MOVE OVER APARTMENT buildings: Warehouses are becoming sexier than ever to real estate investors.
Though industrial real estate was hit hard during the recession and lagged in its recovery, it is now improving steadily and is perhaps the most desirable commercial real estate class, says Nick Vertucci, a real estate investor and CEO of The Nick Vertucci Cos. in Irvine, California.
In the first quarter of this year, industrial real estate sales hit $16 billion, the second-highest number in the sector’s history, and that’s up 20 percent over last year, according to JLL, a professional services firm that researches real estate and investment management. Vacancy rates for industrial real estate are also down to a historically low 5.1 percent nationwide, according to CoStar, a commercial real estate database.
“Generally the industrial market is one of the best sectors to invest in,” says Andrew Chung, CEO of Innovo Property Group, an industrial developer working on a 700,000-square-foot industrial project scheduled to be completed in 2020 in New York. The sector’s strength is largely attributed to the growth of e-commerce over the last decade and the pressure to get goods to consumers faster, requiring warehouses near dense urban centers, he says.
Industrial properties are also relatively less expensive to own and operate, which lets investors acquire and maintain larger assets with lower ongoing capital costs, says Scott Bennett, an advisor with the Wells Fargo Private Bank Real Estate Management Group in New York. Another big upside includes stable and predictable cash flow with longer leases, Vertucci says.
As a result, investors shouldn’t expect to see many industrial real estate “deals” in the market, says Dane Bowler, chief investment officer of 2nd Market Capital, a REIT-dedicated investment advisor in Madison, Wisconsin. Still, the fundamental outlook for industrial real estate remains strong, with demand outpacing supply, potentially leading to double-digit rent increases annually.
Nevertheless, there’s a lot to consider before putting down any money. Some properties offer greater potential than others, and not everyone is cut out to be a landlord.
The property’s design can limit the choice of tenants. If you’d like to purchase your own industrial building, think through the many possibilities, Vertucci says.
“Industrial real estate can come in a variety of shapes and sizes.” As long as zoning applies, you can have a warehouse with no office, a space that’s heavy on office with some warehouse for distribution, a technology space or a baking facility, he says. “Industrial real estate gives you the flexibility to cater to a tenant’s needs, and it gives you, the investor, the ability to create as a new tenant comes in.”
But that means the design of the structure will determine the type of tenant you can attract. For retail properties, you’ll need to consider the labor market and accessibility to densely populated areas, Vertucci says.
New construction may offer more bang for your buck. If the zoning allows, you may get a better return on your investment by developing new property rather than buying an existing property, which is priced fairly high in the market. Doing so, however, comes with more speculative risk, says Wilson McDowell, managing director of Cite Partners, a real estate advisory in Orlando, Florida. To minimize the risk, know your market inside and out.
Building a new facility isn’t easy. “You must have the capital, find the property and qualify for a loan,” he says. “Generally, the buildings are similar throughout the country, but the leasing terms, rates, construction costs, permitting, transportation and housing, are all different in different markets.”
Investors have many ways to invest. Owning industrial property is a hands-on effort, so if you want a passive investment, real estate investment trusts, REIT funds or stocks are an easier way to get a piece of the action.
Thanks to their use of low-cost capital, publicly traded REITs can be bought at significant discounts to net asset value and give investors generous dividends. The REITs deliver higher rates of return to investors than if they had bought their own properties, Bowler says.
A REIT’s long-term viability, especially in an e-commerce era, depends on the location of its assets, Chung says. “Urban, dense areas will give you the most volume and dollar per [e-commerce] order. That’s where the biggest margins are going to be, and [those companies] can afford more rent and higher rent increases.”
McDowell recommends publicly traded REITs such as DCT Industrial Trust (ticker: DCT), Duke Realty Corp. (DRE), EastGroup Properties (EGP), First Industrial Realty Trust (FR), Prologis (PLD), PS Business Parks (PSB) and Stag Industrial (STAG).
Markets are as important as the properties themselves. Vacancy rates are one of the biggest risks to industrial real estate investors, so markets with low vacancy rates offer better opportunities. Those markets include Oakland, California (3.9 percent vacancy rate), Los Angeles (1.2 percent), Seattle (3.1 percent), Atlanta (6.4 percent) and Northern New Jersey (4.6 percent), says Commerce, California-based Jeffrey Rinkov, CEO of Lee & Associates.
These cities tend to have high-quality tenants with multinational or regional presences, access to ports, rail and other major transportation thoroughfares, and limited land for development that make them solid over the long term, he says.
The demand comes from many industries. E-commerce isn’t the only business pushing up the value of industrial real estate. Industrial assets are also benefiting from a resurgence in manufacturing jobs and activity, particularly in the Midwest, says Jay Rollins, managing principal of JCR Capital, a Denver investment firm. “Markets that have approved recreational cannabis are extremely strong, as new users looking to capitalize on the industry are moving in, driving up rents and supply down across the board,” he adds.