COVER STORY, NOVEMBER 2008

INDUSTRIAL MARKET REPORT
The importance of the industrial market is evident.
Stephanie Mayhew

As costs rise, logistics and affordability are increasingly important in the industrial market. Tenants are looking for just the right location and just the right kind of facility. In this month’s issue of Northeast Real Estate Business, we sat down with a few industrial experts to get their take on what is going on in the industrial sector in their respective markets. 

Greater Eastern Pennsylvania

The industrial market within Lehigh Valley and Northeast Pennsylvania continues to garner attention from all types of industrial tenants; however, the market is starting to show signs of a slowdown. Stephen Bonge, a senior vice president of global logistics in Grubb & Ellis’ King of Prussia office, believes it is still too early to tell how the industrial market in Greater Eastern Pennsylvania will be fully affected by the financial markets. Tenants, although somewhat more cautious, are still looking for space while others are expanding. Several new industrial projects came online this year as well, but future development has slowed in response to market conditions.

According to Bonge, the consumer products and food and beverage industries are still doing well as evidenced by several closed deals and the expansion of space. However, he notes that some industries have been more affected by the current climate than others.

“The current market is definitely affecting the retail side more than the consumer products side,” he says. “We have had a number of retail tenants that were looking in the area for space that have now backed away for a variety of reasons, whether it is uncertainty about the retail environment or the stock market.”

Due to the declining dollar and a myriad of other factors, foreign users have been making their way into the Greater Pennsylvania marketplace.

“There has been more foreign user activity because of the value of the euro to the dollar, labor availability, weight rates, cost to operate and the increased cost of shipping containers due to higher fuel prices,” says Bonge. “The Eastern Pennsylvania market is attractive because they can make products here and not have to worry about increased shipping costs.”

Investment sales activity also remained strong in 2008. There were several sales throughout the region at fairly consistent cap rates similar to last year for the same credit and product. However, Bonge notes that the current lending environment has had its affect on the kind of deals being done. 

“Right now there are not a lot of leverage acquisitions being played because the underwriting from the financial institutions has changed so much within the last 12 months. So, what we do see are cash buyers,” he explains.

Vacancy rates for Class A industrial product are sitting around 17 percent and landlords are being fairly aggressive to secure tenants. The current financial markets have made most tenants cautious, causing many to renew their leases rather than seek out new spaces. Rental rates depend largely the deal, the credit, the term and the location.

“The vacancy rate for Class A space is high compared to the last couple of years because so much speculative product that has come online at the same time,” explains Bonge. “A couple of deals here and there and the vacancy rate will be back to normal.”

This new supply of space has come from several major projects in Eastern Pennsylvania. In Lehigh Valley, ProLogis completed a 930,000-square-foot spec building at the beginning of the year. Liberty Property Trust completed a 920,000-square-foot speculative facility in May. Seagis Property has a 535,000-square-foot speculative building in Lower McCungie, as does Trammel Crow, which has a 315,000-square-foot facility.

Mericle has a number of speculative projects that are coming online in Hazelton as well as their CenterPoint Commerce & Trade Park East project in Pittston on the popular I-81 corridor. According to Grubb & Ellis’ Industrial Market Trends Second Quarter 2008 Report, currently 419,600 square feet is under construction at CenterPoint, but plans are set for construction to begin later this year on 693,200 square feet. In 2007, Mericle broke ground on more than 2 million square feet of industrial space at the park. The park has an approximately 10 percent vacancy rate and has brought in new tenants such as Cintas and Boden. Upon full build out, the center will represent more than 13 percent of the warehouse and distribution space in the Northeast Pennsylvania marketplace. 

“The I-81 and the I-87 corridors continue to be on everybody’s radar screens,” says Bonge. “It is an alternative to the I-95 corridor, which has a high cost of real estate, high cost of labor and traffic congestion, but in I-81 and I-87 you don’t.”

Many of the projects coming to the market were in the pipeline long before the financial issues in the market arose, so going forward Bonge notes that little speculative development is expected and even new build-to-suit projects have been spotty in recent months.

In the years ahead, Bonge believes that the Greater Eastern Pennsylvania market will continue to see demand, due in part to what he believes will be a future shift in the global supply chain.

“What made sense 3 years ago for a company making products in China or Thailand may be completely different in 2009 due to factors such as oil, the cost of shipping and the fact that the U.S. has more highly skilled laborers available right now, which is not necessarily a very positive thing for the country, but for industry, it is good,” he remarks. “In developing countries, workers’ wages have gone up and the cost to ship products has gone up as well; therefore, moving back here is more and more advantageous. Although that is not occurring rapidly, we do see that as a trend moving forward.”

Northern and Central New Jersey

Piscataway Business Center in Piscataway, New Jersey.

The affects of the economy are also being felt in the Northern and Central New Jersey industrial market, but it is certainly far from being dismal. Deals are being completed and tenants see the value this market holds for them in terms of transportation and available space.

