Bill Condon:
Welcome everybody to our Industrial Advisors podcast with Bill Condon and Matt McGregor here, to provide our Q2 market recap.
Bill Condon:
Matt, surprisingly we had a pretty good second quarter. What we want to dive into today is talk a little bit about the investment side, talk a little bit about port activity, and of course talk about some of the leasing transactions that have been done.
Matt McGregor:
Yeah. I would say I'm surprised, and I think the listeners are going to be surprised by a very strong second quarter, despite a whole lot of negative news. I'm really pleasantly surprised, and I think a lot of the listeners will be, that most of this report is pretty rosy.
Bill Condon:
Yeah. The Seattle market continues to perform well.
Bill Condon:
So starting on the investment side, in Q2 we actually had $193 million worth of investment sales, which is, I think, a really good sign. That brings our total for the year up to about $768 million. Now, $466 million of that was the Black Creek assets to Prologis.
Matt McGregor:
That's right.
Bill Condon:
But, when you look at it from a historical standpoint, we're right on line with where we've been the last couple years, and we've had a really strong last couple of years on the investment side.
Matt McGregor:
Yeah, that's right. Just for the listener to understand the relevance of this number, if you take out the last two years, and average it out over 10 years, we do about $600 million in industrial transactions annually. I think it's about 24 deals a yr, about five million. And then, the last two years, '18 and '19, were unbelievable, at about 1.5 billion each.
Matt McGregor:
We had thought that because of the 2% increase in excise tax, and because of the boom two years, back to back, that we actually thought it was going to be a bad year on investment sales. Then, COVID hits, right? So to have these numbers come out of the second quarter, once again, wow.
Bill Condon:
Absolutely. I would say, from a pricing standpoint, we really haven't been impacted for your core assets in our market.
Matt McGregor:
That's right.
Bill Condon:
I think that's a really good sign as well. I know you get a lot of calls, I get a lot of calls, from investors saying, "Hey, we want to place money here. What do you have, what's coming to market?" So from a demand standpoint, to place money, Seattle still continues to lead the pace.
Matt McGregor:
Very strong. I'm not seeing any change, really, in cap rates from pre-COVID. Pounds per square foot seems to be very, very solid. I'd say there's a couple comps in here that were off market that seem a little bit low. Congratulations to Prologis for acquiring the McFarland site in Tacoma. That comp certainly seems they got a good deal, flat out.
Bill Condon:
You're looking at a little over 17 bucks a square foot in Tacoma. You know, I like that play for them a lot.
Matt McGregor:
Absolutely. That's a great acquisition. Then you pointed out the big one that throws this number off, obviously, is the IPT Black Creek disposition to Prologis, which in our market was, as you indicated, 466 million. But, even if you take that out, we're on par with a normal year, despite all of that stuff that we just outlined.
Bill Condon:
Yeah. Yeah, when you look at, as you outlined, the 10 year average. I think the one thing that investors are looking at more closely, and rightfully so today, is credit, credit of the tenant.
Matt McGregor:
Yeah.
Bill Condon:
But, if it's there and they're confident in it, you're right, there has not been a change in cap rates.
Matt McGregor:
No change in cap rates, barely a change in volume. We had seven transactions in Q2, which is incredibly strong. Six in Q1, so we're right there with our average being about 24, we're right there.
Matt McGregor:
I will say, I don't know about you Bill, but when COVID first hit, it seemed like a lot of guys went on pause. But, I swear, it was for six or seven weeks. And then, all of a sudden, they're back, so it's interesting. With all that's gone on, and a lot has gone on in the last four months, to have what seems to be pretty normal activity out there is just a huge statement of the strength of this market.
Bill Condon:
Yeah. I mean, I think a couple things. There's still a capital that needs to be placed, industrial is the highlight of all the asset classes, that's where people want to place money. And then, when you take a deeper dive into it, the safe money is in core markets, markets like Seattle, Southern California, New Jersey. Investors are willing to pay up to be in those safer markets.
Bill Condon:
So investment side has been strong. It hasn't quite been the same story when it comes to port activity, port activity's down a little bit. What do you think about that, and maybe outline that?
Matt McGregor:
Yeah, that's probably the only negative thing we're going to talk about here, which is interesting. We've all heard ... We've had, what? Three or four podcasts now, related with supply chain. Now, the statistics are coming in.
Matt McGregor:
So the Northwest Seaport Alliance stated, in May 2020, that it was down almost 24% from May 2019. I'll give you a few other stats, and then we can talk about. Full import decline of 23%, full export decrease of 15.5% for the first five months of 2020, which is the worst start of the year since 2009. We've had 46 blank sailings through May, which is a combination of COVID issues, and the issues that we're having, trade war disputes with China.
