Western Real Estate Business

SEP 2018

Western Real Estate Business magazine covers the multifamily, retail, office, healthcare, industrial and hospitality sectors in the Western United States.

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M A R K E T H I G H L I G H T: S A N D I E G O 44 • September 2018 • Western Real Estate Business www.REBusinessOnline.com WITH BAY AREA INDUSTRIAL MARKETS TIGHT, NEW CONSTRUCTION SEES LEAP IN RENT PREMIUM Everything in the Bay Area's indus- trial real estate sector is on an upward trajectory. In the region's main industrial mar- ket — the East Bay — 110,798 square feet of space was absorbed last quar- ter. With more than 50 tenants cur- rently seeking more than 5 million square feet in the region, demand is very strong. That has pushed average asking rents up to a record high of 88 cents per square foot. Tenants have been stymied, how- ever, by the market's 4.2 percent va- cancy rate. Though a good 2.5 percent higher than 2017, this rate is still low enough to mean there is little room for movement for today's tenants. An increase in the amount of new construction being delivered in the next 12 to 24 months will alleviate some of this problem. More than 3.7 million square feet of new builds are underway in the East Bay, and two- thirds of this space will be delivered by year-end. Rental rates for Class A new builds are rising…and so are Class B rents. However, tenants are going to have to pay more and take fewer conces- sions to lock up new space. Pricing for new industrial space is at a 24 percent premium over existing space. First- year rent for Class A product is up 59 percent since 2016. Triple-net rents for new space are up to $1.08 per square foot and rising. Meanwhile, free rent concessions, which averaged 2.3 months in 2016, are currently around 21 days in the current market. This is forcing more tenants to pur- sue one of four strategies. If they de- cide not to move, lock in rates by re- newing space early; if they want to move to newer space, pre-lease spec buildings while they are under con- struction; extend their search to out- lying, lower-cost industrial markets like Richmond, Livermore or the Cen- tral Valley; or, consider older, Class B space. Class B space is by far the biggest segment of the industrial inventory in the East Bay at more than 54 million square feet. Average rents for Class B space has been lifted to within 6.5 cents per square foot of Class A prod- uct. The gap between Class B and C is widening, however, at 11.5 cents. There may be a further slight in- crease in the overall industrial vacan- cy rate in 2019 with 2.2 million square feet of new construction coming on- line this year. However, continuing strong demand, particularly for last- mile delivery space, is liable to keep that rate below 5 percent. Rents are most likely to continue on their up- ward trajectory, particularly as users bid up new construction. Jason Ovadia Managing Director, JLL Joel Woodmass Research Analyst, JLL New Industrial Construction Commands 24 Percent Premium on Existing Products Source: JLL M A R K E T H I G H L I G H T: N O R T H E R N C A L I F O R N I A SMALL BOX TAKES HOLD IN SAN DIEGO The San Diego industrial market has continued to witness growth across all submarkets, especially in the North County markets. Vacancy rates, lease rates and sale prices have all approached historical records as increasing demand has pushed the limits of this market. The region's only constraints are its lack of avail- able land and geographic barriers. New construction is prevalent across the county with 2018 setting up to deliver the most square foot- age since the last cycle. San Diego's identity as a smaller logistics and manufacturing/R&D market means not many spaces are built with more than 300,000 square feet, but there is a high demand for small box buildings to be developed. Strong pre-leasing activity is a sign demand is attempting to keep pace with the spec development be- ing constructed across the county. Pacific Vista Commerce Center is a 417,478-square-foot business park in Carlsbad currently under construc- tion by Ryan Companies that recently pre-leased 120,000 square feet to the moving and storage company PODS. Dis.tri.bute is a 277,000-square-foot industrial development that is cur- rently about 50 percent leased with tenant improvements underway. There has also been a demand for value-add product as demonstrated by companies like Stos Partners, Rex- ford Industrial and RAF Pacific all of which have purchased older, non- functional properties that they've transformed into more modern prod- uct. Stos Partners recently acquired a 91,541-square-foot, single-tenant in- dustrial facility in National City for $12.2 million. While in escrow, they executed a lease with a national credit tenant and then sold the building as a leased investment for $21 million. Investors and exchange buyers con- tinue to express interest in the county for much more attractive, stabilized, leased industrial investments when compared with counties to the north, such as Orange County and Los Ange- les. The Ocean Ranch Corporate Center in Oceanside was purchased by First Industrial Realty in March for $162 per square foot for a cap rate reportedly below 5 percent. The market is very healthy as illustrated by a current va- cancy rate of 4.5 percent and average market rent per square foot approach- ing $1 per square foot, triple net. The demand for owner/user prod- uct has steadily continued to increase as companies and local businesses are purchasing real estate by utilizing SBA loans. The issue that owner/us- ers face is the lack of existing or new buildings that are available for sale. Leasing activity remains strong for industrial space across the county and absorption has been consistent in all markets. Industrial spaces do not re- main vacant for long and generally get leased up quickly. Rusty Williams Principal, Lee & Associates Dis.tri.bute is a 277,000-square-foot industrial development that is currently about 50 percent leased with tenant improvements underway.

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