What Is Industrial Real Estate?
When most people think of real estate, they naturally think about the places where they spend their time: their homes, their offices, their favorite retail store, or their favorite restaurant/bar, but when people hear “industrial real estate,” they might picture giant, brick chimneys pumping out foul-smelling smoke or an assembly line at a GM factory with computer automated machinery putting cars together.
This visual can apply to certain realms of industrial activity, but as a whole, industrial businesses extend far beyond this picture, working behind the scenes of all these high-traffic spaces and essentially providing the fuel for them to operate.
Toilet paper, food, clothing, and almost every item in your home, office, or favorite retail store was either produced or stored in an industrial building at some point, so it is easy to see the gravity of influence that industrial businesses have on our everyday lives.
Defining Industrial Real Estate
Industrial Real Estate can be broadly defined as all land and buildings which accommodate industrial activities including production, manufacturing, assembly, warehousing, research, storage, and distribution.
There are specific areas in each city designated to industrial properties shown on a zoning map, which describe where these spaces can be constructed and operate, so that the activity on these sites does not disrupt businesses or residencies that might have otherwise been adjacently placed.
These zoning ordinances get even more specific defining where certain industrial activities can and can’t take place. There are many different facets to the industrial sector, and because this definition covers a wide scope of properties, it is important to recognize the differences in each type of industrial property before determining which one to invest in, so that you fully understand the risks and rewards that each one carries.
Class Types Of Industrial
For any commercial building, there will be a class grade attached to it- Class A, Class B, Class C. It is important to consider which class will make the most sense for your investment as some of these assets are more likely to see capital appreciation whereas others will be better suited, rather, for capital preservation.
Of course, your return on investment will be influenced by a variety of factors associated with the property that you purchase, but identifying these differences in these classifications may help to narrow your focus as you move forward in the search process.
Class A Industrial
Class A buildings typically represent the newest and best-quality structures that exist in the market. The industrial assets built today are made of high-quality materials and feature amenities like tall ceilings and top of the line mechanical and utility systems.
Because these spaces are “The Cream of the Crop,” they usually have the high-income earning tenants with low vacancy rates. These top of the line industrial properties provide investors with the security that there are very few outstanding issues that will require them to invest further into their asset.
Class A assets usually are priced high with lower CAP rates associated with them, especially if they are fully leased, but these Class A assets carry far less risk to investors and can be a great option for someone to preserve capital or to passively invest in some cases.
Class B Industrial
Class B properties are usually older buildings, but can also be new buildings without all of the bells and whistles. Rental income is typically lower than rates that Class A owners will see, however Class B buildings are oftentimes well-maintained, so investors can view these assets as “value-add opportunities” as they can sometimes be converted in to A or B+ class buildings through renovations and improvements.
In this tier of Class B industrial properties, it is sometimes easier to find an attractive deal, because these assets are viewed as a higher risk to buyers due to potential vacancy issues.
Class B properties can be a great option for an investor who is looking to immediately cash flow and sit on their asset while the land appreciates, if the property is in a desirable location.
Some industrial real estate is now being rezoned into multifamily or mixed-use sites in order to increase city density, so an investor with knowledgeable foresight could make a good guess as to whether their industrial property investment may fall into this category.
Class C Industrial
Class C properties are buildings that are usually 20 or more years old, have multiple deferred maintenance issues, and are sometimes located in less-desirable areas.
Class C buildings typically bring in the lowest rental rates in the market, which makes passive investment opportunities less available.
For the investor that is willing to put time, money, and creativity in this type of property, Class C industrial properties can be converted into higher value assets with some significant renovations and updates, and create significant upside if executed correctly.
Class C properties can also be fantastic opportunities for an owner/user type of business because the improvements that you make not only help your business, but also add value to the property that you already own!
Industrial Location And Logistics
Industrial tends to desire sites that afford the greatest profitability at the lowest cost by ensuring that the costs of production, overhead, and distribution are at a minimum.
The well-known saying “Location, Location, Location” has always played a huge role in the efficiency of an industrial business’s operation.
As E-commerce continues to expand, a new phrase, “logistics, logistics, logistics,” is now the approach that many businesses are applying to their search for industrial real estate.
Distance and location are now being paired with travel time and traffic congestion analysis to determine how logistically efficient their sites are in terms of being able to receive goods from their suppliers and then ship them to their consumer base.
