After emerging from the downturn, Denver’s industrial market is well and truly back on its feet. As options for large, Class A industrial users of more than 200,000 square feet dwindle, build-to-suit projects are popping up at levels last seen in 2006 and 2007. This is a great sign for the overall health and recovery of the state’s industrial real estate market.
Polystrand has almost completed a 120,000-square-foot manufacturing facility in southeast Denver; Interline Distribution is underway with a more than 200,000-square-foot warehouse project along the I-70 corridor scheduled for delivery in August 2012; and U.S. Foods recently purchased land in Eastgate Park where it plans to build a 400,000- to 500,000-square-foot building. There are several other users that have either made similar land purchases or are in the market for large portions of land. In fact, there is a healthy inventory of well-located development sites available, which can be purchased at prices that make sense for users choosing the build-to-suit route.
Although large blocks of quality Class A space are sparse in the Denver region, rental rates have not yet risen to a level that would compel developers to start speculative development. Also, there is little guarantee that their buildings will be fully or even partially leased. With rising construction costs, rental rates must increase by about 10 percent to 20 percent before developers dust off their speculative development plans.
On a positive note, rental rates are expected to rise in 2012. We therefore expect developers to start breaking ground in 2013. A trend that will support this activity is the growth of food and beverage companies like U.S. Foods. Other key industries to watch include oil and gas, as well as alternative energy, which shows notable growth and firmly impacts demand for both office and industrial real estate.
In Denver, we are still seeing a flight to quality, with tenants looking for Class A warehouse space, particularly functional buildings with yards for outside storage. The older, less functional warehouse space continues to struggle, however. The most common tenant request is currently in the 10,000- to 15,000-square-foot range. We are also seeing a noticeable shift as rising fuel costs are forcing some companies to re-evaluate their supply chain logistics and create more efficient uses of their real estate.
Out of the nine major Colorado submarkets in the first quarter, seven posted positive absorption for leasing in the warehouse/distribution sector. This comprised a total of 493,124 square feet. The majority, 328,974 square feet, came from the northeast and I-70/east submarkets. Activity in the leased manufacturing sector remained slow, posting negative net absorption of 228,330 square feet. Vacancy rates have also topped 12.4 percent so far this year, compared to 12 percent in 2011. Flex pricing remained flat over the past 23 months, but this is expected to rise by the end of 2012 and into 2013.
So far this year, investment sales have been slow. Only three sales of more than $5 million took place in the first quarter of 2012. While there are many qualified buyers waiting in the wings, there is very little product on the market. Average building sales are running at $55 per square foot to $60 per square foot, with a 7 percent cap rate for Class A assets. Fortunately, land sales are on the rise as build-to-suits gain momentum.
As the oil and gas industry accelerates in the Denver metro area, employment growth will gently push the local economy forward in 2012. Denver metro’s unemployment rate fell to 7.6 percent in January, down 1.5 percent from a year ago. With further job growth, albeit slow, consumer confidence will continue to rise. This trend should keep industrial demand healthy throughout the remainder of the year.
— Mitch Zatz, senior vice president and head of Jones Lang LaSalle’s industrial team in Denver