Building Nevada - March 2011

All Roads Lead From Nevada

Industrial real estate in Nevada

by Jennifer Baumer

    Like every commercial real estate sector, industrial real estate – the part of the industry concerned with accommodating construction, manufacturing, wholesale trade and transportation warehousing/ distribution centers – was hit hard by the economic downturn. Unlike Nevada’s other commercial real estate sectors – retail and office – industrial real estate is expected to have a relatively faster recovery than the other sectors.

    “This year is showing very positive signs,” says Donna Alderson, senior vice president with CB Richard Ellis’ industrial team. “We’re very excited about the activity in the market, particularly on the leasing side.”

    Still, a faster recovery is much slower than what Nevadan’s were used to before the economic decline.

    “It will be a slow climb out of this.  I don’t think we’re going to go shooting like a bottle rocket like we did in the last decade,” Alderson adds..

    One factor that stopped the industrial sector from falling as hard as it could have, and which will play a role in its recovery, is transportation.

    “Distribution of goods and warehousing (regional distribution centers) may not be an ‘exciting’ topic compared to high technology, but it is the underpinning of modern manufacturing and logistics,” said Alan Schlottman, Ph.D., professor of economics, UNLV.  “In other words, ‘goods movement’ is the fundamental infrastructure that exists behind the scenes.  You need this sector as basic infrastructure.”

    All roads may lead to Rome. But here, all roads in the 11 western states lead to – and more importantly, from – Nevada.

Now Entering Northern Nevada

    “In Reno there’s been a lot of really good activity at the end of last year and the beginning of this year,” said John Atwell, chief operating officer, Dermody Properties. “A lot of the bigger spaces are going to be gone, leased in the next 60 to 90 days, and there won’t be much space available in those sizes.” Companies coming to town will be looking at build to suit rather than available properties for lease.  In February, Dermody was looking at three build to suit projects coming up and felt positive about activity in the market.

    What’s being absorbed are the big box spec buildings built during the boom, and buildings left vacant when companies packed up and went home. What’s left, at least of the 300,000-square-foot and above size, is one building left behind by Dell, which headed back to Canada.  There is also another large space in the Tahoe Reno Industrial Center vacated by a different Canadian company.

    What’s coming in is e-commerce. Several new companies are locating their Internet or e-commerce fulfillment distribution centers in Northern Nevada.

    The draw is transportation. Nevada is the distribution/transportation hub of the 11 western states. From here Los Angeles, Phoenix, southern Seattle and other large population centers can be reached in one day by ground, air and rail.

    Even with an ideal location in Northern Nevada, distribution centers taking advantage of the hub location can pack up shop and go elsewhere. Fuel costs fluctuate and when they spike, distribution centers increase.

    “You see companies change their supply chain strategy to increase the number of distribution centers, getting inventory closer to the market,” said Mike McCabe, SIOR, senior vice president, Colliers International, Reno. “When fuel costs moderate, you see a trend for companies to reduce their number of distribution centers and widen the region from which they serve each distribution center; they tend to get a bit larger. Reno fits well in either model, because of our strategic geographic location to both Los Angeles and San Francisco, Portland, Seattle and Phoenix. Those population centers make up 80 percent of the western regional population.”

    “One of the companies coming in has a big warehouse in South Carolina and they’re looking to put one in Reno. With those two big warehouses they can hit 83 percent of their customers,” said Atwell. Given the issues companies face if they locate in California, distribution centers could prove a blessing for Nevada.

    What slowed industrial real estate was retailers going down for the count. When stores closed branches, or closed up shop altogether, distribution centers either consolidated or closed. Expansions were put on hold.

    Now the change is starting with e-commerce coming to Reno, and Atwell expects the retailers will return. “We’ve seen two or three of them lately and a lot of them look at Reno, Southern California and either Phoenix or Vegas and try to decide [where to locate]. If they’re driven by the port in Los Angeles/Long Beach, they might end up in Phoenix or Southern California. If they’re really driven by whether they can get their product out to everybody in the 11 western states, they’re more likely to go into Reno.”

