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While out national and local news outlets inundate us with what is going on in Washington, D.C., these days, word may not be on the street yet that the industrial real estate market just north of D.C. has begun to see significant improvement, something that has been slow in the making. This market has always been on the radar of the top real estate investors and remains a sought-after destination for industrial investment.
The Baltimore-Washington (BW) Corridor industrial real estate market, historically one of the strongest in the country, received a gut punch in 2008 much like the rest of the real estate markets throughout the country. Defined as mostly Howard and Anne Arundel counties, this 46 million-square-foot market is essentially the area between the Baltimore Beltway and the Washington Beltway, a distance of 25 miles along Interstate 95. This market acts as the “last mile” of distribution to the affluent suburbs of the Capital Region.
Prior to the fourth quarter of 2012, most leasing activity in this market consisted of tenants downsizing or shopping their renewals to anxious owners looking to fill recent holes in their portfolios. The results were lower rental rates, more concessions and generally lower investment yields. In the latter part of 2012 and continuing through the first five months of 2013, real positive net absorption has been the trend. (Significant lease deals include transactions featured in the chart below, all of which resulted in new absorption.)
The Hearn Kirkwood deal is a build-to-suit lease, something that has been missing from the market for the past several years. The Flir, Centric and Creative Recycling deals are in Class A, rear-loaded buildings, which has been the tightest part of the market and currently boasts a vacancy below 5 percent. The Recall and Pepsi leases are located at a 2 million-square-foot former GE manufacturing facility in Columbia, Md.
Sears vacated 965,000 square feet in this facility in 2008, creating a large hole that began the negative absorption trend for the next few years.
Unlike the Harford County, Lehigh Valley and New Jersey 8A markets, the BW Corridor doesn’t attract the big box warehouse users. Consequently, the Recall and Pepsi deals were the right antidote at the right time.
As can be expected, average rental rates declined as the market became softer. Class A deals that were regularly in the $5.50 to $5.75 per-square-foot, triple net range suddenly were down 15 to 20 percent. Class B space historically has lagged $1 to $1.25 per square foot behind the Class A product. This trend has continued during this down period. However, in the last six to nine months the uptick in demand has allowed landlords to begin to push rents close to 2006/2007 rates.
Vacancy rates have only begun to recede starting in the fourth quarter of 2012. A market that historically runs in the 93 to 95 percent occupancy range, Baltimore’s industrial market reached a high water mark of 14.7 percent vacancy. Slowly the occupancy has begun to subside and currently rests at 13.3 percent. The market averages more than 1 million square feet of absorption annually and has reached 1.5 to 2 million square feet of absorption in a single year in past recoveries, so it won’t take long for the market vacancy to dip below 10 percent. Increased occupancy will result in an increase in rental rates. Class C space will be the exception and will cause a lag in the overall vacancy due to its difficulty in leasing primarily on account of its functional obsolescence.
The obvious question to the increased occupancy is “what can be brought to market?” Available industrial land for development has been scarce for some time now. However, the Base Realignment and Closure Act (BRAC) that Congress passed several years ago designated Ft. Meade as a priority base. Because the National Security Agency (NSA) is located next to the fort and provides much needed support, any available land within the corridor quickly became priced as office or residential land. Industrial development has been squeezed out by the “highest and best use” principle.
There will be some warehouse development, but it will not keep up with historic demand. Liberty Property Trust, developer of Hanover Crossing, and Exeter Property Group, developer of Dorsey Commerce Center, have already broken ground for the first speculative developments in the BW Corridor since 2007. The other sites are chasing a few build-to-suits in the market. Any speculative development from the other sites will not occur until 2014 at the earliest. Leasing activity at Hanover Crossing and Dorsey Commerce Center will dictate the next speculative developments.
The BW Corridor has always been an active market for investors. Sales in 2011 and 2012 were no exception. Nearly 2 million square feet of warehouse space was sold in 2011 and almost 3.5 million square feet was sold in 2012. Sales values now exceed the values in place in 2006 and 2007. Sales have ranged from $52 per square foot to $114 per square foot. Cap rates have been below 7 percent with a few sales breaking the 6 percent cap rate level. This is especially noteworthy considering no one is willing to unload their trophy properties.
The BW Corridor has been an attractive place for owners, developers, investors and for tenants. This market has experienced a hiccup much like the rest of the nation, however, it has continued to thrive for investors and activity has been on the upswing for a solid six to eight months. As we continue to slog through this economy, this market will continue to improve and should remain a smart place for money on the ownership side or as a tenant looking to peddle its wares.
— Thomas Whelan, principal of Lee & Associates | Chesapeake Region