This article first appeared in Western Real Estate Business’ October issue.
Friday the 13th – or, more specifically, Friday, March 13th – is widely considered the day the world changed in Colorado. That is the day COVID-19 became the new reality for all our lives. Offices, restaurants and just about every non-essential business closed, sending the entire workforce in Metro Denver home as the local and national economy spiraled into a period of uncertainty.
Prior to Friday the 13th, the Denver industrial market had never been more active. Tenants were absorbing space at a significant clip, developers were delivering product at levels never seen before, and institutional capital was aggressively purchasing new, stabilized construction at cap rates in the low 4 percent range.
A TREND ON THE RISE
A prominent trend – one that had never occurred before 2019 – was also emerging. Institutional capital was starting to complete transactions on both forward-commit purchases and new project acquisitions that featured substantial vacancies. With all this activity, it was becoming evident that institutional buyers saw an opportunity to acquire buildings from developers with closing dates set at the project’s delivery.
So, what was fueling this demand? Development projects across all Metro Denver municipalities had become exceedingly time consuming with entitlement procedures that were difficult to navigate. Institutional capital typically cannot maneuver this lengthy process due to capacity and the considerable opportunity costs to allocate the necessary equity in a development project for 18 to 24 months.
Instead, acquiring projects with vacancies at enough of a discount to stabilized pricing provided investors with significant value-add in the lease-up period while forgoing a burdensome and costly process. In turn, developers were happy to entertain these transactions, shedding their own lease-up risk and moving onto the next project. This trend took hold in 2019 and continued into early 2020 until it was halted by COVID-19 when the economy froze. At that point, there was no way to accurately predict market lease rates or leasing absorption.
INSTITUTIONAL CAPITAL REMAINS INTERESTED
As we fast forward to October, the Metro Denver industrial market has come back to life. Institutional buyers now feel comfortable predicting future market lease rates and absorption curves, and the path is forward sales once again. These forward transactions accounted for 55 percent of the buildings larger than 50,000 square feet sold in the third quarter.
Looking beyond 2020, we believe institutional capital will remain very interested in the Denver story. The decentralization of supply chains from traditional gateway markets – in response to consumer demands for faster delivery of goods – will increase occupier demand and further drive new development. Recent investment in key infrastructure improvements, such as the expansion of I-70, as well as a rapidly growing population also create a compelling opportunity for stabilized buyers to continue to invest in the Denver region.
While COVID-19 continues to negatively impact many other product types, the re-emergence of strong demand from industrial tenants will result in additional forward-commit or high vacancy sale transactions from developers to institutional buyers for the foreseeable future.