Q4: What's In Industrial's Store

[IMGCAP(1)]

NEWPORT BEACH, CA-Heading into the fourth quarter of 2013, there are a number of industry trends that real estate professionals must keep in mind. As the current cycle pushes its way into full gear, managing directors at Voit Real Estate Services exclusively weighed in on what Q4 will have in store for investors, owners, and operators of commercial properties:

Mark Read, executive managing director overseeing Voit's Irvine, Los Angeles, and Inland Empire operations, says that Q4 is likely to bring positive job growth and rent growth—a trend that is apt to stick around for the next three years.

“In the current market, strong job growth throughout the Southwest is fueling residential real estate construction and the absorption of industrial and retail space,” says Read.  “Aggressive capital sources are competing for CRE investments (both equity and debt) as investors seek yield in stable properties with upside.”

Chris Wood, executive managing director overseeing Voit's San Diego, Phoenix and Las Vegas operations agrees, saying that the industry “has been, and always will be, dominated by the cost of capital.”

According to Wood, for the past two years, the historically low cost of capital has been a tremendous driver for businesses small and large to buy real estate critical to their operations, often at an all-in costs less than leasing. 

“The recent uptick in interest rates has spooked many would be buyers/borrowers,” Wood says. “Don't let it!  While future borrowers may have missed the all-time historic lows, locking in long term fixed interest rates from now through 2014 can only be viewed as brilliant in the context of historical rates since the 1960's.”

Wood also cautions would-be buyers to keep in mind that new development requires increasing rents that justify the financing of new construction. 

“Buying functional product at a significant discount to replacement cost with historically cheap leverage is truly a generational opportunity,” Wood concludes.

In Orange County, an emerging trend in Q4 is a focus on efficiency in the industrial market, according to Ian Britton, managing director, overseeing Voit's Anaheim operations.

“From an industrial perspective, the world seems to be getting smaller,” says Britton.  “Both manufacturers and distributors are focused on efficiency as we move through this recovery.  Companies are doing more with less, a theme that carries into how they are evaluating their real estate needs.”

Britton notes that the flight to quality and more functional properties started in 2010 among larger cap companies with better access to capital, and has now carried through to smaller businesses that support an improving housing market.

“However, even as the world gets smaller, buildings are getting larger,” says Britton.  “Consolidation has shifted tenant and buyer demand from small buildings to larger, quality assets in central locations, bringing vacancy rates down and lease rates/sale prices up.  This has spurred development throughout infill Orange County, Greater LA and the Inland Empire.”

According to Britton, Q4 will bring a continuation of the influx of capital coming into the market in search of higher yields from 1031 exchange buyers to pension funds, as well as REITs, and foreign and local private investors.

“This competition should keep cap rates low and values high,” Britton says. “While there are threats including rising interest rates and barriers to entry from a development perspective,  continued demand and limited supply should result in sharp increases in lease rates as we move into 2014. Look for less functional, older buildings to be redeveloped in favor of higher and better uses, including high density residential in select markets.”

Up in Northern California, a land rush is underway, according to Kevin Sheehan, managing director of Voit's Sacramento office, who predicts that this trend will continue into Q4.

“Developers are quickly acquiring land, especially for industrial development,” says Sheehan.  “There are two reasons for this. First, vacancy is tightening in the industrial markets here in Northern California. This contributes to the second reason, which is that there is now a lack of available industrial product for some specific product niches with specific characteristics such as size, power and clear heights. There is a unique opportunity for developers to get ahead of the curve on new industrial projects that can cater to these niche requirements.”

Sheehan also notes that housing inventory has become extremely limited due to a lack of residential development over the past few years.

“As a result, another emerging trend we're seeing as we enter Q4 is an increase in rezoning,” he says. “Many developers are taking properties that were initially designated for office and/or retail space and working to rezone these for future residential developments. We anticipate that land acquisitions and rezoning will continue through Q4 and into 2014, as development continues to ramp up in Northern California.”

[IMGCAP(2)]

Throughout the Western U.S., as each of these trends pushes the industry further into this current cycle of recovery, the task of properly managing assets will remain a priority.

“Real estate management services are more competitive than ever,” says Rob Cord, managing director of management services for Voit. “The key is for owners of commercial properties who seek third party management services to understand the workloads of the management teams proposed to work on their properties. Too frequently the business is won and then thrown into a team who already has such a large workload that the time required to provide a comprehensive level of service is not available. 

Cord says that the key is to avoid the premise of bigger is better. He explains, “Management teams should be set up to operate fewer properties with less tenants per manager, as opposed to overloading.”