Non-credit industrial tenants might not even be able to buy their way into an industrial property. Industrial vacancy rates are at record lows and the supply shortage has driven rental rates to record highs. With users competing for industrial space, owners are beginning to prefer credit tenants to a top-dollar rental bid. Credit tenants are lower risk, and could be worth forgoing a little rent for security.
“A credit tenant is a lower default risk, which can increase a property’s value and insulate the landlord from any future market volatility,” Rick Ellison, executive managing director of industrial brokerage and global supply chain solutions at Cushman & Wakefield, tells GlobeSt.com. “I think it boils down to the fact that landlords have a choice. It’s become common for multiple tenants to compete for the same availability. Landlords are choosing their best option.”
For a landlord to choose rent over credit, the rental rate would need to offset the risk, and with record rental rates that continue to rise, landlords will likely secure healthy rents even at a lower rate. “The rent premium would need to make up for the quality differential and there would need to be a reasonable degree of confidence that the tenant will perform,” says Ellison. “Generally speaking, in a normal market, a landlord might consider a slightly lower rent from the better quality tenant but in this market landlords are attracting the higher quality tenant without discounting the rent. In a weaker market landlords consider lower quality tenants because they aren’t confident a higher quality tenant is around the corner and they want to fill the vacancy.”
This is a trend throughout Southern California, for example — particularly in markets like Los Angeles and Orange County, where the vacancy rate is inching close to 1%. “The trend is most evident in L.A. and Orange County, which we commonly refer to as the infill markets because of the maturity of these markets and limited supply of undeveloped land,” adds Ellison. “The vacancy rate in these markets is less the 2%. It’s the tightest industrial market in the nation.”
While landlords prefer credit tenants, this doesn’t mean the non-credit tenants are out of luck, but rather that competition will be challenging. “Tenants should be in dialogue with their landlord and evaluating their options 18 months before their leases expire,” Ellison recommends to non-credit tenants. “Too often tenants are caught off guard by their impending lease and are surprised by how much rents have increased. We see tenants sometimes missing an early opportunity to extend because they rejected a proposal from their landlord. They assume the offer unreasonable when in reality it isn’t. By the time they realize it the landlord has moved on.”