Texas Real Estate Business

FEB 2018

Texas Real Estate Business magazine covers the multifamily, retail, office, healthcare, industrial and hospitality sectors in Texas.

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www.REBusinessOnline.com Texas Real Estate Business • February 2018 • 17 M A R K E T H I G H L I G H T: A U S T I N TENANT DEMANDS CHANGING IN AUSTIN INDUSTRIAL MARKET The story of industrial real estate to- day, at least in terms of national media coverage, centers around compress- ing cap rates and the steady stream of capital flowing into the sector. But in Austin — the kid brother of two major industrial markets, Dallas and Houston — the story over the past 12 months has been the large increase in the volume of industrial construction. Austin delivered 3.1 million square feet of industrial product in 2017, a 55 percent increase over the total space delivered during the previous year. Throughout the past year, the metro also trailed the national average in in- dustrial vacancy, net absorption and percent change in rental rates from 2016 to 2017. Many developers that broke ground during one of the healthiest periods in Austin's industrial history are now delivering space at a time when the Austin economy is starting to cool. Employers have found themselves in a more competitive environment, with annual job growth slowing to sub-3 percent levels and the unem- ployment rate reaching numbers not seen since the dot-com boom. Market Evolution Austin's recent industrial perfor- mance should not be seen as cause for alarm, but rather as an opportunity to understand the changing mindset of the tenants and developers that are shaping the trends of a secondary market's industrial landscape. When discussing year-end num- bers with Austin's industrial brokers, they are quick to identify a story be- hind those figures: Tenant demand has not slowed. We are still in a land- lord's market, but tenants are looking for more efficiency in their spaces. In recent years, industrial tenants were not only faced with sticker shock when looking to renew leases, but were also given limited relocation options. Given that the market was experiencing eight straight quarters of sub-6 percent vacancy and a rate of new construction that equated to 1.1 percent of the national industrial inventory, these trends weren't too surprising. Industrial rents in Austin averaged $7.01 per square foot from 2000 to 2011, with moderate year-over-year changes in asking rents. In 2012, when the signs of a rebounding real estate market began to emerge, Aus- tin went down a path of intensified rent growth. On average, between 2012 and 2017, that path would lead to a year- over-year asking rate change of 6.4 percent and a rental rate of $9.14 per square foot. The average asking rent for industrial properties in Austin currently sits at $10.86 per square foot; our primary distribution market neighbors, Dallas and Houston, aver- age $6.16 and $7.12 per square foot, respectively. One can easily conclude from the data that the plan to combat this explosive rent growth was simple: build more. From the second quarter of 2016 to the fourth quarter of 2017, Austin delivered 4.6 million square feet of industrial space. To put that number into context, consider the fact that prior to that stretch, it took the metro nine years to deliver 4.9 million square feet of new industrial product. This feverish new pace of building, coupled with rising rental rates, has forced developers to find unique ways to draw in prospec- tive tenants. Tenant Preferences Otto Swingler, senior associate at Live Oak, an Austin-based, full-ser- vice real estate firm, notes that higher ceiling heights are at the forefront of new industrial features demanded by today's users. "We're seeing deals for 24-foot clear height buildings being lost to those with 28-foot or higher clear heights, like you see in larger industrial mar- kets across Texas," says Swingler. "Developers delivering buildings that offer 28- to 32-foot clear heights are reaping the benefits of an added ten- ant amenity." "In this development cycle, the cubic volume of space leased, even at a pre- mium for taller clear heights, allows for a fifth or even sixth racking system for high-pile storage," Swingler adds. "While tenants in previous cycles may have been more local-services driven, this feature is becoming im- portant to today's user." Heavy construction of late in the Southeast submarket has led to com- pletions of phases of Park 183, South- park Commerce Center V and Com- merce Center South. Each of these properties features buildings with 28-foot clear heights. Nearby Freeport Tech Center South will stand a bit tall- er with 32-foot clear heights. Another emerging tenant prefer- ence — shrinking footprints in larger bulk warehouses — represents an easy way for industrial users to reduce oc- cupancy costs. However, some tenants are going even further and looking for ways to own and occupy their build- ings. Capitol Wright Distribution re- cently moved into its 435,000-square- foot, owner-occupied facility in Man- or, Texas, consolidating numerous leased locations around the Austin area. In southeast Austin, Travis As- sociation for the Blind has its own 350,000-square-foot, build-to-suit property under construction. Final Thoughts Larger industrial users seeking their own facilities can also take control of their real estate costs by consolidating under one roof. As this trend unfolds, Austin — a supply-constrained market that often faces geographic challenges, rising construction costs and an unpredict- able permitting process — should see a significant reduction in the its vol- ume of new development. This slow- down should coincide with the deliv- ery of nearly 1 million or so square feet of industrial product currently under construction. Whether it be higher clear heights, shrinking footprints or more build-to- suit opportunities in non-typical loca- tions, changing tenant demands will steer Austin's industrial future. John Taylor Managing Director, HFF Dom Espinosa Analyst, HFF PERMANENT LOAN $6,750,000 SUBURBAN OFFICE BUILDING WOODLANDS, TX | 68,463 SF | LIFE COMPANY PERMANENT LOAN - 10 YEAR INTEREST ONLY $4,000,000 FRY ROAD RETAIL CENTER WEST HOUSTON | 27,000 SF | CMBS AFFORDABLE HOUSING $15,786,000 THE AZURE MIDLAND, TX | 156 UNITS | FREDDIE MAC R E C E N T T E X A S T R A N S A C T I O N S Visit northmarq.com to learn more. T E X A S O F F I C E S DALLAS 972.392.3366 | HOUSTON 713.622.6300 SAN ANTONIO 210.734.1844

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