerce demand and the Last Mile Distribution movement. Even with these cost increases, industrial product is still is showing better market returns than many other product types, and not to mention the simplicity and much reduced brain damage of industrial project development and management with easy concrete tilt construction, and usually several large tenants with fairly minor improvements versus the TI’s nightmare of office and the 200-300 tenant lease up of larger apartment projects.
Net absorption as mentioned previously for the first half of the year turned negative when looking at research from the five major brokerages that actively track industrial leasing activity, and again the disparities in the numbers is sometimes head scratching – from just under 100,000 sf of net absorption (Colliers) to a negative high of 680,000 sf (Kidder). Then throw in JLL at 850,000 of positive YTD positive absorption.What the F? Go figure. They do come together on vacancy rates where rates go from a low of 3.3% up to just north of 4%, which the guys with nice slicked back hair and the pocket squares sitting in glassy high rises managing the mountains of institutional money love. In my mind this is a bit of a misnomer as a statistic tracking vacancy of all space built in the last 10 years would be more interesting and good aspect of health of the industrial market and of course would be significantly higher vacancy number.
The question then is… will anemic net absorption continue and will vacancy rates creep up as caution among large industrial users who see this economic expansion in the later innings look at tempering their commitment to new or consolidated space when probabilities of a slow-down in the next few years increases?? For the first time in three years manufacturing in the US has contracted in August, capex for companies has been slowly declining since spring and the trade war looks to continue and is really creeping into the minds of the industrial sector.
New Construction is still Coming with the following projects delivering here by end of year with Blue Lake Corporate probably being more Q1 2020. All of these projects are geared more towards the distribution/logistics users stacking product to the stratosphere in ceiling heights up to 36’, but three of the projects have “little brother” buildings that could cater more towards smaller users, potentially of light manufacturing, and deals in the 50-100,000 sf range. Almost everything is located on Portland’s eastside with a couple of smaller projects on the westside but I will highlight the larger developments.
Portland Portal Industrial Center: This two building project of 340,000 sf is sitting on a hill up against I-84 at NE 172nd and Sandy and is a project from long time west coast developer Pannatoni who bought the land from Weston Investment and had some challenging site costs. It should be all painted and ready early this summer.
The Cubes (interesting name) is out in Troutdale across the street from the massive FedEX and Amazon centers and the first Portland project by St. Louis based national developer CRG and is 350,000 sf in one building looking for the one big user and slated for completion in September.
Clackamas Corporate Park: This 280,000 sf two building development is by “tried and true” long time developer, Trammell Crow who is by far the biggest fish in our pond in industrial development in Portland this cycle, and for many years now, and is located in Clackamas. The roofs are on for delivery in the next month or two, and this has a bit more flexible layout as they can break space down into the 50-60,000 sf range.
Blue Lake Corporate Park: Another Trammell Crow beauty, with 460,000 sf in two buildings being built on a former farm with a Gresham address, is bringing up the rear delivery-wise with an early 2020 finish. There is one large building at 378,000 again geared towards that one big, sought after (and rare) one user, and another 85,000 sf building for smaller users.
Industrial Building Values Strong: Values are continuing to be strong for almost any sort of industrial warehouse buildings as demand outpaces supply, thus pressuring prices upward for concrete tilt warehouses metro wide.
Since industrial buildings come is lots of shapes; sizes; ages; amenities (loading; power; ceiling heights), along with differing building to land ratios, it is hard to make those much sought after “blanket” analyses on values but I will give it try with a bit of qualification.
The most sought after warehouse size, especially for users, is in that 10,000-40,000 sf concrete tilt building with decent loading (dock/grade), 3 Phase power, good open layout, minimum ceiling heights of 16’ (higher the better), then a maximum of 40% building-to-land ratio with more land the better, and all located within a few miles of good transportation connections.
Age is a factor, but if it is a concrete tilt building and kept in good shape there is not much valuation difference between a building that say is 15 years old and one that is 40. These types of facilities have basically doubled in value since coming out of the recession, where a valuation parameter is somewhere in the $120-$150 psf. The closer to the core of Portland numbers go up and can hit $200 sf plus in the close-in eastside or northwest. There are some newer buildings being developed by smaller, nimble developers who are delivering state-of-the-art buildings up in the $17-$180 psf range, mainly in Columbia Corridor or down in the south I-5 market.
These are almost always user driven purchases but we are starting to see aggressive, mostly local, investors trying to pick up these properties but need to drive pricing a bit lower to take into account lease up risk and costs.
Here is a good example. I am selling a classic but a bit tired older 1950’s bow-strung 25,000 sf rectangular warehouse with dock/grade loading, decent power, 16’ ceilings with very little additional land for parking or yard located on NE Columbia Blvd (considered somewhat close-in) that was sold for $60 psf in 2007 to an owner/user. It will trade here this winter for $130 psf with very little investment in the building and tenant will need to invest upwards of $25 psf to bring into shape for his use.
Institutional players such as REITs, Private equity or real estate asset management firms, Life Companies, High net worth, or family offices and more, have newer leased industrial projects at the top of their acquisition lists and it seems the bigger the better. They are pushing cap rates below 5% in some cases which is a large part of what is driving development because of this very attractive exit option and also the lack of TI investments and management they like for industrial over apartments and office.
