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Wearing Thin

The industrial market remains one of the stronger sectors of Orange County’s commercial real estate markets, with vacancy rates remaining in single-digits more than 18 months after the local recession began.

But cracks began to appear in the 210 million-square-foot market during the past year, and many industry watchers believe a recovery won’t take place until 2010 or later,for lease and sales activity.

Slowing tenant demand for warehouse and distribution space resulted in negative absorption in all four quarters of 2008 and totaled 3.7 million square feet for the year, according to Cushman & Wakefield Inc.

That, along with a modest amount of development coming on line in 2008, pushed industrial vacancy rates up nearly 1% during the past year to about 5%, local brokerages report.

That remains a low figure, especially compared to the Inland Empire, which has seen vacancy rates move from less than 8% to near 11% in the past year alone.

Still, with an availability rate of 7.5%, there’s more industrial space now on the market in OC than any time in the past five years, according to the Irvine office of Colliers International. The brokerage reports that nearly 1 million square feet of industrial space here was put back on the market by downsizing tenants last year.

Space coming back on line includes plenty of warehouse and distribution buildings 100,000 square feet of larger,which never happened just two years ago, brokers say. Big box space makes up nearly a third of the county’s total industrial space.

Increasing amounts of available space is beginning to have an effect on rents. The monthly asking lease rate for the county now runs about 79 cents per square foot. That’s down 7 cents from a quarter ago and is a drop of more than 13% from the end of 2007, Cushman & Wakefield reports.

Going into 2009, it looks like more declines are possible.

Container volume from the ports of Long Beach and Los Angeles is already down more than 7% from a year ago, and the bankruptcy of more major retailers could increase the supply of available warehouse space even more.

Grubb & Ellis Co. predicts rents here will drop as much as 10% during the next year.

Those rents are likely to be tied to shorter lease terms than in the past. As in OC’s office market, shorter-term industrial leases are becoming more prevalent, said Jeff Chiate, executive director for the Irvine office of Cushman & Wakefield.

Landlords are interested in making shorter deals to keep their industrial buildings occupied during the downturn. They also want to have the ability to raise rents when they start going up again in a few years.

Tenants, meanwhile, are unsure about the long-term prospects for their businesses and are more comfortable making leases for shorter terms, Chiate said.

That type of thinking was seen in the largest industrial lease here in the past year, at the former Steelcase Inc. campus in Tustin.

Ricoh Electronics Inc. signed a three-year lease in December for 500,625 square feet at 1123 Warner Ave., which is part of the ex-Steelcase campus.

The deal is valued at about $10.5 million, or monthly rents of about 58 cents per square foot, according to Chiate, who represented the landlord,a business owned by tile mogul Larry Bedrosian,in the Ricoh deal. Ricoh, a unit of Japan’s Ricoh Co., first moved to the campus,owned by Fresno-based Bedrosians Tile & Stone,in 2003, when it took up about 236,668 square feet at the time. It added the additional space in 2006.

Ricoh now has nearly 1.4 million square feet of space in eight buildings in Irvine, Santa Ana and Tustin.


Leasing New Buildings

Even with a slow level of leasing, local developers have begun turning their attention to building for-lease properties, rather than for-sale deals, because of the difficulty in lining up financing for prospective buyers.

Costa Mesa-based Burke Real Estate Group, which has developed about 6 million square feet of industrial and office space, had been marketing about 60% of its new developments for sale in the past three years.

Now the changing market means Burke is slowing down for-sale developments, and the company is instead looking to lease close to 60% of its new properties, said Pat Patterson, a Burke principal.

Sales prices averaged about $151 per square foot in the fourth quarter, down from $154 per square foot in the third quarter, but up from $148 per square foot a year ago, Colliers reports. The brokerage expects prices to drop even more in 2009.


Values Changing

Using last year’s deals as benchmarks for future acquisitions is proving to be tricky. There were so few deals in 2008, “that no one knows where values are,” said Chiate. “We’re in no-man’s land.”

“The spigot has been off since 2006,” said Rob Neal, managing partner at Newport Beach-based real estate investor Hager Pacific Properties. The company currently has about 65 assets in Southern California.

For the past few years, Hager Pacific was hoping to ramp up acquisitions to more than $100 million, but it held off making deals as the market deteriorated. It ended up buying about $25 million in transactions last year, roughly the same amount as in 2007.

Assuming some stabilization in the market, Hager plans to spend $100 million to $200 million on buildings this year, Neal said. Much of it will be in OC, Southern California, New York and New Jersey, he said.

Because of the difficulty in finding financing for deals, Hager will likely have to pay about half that amount in cash, Neal said.

Nationally, capitalization rates are headed toward 8% to 9% for industrial buildings, meaning that values are falling by close to a third from their peak in some cases, Neal said.

“There’s a lot of value gone, some of it permanently,” Neal said.

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Mark Mueller
Mark Mueller
Mark is the Editor-in-Chief of the Orange County Business Journal, one of the premier regional business newspapers in the country. He’s the fifth person to hold the editor’s position in the paper’s long history. He oversees a staff of about 15 people. The OCBJ is considered a must-read for area business executives. The print edition of the paper is the primary source of local news for most of the Business Journal’s subscribers, which includes most of OC’s major corporate and community players. Mark’s been with the paper since 2005, and long served as the real estate reporter for the paper, breaking hundreds of commercial and residential real estate stories. He took on the editor’s position in 2018.
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