Small Bay Steals the Industrial Spotlight
Commercial Observer recently published a great piece supporting small-bay investment. Compared to it’s larger Class-A brethen, the niche spaces gets far less attention. The smaller building sizes, typical older age, infill locations and less visible presence tends to keep these properties in the shadows. Behind the quiet persona lies a real power-house asset class. Since rates started rising two-years, and chipped awat at the then red-hot fundamentals behind Class-A development and use, small-bay has in turn, gained a little bit of the spotlight. Below are a few highlights I wanted to share:
Due to a diverse tenant base, these subdivided spaces tend to have more solid cash flow.
Newmark data found that while 100 million square feet of such space has been added nationally since 2020, its 4 percent vacancy rate remains below that of larger warehouse segments. Vacancy for 100,000- to 300,000-square-foot space is nearly double at 7.4 percent, and the rates only get worse for larger categories.
Many of these vintage buildings would be nearly impossible to replicate today: Financing and construction for similarly sized industrial spaces remains expensive, and comparable buildings sell below today’s replacement costs. Plus, the prohibitive cost of building anything below 75,000 square feet, since builders couldn’t count on the economy of scale that comes with the largest warehouses, meant supply stagnated.
A menagerie of tenants — drone startups for the military, life sciences labs, cross-border shipping firms benefiting from post-pandemic reshoring efforts — have taken up space in BKM’s renovated spaces, which include LED lighting, electric vehicle chargers and rooftop solar. Rents have been increasing 5 percent annually for a few years, and supply has actually contracted.
The renewed interest in small-bay space also exemplifies changing logistics technology. Emerging e-commerce demand drove bigger and more centralized mega warehouses to streamline distribution for big players — the so-called Amazon effect that reshaped the industrial landscape. Now, logistics is more commoditized: Networks of third-party delivery services have coalesced in cities, online shopping data has made it easier to pinpoint areas of high customer concentration, last-mile delivery has become table stakes, and better software has improved the ability to choreograph between multiple warehouses.
Tyler Scriven, co-founder and CEO of Saltbox, a co-warehousing firm, is seeing big firms and even enterprise-level clients lease out multiple locations. And demand for turnkey space for multi-nodal logistics operations will only grow, he said. “It’s not just about space,” said Scriven. “If you tried to do this five years ago, it would have been operationally complex. We’ve made it so even the smallest brand can put products in a number of places and take advantage of next-day delivery. As more brands take advantage, others will be forced to.”
Over the last decade, it seems nearly every piece of land near major markets and ports that could be turned into increasingly larger warehouses has been acquired and entitled. In that rush, the smaller segment of the market was forgotten.
Newmark found that while large warehouse sales volume is running about 30 percent below the pre-COVID average, sales volume for small-bay spaces remains 32 percent above, with a slightly higher cap rate performance.
These small business tenants also tended to pay rent more regularly than even big-box clients. Entrepreneurs especially have a lot more pressure to make the business work and not fall behind on rent, where big-box behemoths would simply try to negotiate concessions.
“Investors are coming in and saying, ‘I bet I can push rent 20 to 25 percent because there’s nowhere for these firms to go, the market has 2 percent vacancy,’” said Savills’ Wood. “What’s the risk?”
Investors like it need to steel themselves for a managerial challenge. BKM, with 100 staffers, does more than 600 leases a year, and Turner, the company’s acquisitions and dispositions chief, says the operational intensity is extreme. But the payoff is there.