Matt McGregor:
This is interesting because it reminds me of the stock markets. All this stuff's going wrong, but the stock market's still strong. We'll talk about absorption, and we'll talk about construction, and we've already talked about investment sales. All pretty dang good, right? Then, you read this report and go, "How? How is it good?"
Bill Condon:
Transitioning from the port activity, you look at the leasing fundamentals, right? Q2, again similar story to Q1, large tenants, still very active. Smaller tenants, mid-size tenants, on hold a little bit. But, it's the story of the big tenant.
Bill Condon:
I mean, we had a number of deals get done in Q2. Recently we did a 250 with Scotts, and there's multiple other, couple 100,000 square foot deals, that were actually done. And there's a few 500,000 square foot deals that are out in the marketplace that looked likely to get done here in Q3, which I think, from a leasing standpoint, will continue the trend of big deals getting done, and absorption being solid.
Matt McGregor:
You raise a good point, and we'll get into the absorption here. But, on the port, obviously that is dropping into fewer and fewer hands. If you're good at fulfillment, Amazon, Walmart, and others, you're absorbing a whole lot of activity and less hands. To your point, that's the reason why there's a lot of big deals out there.
Matt McGregor:
But it's just interesting, with that negative of a report. I would think that would correlate to poor investment sales, poor absorption, poor rent growth. None of that is true.
Bill Condon:
Right. I think from just a pure fundamental standpoint, when you look at the market in general, and an investor's looking at Seattle and they're saying, "Okay, vacancy rate is still roughly around five or six percent." That's still pretty solid, right?
Matt McGregor:
Yeah.
Bill Condon:
When you look at it over a 10 year period.
Matt McGregor:
That's right.
Bill Condon:
When you look at big tenant activity, which continues to be strong. And although the smaller tenants are on pause, and rightfully so, we are starting to see some of those mid-size, call it 50 to 150,000 square foot tenants, being active again, and touring again. We've had three or four tours in the last two weeks of buildings in that size range, so I like to see that mid-size market pick up a little bit. Hopefully, the smaller folks will join that, here in the coming months, as things settle down a little bit.
Matt McGregor:
Let's shift and talk about those smaller folks, because that is a problem in the market. So you talk about the big deals, let's talk about absorption now.
Matt McGregor:
So we've got just over a million feet of positive absorption this quarter, which is incredible. Again, it's big deals. We've got Amazon, Scotts ... Scotts took 250,000 feet in Sumner. You've got Ikea for 470,000. Pacific Distribution, again in Sumner, for 370. Infinity Global for 200, Filson for 125. So massive shocker of positive absorption, I think most people are think negative absorption, so we've had a phenomenal quarter.
Matt McGregor:
And, if you look at it on a historical perspective, we only average about 2.3 million square feet of positive absorption. We just did a million feet in COVID, right?
Bill Condon:
Right.
Matt McGregor:
But, there's another story here.
Matt McGregor:
So when we talk about those small guys, the small guys are in trouble. The big guys seem to be thriving, to the point the product is in less companies' hands. So when you look at who gave back space, we actually had 1.1 million square feet in the second quarter, of give backs, over 28 companies gave back space. If you divide that down, that's 39,000 feet per deal of the 1.1 million feet. That says small companies are in trouble.
Bill Condon:
You know, I think certainly you're seeing that up and down the West coast, it's a similar trend in other markets as well. Again, the mid-size companies starting to do things again, the smaller companies still really impacted by what's going on. Hopefully, as those things settle down, that'll hopefully improve.
Bill Condon:
Let's talk about rates a little bit. On the large transaction that we've negotiated, we haven't seen lot of movement from pre-COVID throughout the process. We negotiated one deal that started pre-COVID and recently got done, there was no change in rate.
Matt McGregor:
That's right.
Bill Condon:
No change in anything. What do you think about rates, what's going on with them? Is it a tale of two different markets, the large and small? Talk a little bit about rates.
Matt McGregor:
We obviously studied rates hard for this podcast, and I see it as a net neutral. I've read a few things that said they were down a little bit, and a couple things that said they were up a little bit. When I look at our facts, and the actual deals that have been done, it seems that we didn't move this year.
Matt McGregor:
So deals that were getting done in Q4 of 2019 reflect the deals that we're getting done in COVID. I would say, with the one change in the fact that I think that the asking rates on some stuff has dropped down a little bit, but they're achieving the rates that they would have achieved, it's just a smaller gap between the actual landed deal. So instead of, say in the North Valley, somebody floating out a 90 cent rate and landing at 82, they're floating out an 84 cent rate, and landing at 82.
