Back Developers Are Seeing Abundant Opportunity
Shifting consumer preferences have fostered disruption across markets and paved a path for innovation. There is no real estate subsector where this shift is more profound than in the logistics and light industrial space. Consumer preferences and trends that have been developing for the past several years were fast-tracked because of the pandemic. Those who were new to ordering groceries online have now adopted that behavior, and shoppers who traditionally visited brick-and-mortar stores have migrated to online shopping. The race toward e-commerce was exponentially accelerated during the pandemic, forcing companies to completely revamp their sales models.
Last year, e-commerce sales grew 32% and are projected to grow an additional 11% over the next several years. Industry giant Amazon expects its fulfillment center footprint in the U.S. to grow by 50% this year alone. This translates to big demand for industrial and warehouse space. Furthermore, experts from Prologis say that an e-commerce purchase requires up to three times more logistics space than its brick-and-mortar counterpart. The math is staggering.
Light Industrial and Warehouse Space versus Flex Space
We are seeing a remarkable uptick in the development of light industrial and warehouse space. Looking at demand metrics and growth predictions over the next few years, there is an effort underway to meet the needs of the large warehouse users. More than 80% of the new supply coming online is built for big users like Amazon, but the underserved small and medium multi-use markets are experiencing the same outsized growth fueling the big providers. If the growth of these small and mid-sized users tracks that of the large players, there will be significant unmet need in that niche.
According to a JLL Industrial Outlook Report, multi-use logistics as a percentage of overall industrial inventory has decreased significantly, growing only 3% since 2010 versus growth of over 12% for total industrial inventory. We believe this portends a strong opportunity for small flex space that meets the needs of the last mile user.
When Amazon builds an 800,000 square foot fulfillment center, it can hire more than 1,500 full time associates. The areas around these centers quickly become logistic hubs, creating the need for additional services. As these hubs develop, the demand for additional small office and industrial space to satisfy these infill services is intensified. Service trades have space needs of 2,500 to 20,000 square feet. The typical facility for this flex or multi-use logistics space totals between 20,000 to 100,000 square feet, encompassing distribution, warehouse, shallow/small bay, flex/industrial showroom, R&D space all with accompanying high-office finishes.
The existing inventory of flex space is both dated and in short supply. New state-of-the-art logistics/office or flex space with infill locations catering to users under 10,000 square feet is in high demand. We have seen several recent flex developments that achieved 100% preleasing prior to certificate of occupancy being delivered. According to JLL, overall preleasing trends in flex space are vastly outperforming preleasing from just a year ago, with 61% preleasing in 2021 versus 34% in 2020.
According to the same JLL report, flex space vacancy was at a record low of 4.7% in Q2 2021. Given the lack of space and the abundance of demand, rents are forecast to grow between 4-7% over the next few years as more large-warehouse space is delivered and leased – helping drive rental rates higher. Additionally, investors find this space attractive due to the advantage of having a diversified tenant base as well as low operating expenses.
The Southeast is Hot
When the chips settle in our post-pandemic world there will be winners and losers in migration, disruption, and recovery. Two of the largest winners are shaping up to be the Southeast and Texas, that both attracted high income residents away from their Northeast and Midwest counterparts. More specifically, no states benefited more than Florida and Texas, which saw a record high level of residential real estate transactions. In fact, a CBRE study on COVID’s Impact on Resident Migration Patterns found that out of the top 20 cities with the largest net population gains, 11 are in Florida and four are in Texas, accounting for 75% of the list. Florida has experienced a cumulative increase in Adjusted Gross Income (AGI) between 2010 and 2018 of $95 billion (20.3%), the most of any state. Meanwhile, New York and New Jersey lost a combined $75.6 billion in taxable AGI. This doesn’t even account for the newest pandemic-driven influx.
People fled high tax, heavily restricted, and cold places at unprecedented levels in favor of the Sunshine States down south. The majority of those who migrated were in the high-income tax bracket and they brought with them their tax dollars to improve infrastructure, which help drive real estate prices across the region. They also brought businesses and high-paying jobs. Charles Schwab, Apple, Oracle, Hewlett Packard, and Tesla have either relocated or expanded their presences from California to Texas, and the Blackstone Group, Deutsche Bank, Goldman Sachs, Icahn Enterprises, and Elliott Management relocated groups from New York to Florida.
According to Halstatt’s proprietary data driven ranking tool, HREP Precision, 11 out of the top 15 markets within the Southeast that are ideal locations for warehouse and light industrial use are in Florida and Texas. HREP Precision analyzes all major MSAs in the Southeast United States and leverages data in four main categories including lifestyle, demographics, core real estate, and proprietary information to find unique development and investment opportunities in our targeted asset classes.
“Our in-house weighting system focuses on the most important development metrics to populate a list of the top markets in which to invest. The data further supports our investment thesis that the mass migration to the Southeast will not only need housing, but also ancillary lifestyle support fueling the service trades,” said Mike Harris, senior analyst of Halstatt Real Estate Partners and co-developer of HREP Precision.
Go Ahead and Build it – They are Already Here
Halstatt has identified a significant development opportunity within the smaller flex space. Many of these tenants are being pulled by the rising e-commerce tide but are being overlooked in the current market which currently favors larger users. In the first half of 2021 more than 60.7 million square feet of light industrial space was leased. This number will increase particularly in the Southeast and Texas as migration patterns and shifting consumer trends reshape the retail footprint of America. What is viewed as a crisis in the Northeast is driving a need for more space in the Southeast which has more people moving. Texas and Florida both average more than 900 new residents per day.
Developers who can find the right location and build the right solution will be rewarded. Industrial demand, particularly by small to mid-sized users, is significantly outpacing supply, resulting in bright prospects for those who can capitalize on the opportunity.
