Archives for April 2022

Real estate investors seeking diversification and new entrants are behind the search for opportunities.

Commercial real estate investors targeting the data center sector are increasingly trying out alternative routes including development partnerships and mergers and acquisitions, according to a JLL post.

“Capital has been focused on just a select number of deals, and with a scarcity of opportunities, investors are having to get more creative in their deployment of capital,” Luke Jackson, Data Centers Capital Markets director for EMEA at JLL, said in the post.

Metaverse Driving Interest, Need for Power and Data

Last year, global data-center investment reached$ 47.1 billion, up from $34.5 billion in 2020. These flows will continue this year spurred on by different and new sourcing of capital, Brad A. Molotsky, partner at Duane Morris, tells GlobeSt.com.

Cap Rates will continue to compress but are likely to hold around the mid 3s given interest rate pressure going up, he said.

Meanwhile, demand for space should continue to increase given the many participants’ increased need for cloud-based sourcing as well as expansion into the Metaverse in real estate and consumer brands, which is driving a whole new application that will also consume power and data.

Institutional Investment Rising

Jackson said more M&A activity is likely as institutional investment rises.

“Large funds continue to be dominant buyers, buying platforms—which in recent months has been the approach taken by new entrants—while new capital continues to be raised,” he said in the post. For example, Principal Real Estate has so far raised €155 million for its data center fund from asset managers, pension funds and insurance companies in France, Germany, Spain, and Malaysia.

“There’s an increasingly wider range of investors coming into the sector, that can be landlords, or investors in data center enterprises and the operational business,” John Wilson, data centers financing director at global investment bank SMBC, told attendees of a recent JLL webinar.

Molotsky said there are likely to be fewer deals but the deals will be bigger in total scale and size. Indeed, Wilson also pointed out that data center deployments have become larger, resulting in ever increasing amounts of capital investment required.”

This is why joint ventures between investors and operators are likely to happen more, at both one-off project and platform level, Jackson said. “But more development to satisfy investor demand will be key,” he said. “If you can’t buy the product, then you need to build it.”

The Rise of Moratoriums 

One challenge to this development is the rise of moratoriums on data center development around the world, JLL says.

Molotsky reports that his clients have not been overly affected by them; instead they are becoming more of a factor for warehouse distribution centers due to resident pushback against the increased number of  trucks and traffic on local roads.

Molotsky added there has been a dramatic uptick in the number of players looking to site facilities and operations in Opportunity Zones given the huge upside for no capital gains on sales after 10 years if structured the right way.

Source: “Data Center Investors Seek New Paths to Capital Deployment“

Considering the growing demand for industrial real estate, golf courses are popular targets for conversion to warehouse and distribution centers.

With the appetite for industrial warehouse and distribution space continuing to grow, more developers have begun to eye — and buy — golf courses for conversion to industrial parks. These large parcels of land, many near highways, can be attractive sites for the facilities required by e-commerce and other users. Even Amazon, which used to shy away from golf courses, has begun to develop these manicured green spaces into warehouse and distribution centers.

An oversupply of golf courses — and U.S. consumers’ growing preference for online shopping and close-to-immediate delivery — are making these expansive acreages, once reserved for an afternoon of birdies and bogies, too attractive to pass up. While not welcome by all communities, these conversions for industrial uses are likely to increase in the future.

An Increasing Supply

Golf as a participation sport has been in decline in the United States for about 15 years. Today, about 5 million fewer individuals play compared to 2005, a drop from 30 million to 24.3 million, according to the National Golf Foundation.

The main reason for this decline is that young people have not taken to golf the way their parents and grandparents did, finding it time-intensive and expensive. Despite a bump in interest in golf during the first year of the pandemic because it offered people a way to socialize outdoors safely, that interest seems to have dropped off again as other activities became available. Rounds played in July 2021 were down 3.9 percent nationwide from July 2020, according to the NGF.

With demand falling, it’s clear the U.S. overbuilt golf courses, a lot of which occurred during the late 1990s and early 2000s, when Tiger Woods was popularizing the sport. Leading the charge were municipal park districts and residential golf community developers, especially in the suburbs, where too many golf courses were built too close to each other without thought of market oversaturation. With fewer players, many of these suburban courses were particularly vulnerable, leading to the nearly two-decades’-long shakeout. In all, about 2,500 courses have closed since 2005, according to the Internet Golf Database.

