Bill Hardy, BH Properties
Mexico is what drives El Paso.
Mexico is the dog and El Paso is the tail. When the dog is happy the tail gets to wag, and we’re wagging pretty hard right now. The El Paso industrial market hasn’t been this strong since at least 1990.
Juarez, Chihuahua, El Paso’s Mexican counterpart directly across the border, posted a third consecutive year of positive industrial absorption in 2015. Build-to-suit development activity is at a level not seen in five years. As a direct result, El Paso’s industrial vacancy rate dipped below 9 percent in the fourth quarter of 2015, the strongest tenancy performance in nearly a decade, according to Cushman & Wakefield | PIRES International.
Brett Preston, Cushman & Wakefield | PIRES International
All the leasing activity we’ve been seeing has been chewing into the city’s vacancy rate. El Paso’s Class A vacancy rate is now below 2 percent.
For example, in February, Los Angeles-based BH Properties leased a 409,000-square-foot industrial space located at 9600 Pan American Drive between Interstate 10 and the Rio Grande to a subsidiary of Sweden-based Electrolux Group.
Electrolux Group chose the location because it is near the Zaragoza Bridge, El Paso’s far-east port of entry, providing convenient access to the company’s plant across the Mexican border. BH Properties purchased the Pan American Drive manufacturing facility, which totals 655,000 square feet, from The Eureka Co. in 2009.
Cushman & Wakefield | PIRES International has offices both in El Paso and Juarez, and industrial leasing is as strong as it has ever been in both markets. However, there is no new industrial stock coming online, so brokers are forced to mine what stock they have available.
David Hingst, Cushman & Wakefield | PIRES International
Just 18 to 24 months ago there were a number of large-block vacancies in metro El Paso. About two years ago we started seeing improvement and activity on the other side of the border in Juarez. As a result, the absorption of those big blocks in El Paso happened within 18 months of the increase in activity in Mexico.
El Paso’s market consists of about 60 million square feet of industrial space, while Juarez has about 62 million. Between 85 and 90 percent of El Paso’s industrial product is dedicated to distribution. Juarez is just the opposite, with 85 to 90 percent dedicated to manufacturing.
The two cities are connected by five ports of entry and together form one of the world’s largest international border economies. One of the most active maquiladora locations in all of Mexico, Juarez boasts more than 300 manufacturing operations for major corporations such as Bosch, Foxconn, Flextronics, Tyco Electronics and the previously mentioned Electrolux.
Maquiladoras are manufacturing operations in Mexico where factories import certain material and equipment on a duty-free and tariff-free basis for assembly, processing or manufacturing.
The factories then export the assembled, processed and/or manufactured products, sometimes back to the raw materials’ country of origin.
Growing Investments
On the investment side, El Paso has long been viewed as a secondary, even tertiary, market, but things are changing.
El Paso is much more of a presence on the industrial investment map today than it was a number of years ago as a result of new institutional funds coming into town. Companies such as GPL, UBS and Stag Industrial are among the major players seeing the investment light in the Sun City. The results have been impressive.
Cushman & Wakefield | PIRES International has seen record sales and cap rates. Recent portfolio sales have ranged from $42 to $58 per square foot, compared with a historic average of $25 to $40 per square foot.
Cap rates have dropped from a historic average of 10 percent to a range of between 6.5 to 8 percent for investment-grade industrial product.
However, industrial leasing rates in El Paso must increase substantially to justify new industrial construction. There is a fairly big gap between the city’s current industrial buildings and what new buildings will need to get in rent to support a reasonable return for developers and investors.
This has kept a lot of developers on the sidelines because there is sticker shock for tenants when they learn what the new rates would look like.
Lease rates for larger industrial buildings would need to be in excess of $4.50 per square foot per year to justify a reasonable return.
Current rates for 50,000 to 100,000-square-foot industrial buildings range from about $3.75 to $3.85 a foot, while smaller industrial space — under 20,000 square feet — is leasing from $4.25 to about $4.50 per square foot. The market, while better than it has been in years, is not quite ready to pay a 20-plus percent premium for new space.
Some company owners may still be uncomfortable with the economy, but they cannot deny the value Mexico provides with its cushion of cheap manufacturing that allows it to be competitive with overseas markets. More of the same could be on the way for El Paso this year, with one looming question.
Development Needed
Very soon, bold steps will need to be taken by industrial developers to build the next generation of facilities.
There is a lot of speculative construction going on in Juarez, and El Paso could lose business if it can’t support Mexico’s manufacturing component.
If Juarez businesses can’t find the support they need in El Paso, they’ll go to other cities, such as Laredo, McAllen, Brownsville, Tucson, Kansas City or somewhere else.
The next wave of El Paso growth will likely come from the California garment industry.
Once known as the Denim Capital of the World, El Paso offers labor and cost advantages over California, which has dominated the sewing industry in recent times.
Because of California’s potential minimum wage increases, companies in Los Angeles may find it difficult to compete with overseas manufacturers. They are actively looking for other places to move their operations.
El Paso’s industrial sector should enjoy another high-performance year in 2016, especially the owners in the ever-tightening landlord market. While many wait for real estate fundamentals to tip the scale in favor of new development, the city’s strategic role as distribution-support channel for Mexico continues, with new positive reviews.
El Paso has always been steady, rather than a boom or bust type of market. For the first time in a while, the city is experiencing a boom.
— By Bill Hardy, senior vice president, BH Properties, Brett Preston, managing partner with Cushman & Wakefield | PIRES International, and David Hingst, partner with Cushman & Wakefield | PIRES International. This article originally appeared in the April 2016 issue of Texas Real Estate Business.