How sustainable is industrial real estate’s growth?

Greenberg Traurig’s real estate shareholders Milos Markovic and David Franklin see reasons for pause in investing in the sector.

Milos Markovic
Milos Markovic

Despite an early slowdown in transactions at the beginning of the covid-19 pandemic, the industrial real estate sector rebounded to enjoy a strong year in 2020 and shows signs of heating up even more in 2021.

While there are several reasons behind this trend, the continued growth of e-commerce is likely the biggest single driver. According to CBRE Research, every $1 billion in increased e-commerce transactions equates to the need for about 1.25 million square feet of additional industrial warehouse space.

Also, many e-commerce retailers are looking to increase inventories to better meet rising consumer demand, which will further drive absorption.

This means we could see net absorption of industrial real estate in 2021 approach 250 million square feet, which would reflect a more than 18 percent increase in the five-year annual average of just over 210 million square feet annually, per CBRE.

During Q3 2020, industrial real estate had a positive net absorption of approximately 56.8 million square feet, which pushed the year-to-date total for net absorption to almost 120 million square feet.

Congratulations to the sector for concluding a 10th consecutive year with net absorption exceeding the 100 million-square-foot mark.

2021 forecast

David Franklin
David Franklin

With the tremendous growth expected this year, the competition for industrial assets is likely to push more investors into asset classes and markets that have traditionally been viewed as
higher-risk, including Class B and C properties with greater value-add potential. Similarly, increased competition continues to spur a rise in unconventional deal terms and structures.

One example is a strong resurgence of “forward purchases,” where buyers and sellers contract for the sale of a property that is in pre-development or the very early stage of development. It’s an attractive option for both the buyer who can get in early on a new project, and for the seller who can potentially increase their leverage and rate of return.

Although forward purchases are not new, we are now seeing them used with increasing frequency across the country, and even in markets where recently it had been a challenge to sell a vacant building. In our Chicago office alone, we have seen the number of forward purchases nearly triple in the past five years.

With that growth comes challenges. We are seeing the structure used in secondary and even tertiary markets, along with a rise in buyers throwing caution to the wind to tie up these unbuilt and often vacant-upon-completion assets. From a lawyer’s perspective, these signs give us a reason for pause.

Only time will tell whether the current tailwinds will allow the industrial real estate sector’s growth to continue unabated. But with the increase in forward purchases and other unconventional deal terms and structures, it might be time to keep a close eye on this canary in the coalmine.

Milos Markovic is a shareholder at Greenberg Traurig and co-chair of the firm’s Chicago real estate practice. David Franklin is a shareholder at the firm.