Buying, running, and maintaining a golf course is expensive; margins are slim; and operators need to be disciplined about pricing, expenses, and maintenance. According to the NGF, one-third of public golf facilities did not make enough revenue in 2019 to cover all on-site expenses. Private and municipal courses have similarly struggled.

Industrial’s Booming Demand

As golf courses are struggling — and in many cases, failing — e-commerce is propelling the need for warehouse and distribution facilities. With more of us buying online during the pandemic and increasingly expecting next-day or same-day delivery, e-commerce providers are all desperately seeking large, well-located warehouse and distribution centers near railroads, expressways, and airports, with proximity to population centers. Demand for warehouse space hit 350 million square feet in the top 22 markets in 2020, according to CBRE, up 20 percent from 2019. Industrial vacancy nationally was 4.3 percent in 3Q2021, according to JLL, and rents increased to $6.76 per sf, up 7.1 percent from a year earlier.

Users want large, modern, newly constructed facilities with all the bells and whistles, like 36-foot clear heights and lots of trailer and car parking. And while there is a need for some smaller last-mile facilities within cities, many users need big-box facilities that start at a minimum of 500,000 sf and reach 1 million sf or larger. That means industrial developers and contractors need to build facilities on large sites, typically in suburban or exurban locations.

The more the demand accelerates, the better underutilized golf courses look. Before the current jump in industrial demand, golf courses were not necessarily considered good sites for industrial development. The locations are complex, often with environmental and conservation issues — many have significant wetland/floodplain restrictions which create headaches for site planning. Rezoning is typically the largest hurdle to overcome for industrial developers. For instance, the three golf courses in Orland Park, Ill., are Silver Lakes (E-1 estate residential), White Mountain (BIZ general business) and Crystal Tree (R-1 & R-3 residential). To change the zoning to an approved commercial use, developers will have to go through zoning board and village board approval, each requiring a process with public hearing meetings — and that means being prepared to persuade some angry residents who do not want warehouses in their neighborhoods.

The more the demand accelerates, the better underutilized golf courses look. Before the current jump in industrial demand, golf courses were not necessarily considered good sites for industrial development.

Amazon, for example, used to shy away from golf courses because they required too much extra effort to develop. But as the need for industrial space has exploded, users and developers are willing to take a second look. Amazon now has developed several courses for warehouse and distribution facilities, including the former Skyland Pines Golf Course, an 18-hole course, banquet center, and driving range in Canton, Ohio, off U.S. Route 62 and Columbus Road, where Amazon will have a 1 million-sf warehouse. Another example is a 634,00-sf fulfillment center being built on the former Pine Lakes Golf Course in Alcoa, Tenn.

Courses near my firm in suburban Chicago that are being sold or have been sold for development include the golf course at Pheasant Run Resort in St. Charles, Ill., about 40 miles west of Chicago, and Lansing Country Club in Lansing, Ill. Several other Chicago-area courses are now being marketed specifically for residential redevelopment, including Silver Lake Country Club in Orland Park and Big Run Golf Club in Lockport.

Without question, while some municipalities welcome the jobs and taxes that warehouses bring, not all communities are welcoming golf course conversions with open arms. For example, in Illinois, the Village of Homewood has been locked in a years-long battle around the fate of the Calumet Country Club Golf Course, established in 1901 and annexed to Homewood in 1980. The course had been financially troubled for many years before being sold to a developer, who wants to use it for an 800,000-sf distribution facility. Village officials and angry residents have locked horns at many contentious meetings, and the future of the site is currently unclear. Industrial sites introduce truck traffic, noise, and pollution, so not everyone is willing to trade that for same-day deliveries. But the promise of job opportunities and greater tax revenue for public improvements can be hard to turn down for cash-strapped municipalities.

Consumers are predicted to increase their online shopping habits, and retailers who want to compete need to match the delivery speeds of Amazon, Walmart, and Target, so the need for warehouse and distribution space will continue to grow. More places will see the fenced-in 175-acre green space in their community — once a spot for a day on the links — give way to big-box warehouses that are the stopping points for the groceries, electronics, and furniture that customers want at ever-increasing speeds.

Source: “From Fairways to Forklifts”

 

The commercial real estate market continued to see rising occupancy, rents, and investor acquisitions in February 2022, with the impact of the Russia-Ukraine war and upswing in interest rates still likely to manifest in the coming months in some commercial segments.

In the apartment market, 571,669 units were absorbed in the past 12 months through March 26, outpacing the 404,152 units delivered into the market (supply). The vacancy rate remains at a low 5%, pushing asking rents up 11% year-over-year on average.

