Southern California Industrial Market
ORANGE COUNTY
The nation’s economic downturn has had an impact on the Orange County industrial market, as available industrial product has been on the rise and lease activity has slowed.
Second-quarter activity is off 30% from a year ago. There has been a big increase in vacancy, which is expected to create downward pressure on lease rates.
Available industrial space has jumped 40% to 15.1 million square feet vs. the second quarter last year. This is a result of company downsizing and significant sublease space opportunity. Amazingly, this increase in available space only has resulted in about a 5% decrease in asking rents and 10% decrease in effective rents. The increase in vacancy and lack of tenant demand has forced landlords to provide concessions.
The positive side of market can be found in buildings available for sale.
Demand for buildings on a sales basis has been very strong and prices have increased for both owners/users and for investors. This is the result of current historically low interest rates coupled with the stock market’s decline. Real estate is considered a safe investment.
The building-for-sale market is very active with strong demand in the buildings for sale under 50,000 square feet. Companies most active in this market are tied to Small Business Association financing, which applies to buildings under 50,000 square feet.
The strong demand to buy buildings is quickly exceeding supply and has driven sale prices to all-time highs in every industrial market in OC.
Although the national economic news has been dismal, several economic indicators should help the county’s real estate market.
Consumer Confidence picked up during the second quarter,the OC Consumer Confidence index rose 16% to 110.2 compared to the first quarter. The county’s unemployment rate dropped to 3.6% at the end of the second quarter, keeping OC’s unemployment rate the lowest in the state.
Job growth is expected to increase by 4% by the end of the year. Total employment increased by 11,700 jobs in the quarter.
Lastly, OC median family income is projected to rise 6% to $71,200 and retail sales are expected to increase 9% here this year. Most economists discount the possibility of a double-dip recession, believing instead that the economy will recover by late this year or early 2003.
The decreased level of activity has caused building owners to react aggressively in trying to do deals, especially in space over 50,000 square feet. Through the middle of the year, a mere 12 lease transactions exceeded 50,000 square feet, two of which were over 100,000 square feet.
By comparison, at the peak of the market (the first six months of 2000) there were 39 transactions on buildings greater than 50,000 square feet of which 11 were bigger than 100,000 square feet. This decease in the velocity of the market has landlords extremely concerned about occupancy levels and rental value depreciation.
Looking at the 50,000 square feet and greater market, the average effective lease rents decreased from 58 cents triple net in 2000 to 48 cents today.
Sale and lease activity is expected to increase in the second half of the year. Tenants will be able to take advantage of decreasing lease rates and buyers will continue to capitalize on the low interest rate environment.
Orange County has not been immune to the economic slowdown. The availability rate has been increasing since the recession began. Still, there is cause for optimism as the rate at which available space comes on the market will decrease and tenant activity picks up in the second half of the year.
LOS ANGELES
Commercial real estate continues to attract new capital. Transaction volume for industrial investment properties has been increasing since the beginning of the year as investors scramble to find alternatives to the stock market.
Institutions and real estate investment trusts have started buying industrial properties after being largely dormant since the beginning of the year.
Most indicators of economic recovery have been unfolding the way everyone expected, with negative turning to positive. Sale and leasing activity in Los Angeles increased 20% to 13.7 million square feet from the last quarter.
The South Bay market alone accounted for 26% of the activity in L.A. County. The increase in sale and leasing activity brought the vacancy rate down to 4.3% from 4.6% last quarter. The vacancy rate decreased for the first time since the second quarter last year.
Economic activity in the manufacturing sector has been on the rise since February. The Purchasing Manager’s Index increased about 1% to 56.2 in June, as reported by the Institute for Supply Management.
In an economy still struggling to improve, L.A. County’s industrial market has proven to be strong. Nearly every component of the sector expanded in the second quarter. This was a very positive sign in the midst of a pessimistic environment.
The economy will get a lift this year from the rise in government spending on defense at the federal level. And the state and local levels of government will be spending on road and school construction, respectively.
