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Industrial Is CRE's Top Sector And Shows No Signs Of Slowing Down

Industrial is the fastest-growing sector of commercial real estate, with years of room to go, and there are still areas of the market that have yet to be fully explored.

485 St. John's Church Road near Harrisburg, a warehouse Endurance bought with plans to redevelop.

There may be no bigger change agent in the global economy over the last few years than e-commerce, and its impact is being felt most in industrial real estate. The demand for warehouse and distribution space has been fervent for years, and while supply is beginning to catch up, limiting factors seem to be preventing a swing to overbuilding.

Although spec industrial space is being built (and filled) in New Jersey and central Pennsylvania, the pace is slower than before the Great Recession, thanks to increased regulation and a more cautious approach from banks and lenders. While developers may want to build more than they can finance, the overall effect is positive on the market’s fundamentals.

“If you look at development prior to the ‘07-’08 downturn, we were at 230M SF per year [of industrial construction], and we still haven’t matched it since,” CBRE Vice Chairman of Institutional Properties Michael Hines said. “If you look at the national net absorption last year, the 187.6M SF of 2016 completions were compared with net absorption of 278.5M SF. So we’re still being pretty patient and calculated with our industrial development.”

Another inhibitor of industrial development is only beginning to rear its head in certain warehouse-dense areas like Carlisle, Pennsylvania, at the intersection of I-78 and I-81: There is not enough labor to staff more warehouses. Hines called labor “a huge concern.”

“You see ‘for hire’ signs in every occupied building in Carlisle,” Endurance Real Estate Group President Ben Cohen said. “You’re going to start to see the pinch in the future. Some users will be hesitant to go to Carlisle if there’s another option somewhere else.”

Carlisle is so appealing because of its proximity to interstates just a couple of hours away from both Philadelphia and New York, but if distributors cannot staff their warehouses, they need to find locations that are not quite as well-positioned — Endurance is redeveloping a facility in Harrisburg, for example — or that may have more expensive real estate, such as New Jersey.

There is another potential workaround to a labor shortage that has been on plenty of minds the last couple of years: automation. Amazon, Target and other large e-commerce distributors are the only companies with the balance sheet to make such an upfront investment into automated infrastructure so far, with robots picking boxes off shelves in the warehouses. But technology gets cheaper over time, so automation looks likely to increase its presence in the coming years.

Automation has its own limits and pitfalls beyond cost, however. Driverless delivery trucks may be closer to being widespread than picker robots, but there is natural and understandable pushback on the concept.

“Driverless trucks are a little bit farther along technologically, but the consumer will push back against a driverless 18-wheeler coming down the highway,” Hines said.

Satellite image of a dense cluster of distribution centers in Carlisle, Pa.

In the short term at least, last-mile facilities look to have a bigger impact on industrial real estate than automation anyway. Areas like Carlisle might not be close enough to make a difference in the Amazon-driven race for faster deliveries to consumers, which means that smaller facilities, stocked with common and essential orders and closer to population centers, are the logical next step.

Few last-mile facilities have been built to this point, however, and few likely sites are available at any given time. Close to a major city, there is more competition from other real estate sectors for space, after all, but the advantages are undeniable.

“[A last-mile facility] could be an old warehouse right off of I-95 in North Philadelphia,” Hines said. “You could have guys on bicycles delivering packages when you’re that close to a population center.”

“I think there definitely will be more last-mile requirements that come to Philadelphia, but the problem is that there are just so few options,” Cohen said. “You’ll see it more in central New Jersey, but in Philly it’s mainly been Amazon opening a couple of warehouses.”

Last-mile distribution centers and automation are both direct results of e-commerce’s massive growth, which shows no signs of slowing, the industry is projected to bring in $500B of revenue in 2019, Hines said. Much of this growth comes at the direct expense of brick-and-mortar retail, but there are still aspects of retail that Amazon cannot touch, Whole Foods acquisition be damned.

Residential services, homebuilders and other large showrooms still bring in consumers who need to see how their home improvements look in person, and spaces that combine retail showrooms with warehouse and distribution areas in the back could be classified as both retail and light industrial space.

“The smaller, light industrial properties have seen 15% rent growth since 2015, which is faster than the big-box and the overall market,” Hines said, noting that 15% of all new industrial construction is light industrial. “The demand might even exceed the 15% that’s under construction right now.”

Given that industrial even has a hand in one of retail’s most stable areas, and that it looks to have years of runway as the office and multifamily markets have considerably less, most see industrial as the strongest sector of commercial real estate right now.

“Markets have gotten tighter, land has gotten more expensive, and industrial is now the No. 1 product type that everyone wants to buy,” Hines said.