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CRE Finance World, Winter 2014

Industrial Real Estate and E-Commerce: The Evolution of Warehouse/Distribution Space A publication of Winter issue 2014 sponsored by CRE Finance World Winter 2014 39 For all of these reasons, don’t expect the increase in e-commerce sales to slow anytime soon. Projections made by Forrester Research call for U.S. online retail sales to total $262 billion in 2013 and to grow to $370 billion in 2017, a 41% increase over a four-year period. Nothing looks likely to stop this speeding train, and adapt or die appears quite fitting. E-Commerce Bolsters the Outlook for Warehouse & Distribution Space The outlook for warehouse and distribution fundamentals remains favorable, largely due to the rapid rise in e-commerce and the subsequent demand created for industrial space to house and ship inventory being sold online. Reis expects effective rent growth for 2013 to reach 2.1%, a slight increase from the 1.9% growth in 2012. The following two years should see healthy demand drive up rents even further, with rent growth in 2015 likely topping 3.3%. Vacancies will continue to decline;:Reis forecasts another 20 basis point decrease to 11.5% by the end of 2013. By 2015, the vacancy rate may reach close to 10%. Net absorption will remain at healthy levels going forward, with a pick-up expected in the fourth quarter relative to the roughly 15 million sf per quarter absorbed during the first three periods of the year. Approximately 77.4 and 76.9 million net sf are expected to be leased up in 2014 and 2015, respectively, figures that will be bolstered by new product coming online and absorbed when it hits the market. The pace of new construction will rev up in late 2013 and beyond, reaching a rate of roughly 46-48 million sf in both 2014 and 2015. A quick comparison of warehouse/distribution fundamentals versus those of neighborhood and community shopping centers is telling. Recent improvements in warehouse and distribution fundamentals are by no means robust, but are healthy relative to the extremely tepid improvements in retail vacancies and rent. Whereas the decline in retail vacancy has been anemic (retail vacancy is down to 10.5% from a high of 11.1%) industrial vacancy has fallen from 14.2% to 11.7% in the past couple of years. Admittedly, industrial effective rents took a bigger hit than retail did in the recession and post-recession quarters, particularly in 2010 and early 2011. Still, it is noteworthy that rent growth for warehouse and distribution centers has outpaced that of neighborhood and community shopping centers in eight of the past 10 quarters. Shifting priorities of retailers from storefronts to warehouses has helped bolster warehouse and distribution properties while simultaneously weighing on the recovery of shopping centers nationwide. The Changing Needs of Warehouse/Distribution Property Users Despite the fact that industrial properties have outperformed retail in recent quarters, one caveat must be noted. The recent recovery in industrial real estate is not a tide that is lifting all boats. There is a clear dichotomy between the recovery for newer, larger warehouse space versus that of older, smaller properties. At the core of this dichotomy lies the success of e-commerce and the type of space demanded by internet retailers. This trend will shape the development of future warehouse and distribution space for years to come while also putting into question the future of small, outdated industrial sites. An analysis of the size distribution of newly built warehouse and distribution properties over time, as seen below in Figure 2, bears out the trend we identified above. After grouping all properties in our database into buckets based on year built (pre-1980, 1980-1989, 1990-1999, 2000-2009 and post-2009), we then calculated the percent built in each time period that was less than 100,000 sf, between 100,000 and 500,000 sf and greater than 500,000 sf. Not surprisingly, the further into the future you go, the greater the percentage of large properties being built. Prior to 1980, just 1.4% of all warehouse/distribution space built was over 500,000 sf. This compares to 11.5% of properties in the post-2009 time period. Meanwhile, buildings under 100,000 sf comprise 55.6% of buildings built after 2009 compared to 78.2% prior to 1980. The trend is quite clear and can mostly be attributed to the needs of internet retailers. Figure 2 Percent Distribution of Property Sizes, Organized by Year Built Source: Reis, Inc. Taking a step back in time to the pre-internet retailing days allows us to see why this change has occurred. It used to be that warehouse/ distribution centers existed to supply retailers’ brick and mortar locations. The warehouses themselves were not directly supplying customers, so the retail locations themselves were holding significant


CRE Finance World, Winter 2014
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