The government is pushing a rather aggressive defense buildup with aircraft and missile purchases. Southern California is still very much a leader in the defense and aerospace industries. Raytheon Co. leased a 100,000-square-foot industrial space in the San Gabriel Valley in May.
But manufacturing in Los Angeles has other concerns aside from economic pressure. There are strict air regulations and a shortage of buildings in all size ranges. If new industrial buildings become available, manufacturers often find themselves in a leasing competition with logistics firms.
In the South Bay region, Japan’s NYK Logistics Technology Institute leased two large industrial properties. One of the properties is a 426,000-square-foot space at the ProLogis Park in Torrance. The other is a 300,000-square-foot space in Carson. These were two of the largest transactions completed in L.A. County during second quarter.
Drawing upon the creative energy that pervades the region, Los Angeles has developed into an economic dynamo. There are 16 base industries that make the region the world’s eighteenth richest economy and the largest retail market in North America.
Despite the economic slowdown and the specific challenges for manufacturing in Southern California, industrial vacancy rates have remained fairly low. The vacancy dipped half a percentage point to 3.8% in the second quarter.
Historically low interest rates are increasing demand throughout the county. A stable prime interest rate will keep a lid on costs for small businesses.
The industrial vacancy rate in L.A. County is expected to decrease due to strong user demand. Overall demand will increase along with consumer confidence. New construction will ease. Lease rates will go up, and sale prices will flatten.
Industrial investments will continue to be popular for institutions. Construction of larger buildings in the outlying areas is expected since there currently is a shortage of large-size buildings. Construction of these larger buildings will also bring additional institutional money to the market.
INLAND EMPIRE
The demand for industrial space in the Inland Empire was ablaze with more than 10 million square feet leased or sold during the second quarter.
That’s double the activity in the first quarter this year. Year-to-date activity is up 22% to 15.3 million square feet vs. the first six months last year.
Completed construction was also hot with more than 5 million square feet added to the Inland Empire’s 272 million-square-foot base at the end of the quarter. Most available space was occupied as quickly as construction was finished, allowing the vacancy rate to dim slightly to 7.6%.
During the second quarter more than 3.5 million square feet leased or sold to firms outside this two-county region. The area’s mega-sized warehouse and distribution centers and expanding retail market have continued to attract major national retailers, along with the logistic firms supporting these companies. The transactions were well balanced among the major submarkets, branching out from the more established cities of Chino, Ontario/Mira Loma and Fontana, into Colton, Rialto and Riverside.
The Inland Empire’s industrial sector appears to be holding its own despite the nation’s slowly recovering economy and continued uncertainty on Wall Street.
The vacancy rate was down slightly from the previous quarter and remained steady compared to this time last year. The market continues to add space to its base inventory each quarter yet has maintained a stable vacancy percent, which indicates just how robust the sales and leasing activity has been in the past three years.
The consistency of this still-maturing industrial market has surprised many industry observers. The industrial component of this region is expected to be one of the best performers in the Western United States through the end of the year.
In the next two quarters, industrial activity in the Inland Empire will continue to maintain at steady levels. Deals will take longer to close as some larger, national tenants are still suffering from the “wait and see” approach to future expansion.
Due to attractive interests rates, user-sale deals will pick up. The sale of more than 500,000 square feet to American Honda in Chino is an example.
As the trend by many firms to merge into mega-sized warehouse/distribution continues, the Inland Empire market looks set to capture a big part of this repositioning activity. Since consumer buying power and retail sales have remained healthy, the majority of this market’s larger deals will continue to be made by national retailers and the resulting logistics firms supporting these companies.
The national retailers are attracted to this market by the availability of 200,000-square-foot facilities, as well as the competitive price base and the option to expand. And the central industrial area lets users service the massive L.A. Basin and beyond.
While the national jobs picture has not improved much in the past 12 months, Riverside and San Bernardino are still adding jobs at a healthy rate. And low residential housing costs brings more people to the region from the coastal communities, which boosts the quality and quantity of the local workforce.