Use Types of Industrial Real Estate
There are many different types of users for industrial properties, and there are different types of structures associated with them, so it is important to familiarize yourself with each one to know what kind of tenants occupy each type of property.
Keep in mind that some of these properties can accommodate other industrial uses, so knowing the basics of each one should help in determining the types of tenant options you’ll have once you purchase an industrial property.
Industrial land is fairly straight forward in it’s basic definition whereas it is land that is zoned industrially, but does not have any permanent structure on its premises.
A site like this doesn’t always have to have a building on its grounds in order for an industrial business to operate. The land may be used for purposes such as parking equipment, storing gravel or mulch, or any other surface operation.
Investing in industrial land also gives you the opportunity of building from the ground up. Vacancy rates in the Industrial sector of commercial real estate have been historically low, so building a structure on your industrial site carries a much lower risk of having long-term vacancies than that of other commercial real estate developments.
Owning a piece of industrial land also gives an investor the option of advertising a build to suit type opportunity where the landowner pays the upfront construction costs of a build that meets the tenant’s specific requirements, and then leases the space to the tenant upon the project’s completion.
If you own industrial land there are a couple of good routes you can take in order to gain the most from your development. When developing anything, it is always important to assess where your market’s local demand lies.
You may have seen a sign on a piece of land before that says “build to suit.” A build to suit is an advertisement to businesses who may be looking for space for their company. In a build to suit, a landowner pays for the construction of a structure according to the tenant’s specifications and then leases that building to the tenant once the building is delivered.
Build to suit options can be great for industrial land owners because you don’t have to worry about vacancy rates since you already have a tenant in place. In other words, you are having someone pay you to add value to your building with less risk than building a speculative building.
Speculative buildings, however, can also be a great way to add value to your land. Building a “spec building” means that you are essentially constructing a building for the purpose of putting it immediately on the market.
For example, if there is a low vacancy rate for general warehouse space in your area, it may be wise to go ahead and meet the demand by delivering a brand new warehouse to the market. Spec buildings can be highly risky, but also highly rewarding if you can fill a need that is lacking in your local market.
Bulk warehouse properties are the largest industrial product and are typically in the 50,000-1,000,000+ square foot range. These properties are usually regional distribution for various types of products and require strong accessibility for trucks entering and exiting the highway systems.
Most bulk warehouses are located outside of metro areas because most of these have incredibly large footprints, although some larger companies like Amazon are starting to construct multi-story industrial warehouses in order to use less acreage.
Tenants of bulk warehouses do sometimes ship goods directly to consumers, but more often these warehouses are largely purposed for bulk goods to be stored and act as the main supply chain for a multitude of retailers and distributers.
Flex Warehouse, as the name implies, is a flexible industrial product that may easily accommodate a wide range of uses. These warehouses usually have at least some portion of office space connected to the warehouse and can widely range in size to fit your small mom and pop plumber to regional granite distributors and more.
Flex warehouses exist in rural areas as well as densely populated urban areas. In urban areas, this type of industrial real estate is often referred to as “infill industrial.”
Infill industrial is a great avenue for CRE investors to get their feet wet in industrial real estate because these types of properties are so highly sought after by tenants and are able to accommodate a wide variety of users.
Heavy manufacturing space is often isolated within the most intense industrialized areas of municipalities due to its use of heavy machinery, chemicals, and power necessities. Think of General Motors and DuPont as tenants for this type of industrial product.
These types of properties are most often owned by larger national companies or local owner users because heavy industrial properties are often very customized for the current user and their specific requirements.
Tenants tend to occupy these sites for very long terms (sometimes decades-long) because it is very inconvenient to relocate such a large operation, so if you find an opportunity to own a heavy manufacturing plant with a tenant already in place, it would definitely be an opportunity to investigate.
Light assembly industrial has a fair amount of crossover with flex space, but unlike heavy manufacturing, light assembly space isn’t typically utilized to manufacture materials, simply to assemble them and ship them out to distribution centers.
Like flex space, light assembly can also be used for storage and office space (call centers, data centers).
Cold storage and refrigeration warehousing is exactly what it sounds like: refrigerated warehousing intended to store perishable food and products.
They are often used as distribution centers for chain groceries and require HVAC systems and insulation setups that are able to support and maintain temperatures ranging between 34 degrees to -10 degrees.
