Industrial Demand Takes Off

Industrial Real Estate – An Unbeatable Value Proposition?

As an economics major in university, I was initially attracted to commercial real estate because of two key factors. First is that the commercial real estate market functions based on relatively elastic demand and inelastic supply parameters which sounded rational to me. Second, is that no matter the demand and supply, there is a price floor equal to the value of the underlying land or the intrinsic value of the built property. Understanding the intersection of both factors was very useful in determining value.

As an emerging real estate investment sales broker at CBRE it was fascinating to learn the industrial market from a pool of deeply experienced industry professionals. The problem they faced though was that there was an abundance of supply in the Montreal market, and a dearth of demand as the traditional manufacturing base offshored itself to Asia and larger distribution centers established themselves at the Ontario border and out of harm from Quebec’s powerful labor unions. Acquisition financing was difficult to obtain, and deep-pocketed cash buyers surveyed the 300M SF industrial market waiting for users to capitulate to their vulture pricing at the lowest intrinsic value possible. In one instance that price was $1 per SF for a 1 million SF property. Industrial rental rates were held in check as new greenfield developments on low tax bases plucked tenancy from infill markets.

The E-Commerce trend changed this dynamic slowly then spectacularly as distribution centers could no longer situate themselves in the faraway fields but needed to embed themselves closer to rooftops. In addition, the ease of customer returns has created an entirely new process called Reverse Logistics, which involves second tier facilities with up to 20% more space and labor requirements than forward logistics.

We now can see that there is almost insatiable demand for five types of e-commerce related industrial facilities, each working in tandem with the others to achieve unthinkable delivery timeframes and achieve customer satisfaction. These five types can be summarized into the following categories with a wide definition and functional need based on each e-commerce operation:

What is truly amazing is how categories 2&3 have gobbled up larger obsolete manufacturing facilities or have assembled multiple smaller industrial sites which in turn has stimulated demand into categories 4&5. Meanwhile, the operations in these categories have exploded demand for smaller, shallow-bay industrial assets with low clear heights that a decade ago were left for dead. And on top of this prevailing industrial demand, the industrial asset class continues to compete with suburban residential or mixed-use infill developments as population in major metropolitan markets spreads out from central cores. No one has yet seen an industrial complex knock down a housing complex, however dead malls are being targeted for future industrial uses.

So back to the top: we are witnessing strong and elastic demand, coupled with inelastic supply and an increasing price floor. And now lenders are everywhere to help owners upgrade vacant industrial assets and catch the wave.