“While the velocity of the market is not what we would like to see, transactions are still occurring,” says Frank Caccavo of Cushman & Wakefield.

According to Cushman & Wakefield’s Marketbeat Industrial Report for Northern and Central New Jersey for second quarter 2008, leasing activity from last year totaled 12 million square feet, but year-to-date only 8.6 million square feet has been recorded. Leasing activity for the second quarter totaled 2.4 million square feet.

“The part of the market that is probably getting the most negative attention is in a state of temporary overbuild, but that is really restricted to only a couple of markets,” says Caccavo. “The Exit 7A and 8A markets have an excess of speculative construction at the moment, but this will eventually get absorbed.”

Andrew J. Mele, senior vice president of the Trammell Crow Company, notes that activity from big-box tenants that require 500,000 square feet and up has slowed. However, Mele says that at the smaller end of the spectrum, tenants looking for 100,000 to 300,000 square feet, activity has remained stable.

“There is a fair amount of inventory as far as Exit 7A and 8A and all the way up to Exit 12 that was built with the idea of getting 500,000 square feet to a million square feet under one roof close to the Port of New Jersey, but those projects have not leased for a variety of reasons,” he says. “We are still seeing a lot of deals in the market from smaller tenants, but most users are very cautious right now. Companies are renewing for another 6 months or another 12 months to wait and see what is going to happen with the economy, but eventually companies are going to have to start making long-term decisions again.”

Cushman & Wakefield’s report also noted that an additional 7.8 million square feet of new construction has been added to the Northern and Central New Jersey markets since first quarter 2007. Nearly 2.5 million square feet of new construction has been completed in the Central and Northern New Jersey markets this year. A 75 percent vacancy rate was reported for this new supply.

Although some space has been slow to lease up, high-tech space has been garnering quite a bit of attention over the last year in New Jersey and rental rates for this product type are expected to increase. According to the Cushman & Wakefield report, direct net weighted average rental rates for this product increased from $12.17 per square foot over the last year to a rate of $13.97 per square foot in the second quarter. While overall net weighted average rental rates increased by $0.11 per square foot for this type of space, manufacturing space saw a decrease in its rates of $0.20 per square foot in the second quarter. Distribution and warehouse space overall net weighted average rental rates have remained steady.

As the new supply on the market is absorbed, development has slowed. Any development will most likely be build to suit projects as speculative construction is likely to be sidelined for the time being. However, Caccavo notes that due to the long entitlement process in New Jersey, developers will continue to bring projects to the market with an eye on most projects coming to fruition a few years down the road.

“I think the market right now calls for a discipline that will stop speculative development for the time being,” he says. “Overall, the New Jersey industrial market is a stable marketplace. It is a large, diverse market that does not experience the volatile highs and lows that a lot of other markets in the country experience. I hope and I expect that the market will maintain that tradition. Because of its range of stability, we are not going to fall off the end of the earth, but we are also not going to fly to the moon at the moment.” 

New York City

While increased inventory and a softening economy have affected several industrial markets, the New York City industrial market has changed over the last several years for a different reason. According to JD Parker, regional manager of Marcus & Millichap’s Brooklyn office, in the last few years there has been an unprecedented amount of industrial inventory taken out of the market for uses such as residential or hotel towers.

“That has really become a trend, especially because the Bloomberg administration has done so much rezoning,” he says. “About 20 percent of the city’s overall industrial space has been lost since the Bloomberg administration.”

Parker does note that there is still a tremendous amount of industrial space in boroughs such as Brooklyn. The majority of users that are taking up the remaining space in the New York City market are smaller manufacturing companies, light industrial, auto parts and distribution companies looking for medium-sized space.

Marcus & Millchap’s Midyear 2008 Industrial Report notes a forecast year-end vacancy rate of 7.7 percent for the New York City-Northern New Jersey market. Year-end asking rents are projected to be $6.79 per square foot. This is compared to a 7.3 percent vacancy rate for 2007 and an asking rental rate of $6.66.

However, although industrial space has diminished in the city, the market is also showing some effects from the current climate. Investment sales have slowed, possibly due in part to constraints on available financing and the current job losses in New York City. Marcus & Millichap’s report puts cap rates for top-tier properties in the densely developed boroughs of the city at 6.8 percent.

“In 2006, about 105 industrial properties traded hands versus about 101 last year, and I anticipate that to be down a bit this year,” remarks Parker. “If we continue to have job losses, it is going to put a squeeze on demand for all goods, so it will lag in terms of industrial demand and definitely affect the market,” he explains.

This affect might be somewhat positive for the city, however.  

“The conversion of industrial space to residential and commercial uses has all but slowed to nothing now because such attractive financing is no longer available. This should allow more space to remain for industrial use,” he says. “This is a more positive overall trend because the marketplace will have a healthier more diversified market and not just all high-end condos.”

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