Bill Condon:
Yeah, it's interesting to see how rates are, for the most part on my end, I've seen them remain strong. The one thing a couple of deals that have changed, and there's only been a couple throughout the process, I've seen maybe another month of free rent, maybe a little bit more in TI dollars. But, not a big change in rates which I think is a good sign for our market.
Matt McGregor:
That's right, yeah. I've studied all of the comps in the South end, all of the large comps, and I would say I didn't see one that I would have thought would have been any different in Q4 of '19.
Bill Condon:
Let's shift gears and talk a little bit about development. We've touched on investment sales, we've touched on port activity, and leasing. Give your outlook on the development, and where you see that headed.
Matt McGregor:
This one, I think Q3 is going to tell the story of who starts and who doesn't, right?
Bill Condon:
Right.
Matt McGregor:
Because we've got a lot of negative press out there, despite our podcast which is, "Hey, this is a great market." There's a lot of negative press, so I can see some national developers go, "Let's pause construction." But, right now, they're not doing that.
Matt McGregor:
So over the last 24 months, we've completed 11,100,000 and change of new construction, remaining product is 3.3 million feet, so not a lot. I would not consider that overbuilt. And then, under construction, we've got 6.1 million feet and change, and about half of that has been leased, so we've got a remaining 3.4 million square feet. So if you put those two numbers together, of what's been remaining from the completed construction and under construction, it's a little heavy. But, based on what's out there in the market right now, and what we're absorbing, ...
Matt McGregor:
We're talking about positive absorption already, at an excellent pace, and we're not even accruing yet, some of the large deals that [inaudible 00:12:24], that are inked, done, under construction. That's going to jump our absorption way up, it's going to gobble some of these numbers ways down. And, we've got very large tenants in the market right now, so despite these numbers being a little bit heavy on construction, I would say this is looking pretty good.
Bill Condon:
I would agree with that. I mean, I think when you look at, as you mentioned, the large deals that are out there right now, and what we have left, those developers are going to be just fine.
Bill Condon:
I think if I owned a site in, certainly Tacoma North, I would have no problem going spec. If I had a larger site in Frederickson, or Lacey, or DuPont, I'd feel good about getting that going spec, and getting that leased as well, just given the activity that's out there.
Matt McGregor:
Yeah, and if I owned one of those sites, too, I would hire you Bill, to lease that thing, and we wouldn't be talking about any negative absorption.
Bill Condon:
Everything we're talking about is positive here.
Matt McGregor:
Wait, you're my partner. I benefit from that, I guess.
Bill Condon:
That's right, that's right. But all in all, I think we're going to have ... We had a good, solid Q2 from a leasing standpoint, from an investment standpoint. I personally think it'll continue in Q3, I think the deals that are out there, there's going to be some that get done and get inked, and that will help even more so with absorption. And I think we're going to start to see more and more investment sales here in the second half of 2020. What do you think?
Matt McGregor:
I totally agree, because you did have a lot of deals that went on hold that were rolling out pre-COVID, that got put on hold. So no question that we're going to see a very strong third and fourth quarter, from the investment standpoint. Like we said, with these deals that we already know that are out there, several of them are at signature. We already know that there's a couple million feet under construction, that are signed leases, that will absorb this year. It's, like I said, still crazy that we're doing so well, with all this negative news.
Matt McGregor:
So I think we're going to have a very strong third and fourth quarter, I just thought we were going to have a bad first and second quarter and it just didn't pan out that way.
Bill Condon:
Yeah, I told you it was going to positive news.
Matt McGregor:
Everything here, you predicted accurately.
Bill Condon:
100%. You know, I think the one thing that we all need to keep an eye on is that smaller tenant.
Matt McGregor:
For sure.
Bill Condon:
You mentioned the average give back, 40,000 square feet. I think we'll see more activity from the mid-size tenants in Q3 and Q4, large activity will continue, but I think the big thing to keep an eye on will be how do the 10 to 40,000 square foot tenants do these next few quarters.
Matt McGregor:
Rebound.
Bill Condon:
Yeah.
Matt McGregor:
Hopefully they rebound.
Bill Condon:
Hope so.
Matt McGregor:
Because that's not a great story, obviously a lot of our economy is built on small business. Boy, I hope to see that turn around.
Bill Condon:
Yeah, I know we're all rooting for them. So all in all, it's been a good Q2, we'll be rooting hard for the smaller companies that are out there. We'll look forward to, hopefully, a really good Q3, and some more discussion on that as we get further down the road.
Matt McGregor:
Absolutely. Thanks for listening, and subscribe. If you haven't already, you can find us on all of the sources, Google Podcast, iTunes, and industrialadvisors.com.