A good example is now not-too-recent purchase of the 492,000 sf Interstate Crossroads project off Airport Way to Canadian REIT WPT for $114.00 sf at a sub 5% capitalization in 2017. That project was leased to two large, quality national tenants, LKQ and Staples, which always helps move the cap rate down. Dermody just did a major portfolio sale to Colony Capital (Trump’s buddy, Tom Barrack) of 54 properties for over $1 billion with two properties totaling close to 700,000 sf in Portland being in the basket that showed a $115 psf price.
One good indicator of how desirable industrial warehouse product is the fact some firms will buy partially empty newer product without too much price concession for this vacancy. This is validated by Trammell’s sale to Exeter Group of their Glisan Corporate Center for $112 psf at just over 50% leased… developers looking for a quicker value-add than the laborious ground-up process are also snapping up older warehouses, but need to get into the $50-$70’s psf to take into account “repositioning” costs, especially if the buildings are a bit tired or does not have those sought after amenities. Good examples are Dermody buying the Boyds Coffee productions and HQ facility (295,000 sf) on NE Sandy for $65 psf, and the Specht Development buy of the huge (1,000,000 sf) older SuperValue warehouse in Milwaukie for $48.00 psf.
There is just lots of money washing around for commercial real estate right now as many of the big money groups see tangible assets like commercial real estate with good fundamentals (size, location, city, demand and more) as just safer long term investments, especially in light of a very volatile (and many think overpriced) stock market, Inverted yield curves, and then throw in slowing economies in Asian and the EU, trade wars and just the fact many believe at over 10 years we are in the longest expansion in history, and rotation out of volatile equities to more stable (but ill-liquid) commercial real estate is not too surprising.
Industrial Land Disappearing…Pricing has Doubled Since Recession.
This is kind of interesting as the city of Portland, as well as suburban communities, have voiced an on-going concern (and rightly so) of our diminishing lack of decent-sized industrial land, in which to retain and recruit new investment and businesses and thus maintain or increase employment. Hemmed in by rivers, hills, greenspaces and the noose of the Urban Growth Boundary, Portland has a real problem with industrial land supply now and far into the future. Everyone in the industrial development game and business interests, along with support from the city and Prosper Portland, has been banging this drum for over a decade, but there are just few viable options to increase supply.
There is just nowhere to go, which has led many firms to looks north as far as Woodland and Longview, and South to Canby and Woodburn, and to Salem, which is experiencing a bit of surge of industrial development west of I-5 along Hwy 22 with a big new Amazon center, and vaunted developer Pactrust plodding along in their successful fashion on a multi-building business park development.
There is also a not so new industrial development movement centered around the “Last Mile” that is gaining acceptance, which is driven mostly by the explosion in e-commerce, with of course Mr. Bezos being a bit of the instigator. It is leading to logistics firms and developers to find smaller and obviously more expensive core industrial sites, where industrial warehouses fill with products that are closer to the customer and then delivered by smaller vehicles (Sprinter Vans and the like) in a much more time sensitive manner which customers are demanding. “I want it now!”
This has led to some recent core industrial sites going for some bigger numbers to play into this logistics thinking such as the recent sale of 35 acres of industrial land off North Columbia Blvd to new market developer Bridge Development out of Chicago. Located on a former landfill with tons of site issues and the need for a quick close, this site hit the market late last summer and had multiple offers and closed at a price just under $12 psf but people in the know who dug into the site think there could be up to $5.00 psf in additional costs putting the development-ready price into the $16.00 plus psf range. Many like me who have been around for a few years, get a bit incredulous on these land numbers but given this Last Mile distribution thinking and rental rate appreciation and insatiable appetite by investors for industrial real estate, obviously these pros can still make their performas work at this higher land number and are more than willing to make the “bet”.
This industrial land number was further confirmed on a user sale of 32 acres that is slated to be sold down the street on North Columbia Blvd., which will crest at just under $15.00 psf.
Even suburban sites are seeing some rather stiff land pricing, as I was having beers with a friend who has been involved in industrial development for many years and just joined a new company to Portland, and sheepishly admitted they are paying close to $12 for a 8 acre site in Tualatin.
Along these same lines is one of the worse kept rumors of Prologis, the largest industrial developer in the world, working on closing the huge 110 acre Portland Meadows property for a similar sort of huge core industrial project with the size and type of development being still unknown, but could, under the current zoning, accommodate over 2,500,000 sf of space. They are working their way through the byzantine city stuff and site analysis for a closing later this year.
And this just in, Prologis has the huge 100 acre Freeway land site off 205 and Foster under contract, which has a bunch of slovenly buildings and “hard” industrial users, not to mention that Johnson Creek meanders through much of the property, which shows how even marginal industrial land sites are in favor in a market with no inventory.
Though both deals probably won’t hit the numbers psf mentioned above given the huge size and all the on-site investment in utilities, roads and more needed to develop these site, it goes to show the still strong demand for industrial land in Portland, and with developers (and users like Amazon, too) sucking up big chunks of industrial land for development in the last few years.
After this latest industrial land rush continues it is quite worrisome how sparse our industrial land future looks, which does not bode well for future job and company recruitment into Portland proper. Everyone is hoping for a tick up in leasing activity for warehouse space, but it will be interesting to check in towards the end of the year when even more industrial space hits the market, to see if this is a customary Oregon drizzle or something a bit more “stormy” is in the works. Come talk to me in January….