WESTERN SNAPSHOT, JULY 2004

Sacramento Industrial Market

Strong population growth and the region’s traditionally strong government presence largely mitigated losses in the Sacramento commercial real estate market during the recent economic downturn. Vacancy in the capital city’s industrial sector spiked in 2002 at 13.1 percent, but now stands at 10.4 percent, slightly up from the end of last year. Despite the up tick, more industrial tenants are returning to the marketplace following the lows of 2002. In fact, nearly all of the current rise in vacancy can be traced to the addition of more than 800,000 square feet of vacant warehouse space in the Roseville submarket. Hewlett-Packard’s departure from Roseville, plus losses in the Power Inn, Sunrise/Rancho Cordova and Woodland areas, were enough to wipe out other gains, including a whopping 1.1 million square feet of absorption in the McClellan/North Highlands submarket. All told, Sacramento experienced roughly 7,000 square feet of negative absorption in the first quarter.

A vast and increasing disparity exists between the vacancy rate for large industrial space of 100,000-plus square feet and that of smaller or divisible buildings. Sacramento’s central location, cheap land prices and easy access to major interstate arteries are all factors that seemingly would ensure the success of the large property type and Sacramento’s emergence as a major distribution hub. However, strong competition from markets such as Stockton, California, and tax-free Reno, Nevada — just 2 hours to the east — have prevented this from becoming a reality. Also, relocations by many existing bulk space users, beginning in 2001, have played a major role in boosting vacancy. At the end of 2002, bulk industrial vacancy in Sacramento peaked at nearly 20 percent. The rate declined to 14.8 percent at the close of 2003, but moves by Hewlett-Packard and other tenants this quarter have pushed vacancy up once again. The current vacancy rate for large industrial product in Sacramento is 16.4 percent.

The good news is that new development has focused almost exclusively on smaller and divisible buildings in the past year, and no speculative development of bulk space is likely to occur in the near future. Asking rates for large industrial space have dropped to around 30 cents per square foot, making Sacramento more competitive with Stockton and other markets. Brokers are reporting much more space-user interest now than at any time in the last 2 years.

Meanwhile, vacancy for smaller industrial space has dropped to a low of 7 percent. Smaller space and medium-sized buildings offering divisibility have dominated leasing, sales and development activity in the Sacramento area for much of the past 2 years. With almost 925,000 square feet of space slated for delivery in the second quarter alone, it is likely that supply will outpace demand for smaller space in the short term. Barring any large bulk leases in the second quarter of this year, overall vacancy should continue to tick up during the second quarter.

The pendulum has swung in favor of landlords of smaller industrial properties. Newer properties — especially in the high-end product category — have recorded rental growth. The average rental rate for flex space has remained steady at approximately 84 cents per square foot NNN while the rate for warehouse space has increased 14 percent in the past 6 months to 40 cents per square foot. When the struggling bulk warehouse properties are taken out of the mix, the rental rate increases to about 45 cents per square foot.

While industrial supply should outpace demand in the immediate future, it is important to note that the latter has been on the increase for more than a year now. A vacancy in the 10 percent range indicates that the market is edging closer and closer to equilibrium.

Garrick Brown is vice president

of research and marketing
at Colliers International
in Sacramento.

©2004 France Publications, Inc. Duplication or reproduction of this article not permitted without authorization from France Publications, Inc. For information on reprints of this article contact Barbara Sherer at (630) 554-6054.