With the rise in consumer demand for fresher food and grocery delivery, cold storage has increased significantly since 2000. As grocery delivery grows as widespread convenience, grocers are exploring how to become more efficient in their delivery services.
Same-day delivery service has been implemented in select cities and this trend is not going away anytime soon. Over the next several years, this level of timely service should continue to spread to other metropolitan areas.
Similar to heavy manufacturing sites, these spaces are build out intensive and tenant retention can be very high.
Data Centers are very complex properties usually in centralized locations that are typically equipped with computer systems and networking equipment that is concentrated for the purpose of storing, processing, distributing, or allowing access to large amounts of data.
Data centers provide important services such as data storage, backup and recovery, data management and networking. These centers do things like run Web sites, e-mail, and instant messaging (IM) services, provide cloud storage and applications, and enable e-commerce transaction among many other things that require computer processing.
In today’s technologically-centered world, almost every business in operation either needs its own data center or needs access to someone else’s.
Data centers need to be in close proximity to major communication trunk lines with access to extremely large and redundant power supply that is capable of powering these servers and telecom equipment.
They also require strong flooring to support the weight of computer and electrical systems, along with specialized HVAC systems, backup generators, and other specialized equipment.
Because of the large amount of high-tech, specialized equipment that these centers use, the electric and power systems that run these buildings are extremely complicated and expensive, which makes new construction of these sites very costly.
If developing one of these facilities, it is always a good idea to work with specialists who have expertise in this area.
Industrial showrooms are a bit of a hybrid between retail and warehousing. This product allows manufacturers to showcase their goods in a more retail setting while having shipping and distribution, too.
Showrooms are often situated along interstates where they can achieve high visibility and easy access for consumers. Typically around 50% of a showrooms space is dedicated to sales.
These sites are attractive to small business manufacturers that make custom goods (such as a woodshop) because they are able to showcase their process to their customers and save on shipping and warehousing costs.
Research And Development
Research and Development sites like other categories of industrial real estate are able to accommodate a large variety of users. These sites may sometimes fall under the flex space category as they can be any hybrid combination of office, warehouse, and manufacturing space.
Typically users are in fields like electronics, biotechnology, chemicals, or drug development but can be utilized by anyone who is researching new products or sciences.
Some of these properties are highly specialized to fit the needs of specific users with custom plumbing, ventilation, and electrical layouts.
Oftentimes these types of buildings are located in industrial parks or on campuses that contain other similar operations.
What Is Driving The Demand For Industrial Real Estate?
Industrial real estate has been growing for decades, but with the rise of 3-D printing and the adoption of robotics in manufacturing, jobs that were previously done by hand are now being completed by automated systems, which significantly cut labor costs and drive the demand for industrial real estate.
Because the need for human labor is decreasing in manufacturing plants, more companies are looking to bring their operations back to Ontario where they will be able to produce their goods at a lower cost.
Trade deals and foreign policy are also influencing businesses to bring back their manufacturing to Canada where their operations can enjoy more economic stability and offer more jobs to the Canadian labor force.
E-commerce also continues to boom as traditional brick-and-mortar retail is seeing declines in sales from consumers shifting their shopping preferences online. Companies like Amazon are now able to ship their product directly to consumers in some metropolitan areas in a matter of hours.
Almost every major retailer has an online component, and as technology develops, more of these large companies are cutting out the middle man, and are handling their operations from the inside, which is creating a larger demand for industrial space.
Why You Should Invest In Industrial Real Estate
There are many avenues of industrial real estate, and buying these types of properties can be one of the most profitable ways to invest your money. As compared to the over-concentrated residential market, not only are industrial properties easier to find, but they are much less of a hassle to deal with as an owner.
Industrial properties require much less maintenance, and industrial businesses tend to sign long-term leases in order to keep their businesses running smoothly, which results in steady, long-term income to help pay off a mortgage on the building.
Vacancy rates are very low, meaning that if there is a turnover, it shouldn’t take long to find a new tenant, but that also means that it will be easy to liquidate your asset should you ever want to sell it.
There is almost always a business or investor looking to purchase industrial buildings, and unlike residential property, it is not necessary to make repairs or improvements to your building in order to sell it because the real estate market is not saturated with other similar properties.