    One attraction for e-commerce is TRIC – Tahoe Reno Industrial Center – located in Storey County. Home to much of the big box space discussed above, TRIC spans 107,000 acres.

    End of Q4 2010, beginning of 2011, TRIC experienced a heavy influx of new businesses. “If what I’ve seen end of last quarter and beginning of first is any indication of where we’re going, we’re going to have a phenomenal 2011,” said Len Gilman, sales and site selection for new business, L. Lance Gilman Real Estate Services.

    TRIC is somewhat insulated, a sub market to itself located between Reno and Fernley on I-80. “From the Northern Nevada market we can hit the western U.S. in two days shipping time via truck. That’s everything from Seattle to just shy of Denver, and all the way down to Phoenix. LA is a one day shipping, Salt Lake City, Boise, Portland – one day. South Seattle, too, but the truck line goes right through town, and northern Seattle is outside the miles a truck can drive in one day,” said Gilman.

Space Available

    In 2008, Northern Nevada industrial space was overbuilt. At the same time, said McCabe, consumer spending dwindled, causing companies to close and distribution centers to retract to other distribution points outside the western region. Supply exceeded demand.

    “In 2010 we think we saw the bottom and we’ve seen positive absorption for 2011, which is great if minuscule,” said McCabe. Some 280,000-square-feet have been absorbed. Compared to the 750,000-square-feet in negative absorption in 2009, it’s good news.

    According to Colliers International, Reno, vacancy rates dropped every quarter 2010. After a high of 15.6 percent Q1 2009, 2010 Q4 ended at 14.9 percent. Along with the interest from e-commerce and the return of some retailers, a couple very large 3PL (third party logistics providers) companies have taken big chunks of big box space off the market. McCabe expects by the end of the first or second quarter 2011 to see increases in absorption.

    Vacancy rates in Northern Nevada still stand between 10 and 12 percent, Atwell said, with anything over 200,000-square-feet expected to drop to 3 to 5 percent in the next few months as the big boxes are leased up. There’s still a lot of older and/or smaller product available. And if Northern Nevada was overbuilt in the industrial real estate sector, once the six to seven big spaces, located largely at TRIC, fill up, Northern Nevada’s industrial sector won’t seem overbuilt.

Leaving (and Entering) Las Vegas

    Industrial may not have been as hard hit as other sectors, but vacancy rates in the Valley attest to the impact of the downturn. Harsch Investment Properties has seen 13 to 16 percent vacancy, depending on the market report, said John Ramous, vice president, operations, Harsch Investment Properties, and rents have been driven downward.

    Rents in various sub-markets have been impacted also. “Every sub market saw rents decline over the last couple years based on supply and demand. I think the southwest was less impacted but still dramatically impacted from a rental rates standpoint.  Henderson was not as hard hit as, say the north sub market, but still hit hard,” said Ramous. Still, office and retail are going to take many years to recover, and industrial clearly has hope in the foreseeable future.

    “We suffered some pretty substantial negative net absorption in the past few years,” said Alderson. “I still anticipate that we’re going to see negative net absorption in 2011, however, I think it will slow down.  I think we’ll see substantially less negative net absorption than we have in the past.”

    There are three reasons the industrial sector is expected to recover relatively quicker than the other commercial real estate markets, said John Restrepo, principal, Restrepo Consulting Group, LLC. First, industrial product is relatively less expensive. Second, as the economy grows again, companies will need more storage capacity for product. Third, during the boom land prices were so expensive in the Valley that developers didn’t build as much industrial as office and retail, so it wasn’t as overbuilt. “None of the sectors is going to come back roaring or robustly, but of the three, industrial will probably come back relatively quicker. The vacancy rate is currently around 10 to 12 percent while office is at 22 percent.”

    That said, according to Leo Biedermann, director/industrial, Commerce Real Estate Solutions, two or three years ago vacancy rates were down in the 3 to 5 percent range. Vacancy rate Q4 2010 stood at 14.6 percent. “The things we’ve seen that have gone south on us are people leaving, especially construction companies, and those that are left have downsized from bigger buildings into smaller, so that has let the vacancy rate climb over the last few years.”

