In December 2019, Prologis, the largest industrial landlord in the world, announced its acquisition of Liberty Property Trust, another publicly traded REIT with a large industrial portfolio of its own. This deal, valued at $12.6 billion, seems to have become the norm in recent months. Companies such as Prologis and Blackstone Group, as well as regional ownership groups, have gobbled up industrial investment opportunities whenever they can.
Just 10 years ago, the industrial real estate asset class was battling high supply and low rents, due primarily to the Great Recession.
Liz Roberts, Cresa
But with the growth of e-commerce and omnichannel logistics, this asset class is now considered one of the best investment opportunities available. So how is this consolidation of industrial ownership impacting the Chicago-area industrial market, and what should tenants know so that they can make informed real estate decisions?
Local numbers
While it seems like there are just a handful of landlords controlling the marketplace, when you look at the numbers, the prognosis isn’t so bad. Nationally, no single owner controls more than 10 percent of the U.S. market. Instead, landlord dominance is more of a local concern, and typical real estate indicators continue to influence lease terms. However, there are areas where tenants need to be vigilant in the event that their building is sold, or they are leasing in a submarket with limited ownership competition.
Chicago’s industrial vacancy rate is the lowest it’s been in almost 10 years — and rental rates continue to increase. The increased investment activity doesn’t help this trend — portfolio underwriting is competitive, and owners need to be able to deliver on their targeted rent projections, even if the projections exceed market rates.
And if one landlord can secure a higher rent, you can assume that the others will try to follow their lead. This means that not all tenant income is equal, and landlords will likely be more willing to hold out for their targeted rate. Tenants with good credit, or those willing to accept a higher rental rate in exchange for other lease concessions, will likely have an easier time in this environment.
The legalese
Of course, with acquisitions comes paperwork. With the flurry of investment activity, tenants should expect to see requests for tenant estoppels. An estoppel is a document that confirms the basic business terms in a lease, along with any outstanding concessions, security deposits or lease options. The timelines for responding to estoppels can vary but are usually between 10 to 20 days after receipt of the document. It is important to sign this document with legal review; the tenant attorney should confirm the estoppel aligns with the actual terms in the lease agreement. If there is a discrepancy, the estoppel can sometimes override the lease.
Additionally, tenants can further protect their interests by securing a Subordination and Non-Disturbance Agreement, or SNDA, with the landlord and landlord’s lender. This document protects a tenant’s right to occupancy by acknowledging that the leasehold is subordinate to any mortgage debt. It’s important to remember that landlords will sometimes place debt after an acquisition has closed, so tenants should check in on debt status regularly.
Management changes
With changes in ownership often come changes in property management. Not every ownership group approaches property management the same way. Some groups provide the service in-house, while others outsource to third-party providers. Depending on capital positions and portfolio reserves, asset managers may schedule regular repair and maintenance differently.
Monthly expenses may not change on day one of a new property manager, but tenants should pay close attention to the first operating expense reconciliation. Tenants should review this carefully, comparing the statement against the operating expense clause in their lease agreement. Their lease will most likely be different than the new owner’s standard language, so it is important to confirm that costs such as controllable operating expenses, capital costs and excluded items are treated correctly.
A potential benefit to tenants is with a larger landlord there is the potential for operating cost savings via regional or national vendor contracts, and larger portfolio owners can also mitigate potential ownership risk by spreading it across a larger group of buildings.
The amount of investment and acquisition activity in the industrial sector is not expected to slow any time soon, so tenants need to be prepared to potentially adjust their negotiation tactics and be ready to respond quickly to the marketplace. Tenants should make sure to understand who their landlord or potential landlord is, what investment strategies the landlords employ and which submarkets may be more challenging due to the landlord mix and property availabilities.
A landlord’s real estate market is nothing new, but the players have changed, and tenants need to be ready to negotiate in a more challenging environment.
— By Liz Roberts, Senior Vice President, Cresa. This article originally appeared in the March 2020 issue of Heartland Real Estate Business magazine.