With more workers heading back to the office and amid sustained job growth, 22.1 million square feet (MSF) of office space absorbed since 2021 Q3. However, occupancy is still down by 115 MSF compared to the pre-pandemic level, pushing up the vacancy rate to 12.3%. Asking rents are up on average by 0.7% year-over-year, with rents up in nearly all 390 metro areas except in markets like New York, San Francisco, and Washington DC.

In the industrial market, 778 MSF of industrial space has been absorbed since 2020 Q2. The industrial sector has the lowest vacancy rate among the core property markets, at 4.1%, driving up rent growth to 10.6% year-over-year.

In the retail property market, 74 MSF of retail space has been absorbed since 2020 Q2, with strong demand for retail space in general retail, power centers, and strip malls. The average vacancy rate is a low of 4.5%, with asking rents up 4% year-over-year.

While the hotel property market has improved compared to one year ago, the emergence of the Omicron variant in November stalled the hotel property market’s recovery. Hotel occupancy was just at 52.2% in February, which is still below the occupancy of 56.9% before the pandemic in February 2020.

The low vacancy rates except in the office market suggest commercial prices are likely to remain broadly firm even as interest rates rise. Moreover, oil-producing states like Texas, North Dakota, New Mexico Colorado, Oklahoma, and Michigan could see higher demand for commercial space as the U.S. ramps up oil and electric vehicle production.

Rising mortgage rates will tend to shift the demand toward multifamily rentals. The relatively short-term leases in the apartment market create a natural hedge to inflation that makes multifamily properties a good investment in a rising interest rate environment.

As vaccinations increase and the population achieves natural immunity, workers will likely continue to return to the office even if on a hybrid model, bolstering the demand for office space.

The demand for industrial warehouse space is likely to moderate temporarily if consumer spending weakens as inflation erodes purchasing power. However, prices are likely to remain firm due to strong long-term demand underpinned by sustained growth in ecommerce.

Neighborhood centers and general retail stores that provide essential services and consumer items (e.g. groceries) are likely to see sustained demand from occupiers while retail malls―which already have an elevated vacancy rate of 8% ―are the most vulnerable to price declines as consumers pull back on non-essential spending as purchasing power weakens.

Read the full issue here.

Source: “NAR Commercial Market Insights- March 2022“

So far, the tea leaves aren’t giving much guidance.

By some measures, the office sector seems to have improved some, according to a new report from Colliers. However, questions remain, and arise, about where the market might be headed

Last year closed out with some positive news, according to Colliers. For example, the Q1 2022 office vacancy rate stands at 14.8%, down from 14.9% in the fourth quarter of 2021. The amount of sublease space has fallen to 199.7 million square feet, from 208.8 million square feet in 2021’s second quarter. Net absorption was up nationally at the end of 2021 to nine million square feet, versus 3.2 million square feet in the third quarter of 2021. “This represents a significant turnaround from the cumulative 153 million square feet of negative absorption seen between Q2 2020 and Q2 2021,” said the report.

Which is all well and good. However, understanding business conditions also means considering the less pleasant information and reading around the happier data.

For example, construction activity continues to slow, with 120.5 million square feet in the process, “down 26% from this cycle’s peak of 164 million square feet, seen in Q3 2020.” Supply chain woes and labor shortages are making deadlines a challenge, which is one likely cause. However, to what degree has project viability become more questionable?

Certainly, of course, some markets are faring better than others with their pipelines. The New York metro area has by far the largest amount of ongoing construction, at 24.3 million square feet, followed by the San Francisco Bay Area with 10.7 million square feet, according to Colliers.

Another data point to consider: the number of people who are actually in the office. Kastle, which has customers in more than 2,600 US buildings in 138 cities, reports that the average weekly occupancy is still just 40%. Though there are regional differences, only the Austin metro is above 50%. .

With all the available office space, it could take nearly three years to absorb it. Office investors are likely to remain on the sidelines in primary markets. Many, though, are moving to secondary and tertiary markets, especially in the Sun Belt and west where there are large influxes of populations, creating CRE needs in many categories, including office.

The bottom line: We are still waiting to see how the office sector shakes out. As Colliers notes, vacancy rates will likely take until the latter half of 2022 to decline, but in selected markets. It will also take the first half of this year to determine whether net absorption will continue.

In the meantime, sublease space remains elevated, construction will continue to slow, and rents continue to hold up, “albeit with generous concessions.”

So far, in the office segment, the one dependable tenant remains uncertainty.

Source: “Waiting For More Data on the Office Sector“