    Even if industrial wasn’t overbuilt in the Valley, Ramous said certain types of product perhaps shouldn’t have been built in the first place, or in specific locations.  Those products have failed and need to be absorbed. He added that more tenants failed than was anticipated at the start of the recession.

    But companies that have been reluctant to make the move to Nevada are now starting to move.  Ramous has seen a resurgence of California and Midwestern companies coming to Southern Nevada, and Harsch is starting to make transactions that just weren’t happening two years ago. There are fewer tenant defaults and more activity, positive net absorption in Harsch’s portfolio versus negative net absorption. More deals are being done than being lost.

    “We feel like we’re bouncing around the bottom right now,” said Biedermann. “We get a little momentum, then it sinks, a little momentum, then it sinks. We’re bouncing up and down.” It’s a matter of getting in more tenants and lowering the vacancy rate.

    As in Northern Nevada, transportation is key. “Infrastructure in transportation is always critical for industrial product in Southern Nevada,” said Ramous. “It has to be competitive, and that’s an opportunity Southern Nevada has going for it moving forward, whether it’s the building of what could be I-11, which could be a major route on the southern side between Phoenix and Las Vegas. It would be tremendous. Any strong, industrial market typically has a strong infrastructure in transportation network.”

What’s New?

    With Northern Nevada looking at build to suit projects to fit 300,000-square-feet plus users, some new construction is finally on the horizon. Atwell even suggests there could be spec construction starting up in Northern Nevada in the coming year.

    “What we’re doing and what other developers are doing is trying to get land permits ready so once rental rates start to move up again we can get started pretty quickly, so what people are doing is going through the entitlement processes, getting grading permits and even in some cases, getting building permits, so once it starts rolling again, you can get going fast.”

    McCabe doesn’t expect to see anything but build to suit projects in Northern Nevada in 2011. With 11 million-square-feet of industrial space vacant, competitive rents still being pushed downward by landlords looking to fill buildings or maintain tenants, McCabe doesn’t feel developers can justify spec building.

    It’s possible some paper projects (those never started once the recession hit) could now see the light of day. It’s still early for Nevada to consider spec buildings – Atwell points out rents are still too low to justify it, vacancy rates still too high, lenders still too leery – but there are signs banks are coming back.

    “There’s certain banks and financial institutions that come to us, not so much in Nevada but around the country, and are saying ‘We think we want to get back into the spec building again,’” said Atwell. “So that’s encouraging.”

    There’s no new construction in the Valley, but there are a few restructuring projects, smaller projects that banks are moving on being purchased and repositioned. “We’re in the process of repositioning a $7.5 million project that sat vacant for a couple years,” said Ramous. Given economic conditions, making improvements on a speculative basis didn’t make good sense. But when Harsch secured a large tenant for about half the building, it became feasible to finish the development. “We waited for a tenant to reinvest in that building and I think landlords are doing that too, finding a key tenant before they really reinvest in certain buildings.”

    The future in Northern Nevada looks bright to McCabe. “I think we hit bottom, and it’s been a painful process,” he said. Landlords are doing everything they can to maintain occupancy, making rent concessions with new and existing tenants, which is the right move until the vacancy rate drops and absorption increases and rents go back up, at which point he expects to see more construction and more stabilization of rent rates. “Times will be good again, but I’m afraid it’s probably two to three years to go before we see it taking a strong climb back up because of the capacity right now in the industrial sector.”

    “I think the biggest thing we’re going to see this year is a lot more industrial receivership properties than we’ve seen in the past,” said Biedermann. “The last couple of years we’ve seen office, we’ve seen retail, and now I think we’re going to see industrial. But is that a bad thing? It’s probably not that bad, because if we get an owner who couldn’t pay bills, a new owner who comes in is going to buy at better price than was out there before so our rents are probably going to stay lower for quite a while now as numbers are a lot more competitive than old owners used to have.”

    “I’m optimistic,” said Ramous. “I think the worst is behind us.”