Market Reports_Q1 2024 Industrial

As of the close of Q1 2024, industrial vacancy in the Sacramento region stood at 6.3%, up from last quarter’s revised rate of 5.7% and reflecting the fourth consecutive quarter in which local vacancy has increased. Vacancy has climbed in seven of the eight past quarters, though it is critical to understand that this was coming off the region’s record low reading of 3.7% recorded in Q1 2022. The market recorded negative net absorption to the tune of -185,000 square feet (SF) over the first three months of 2024. Tepid leasing activity was not enough to bring occupancy growth totals into positive territory against a couple of larger space givebacks that occurred in Q1.

In the Davis/Woodland submarket, smaller deal activity and positive net absorption from flex product wasn’t quite enough to tip occupancy growth into the black, thanks partially to Terraboost Media returning 101,000 SF of space to market. But we should note that prior to their move out, there was only 0.8% vacancy in this submarket. Vacancy now stands at a still tight 1.6%.

The Elk Grove/Laguna submarket led all others in terms of negative net absorption in

Q1, though outside of a 50,000 SF warehouse coming to market in Galt, all the new vacancies to come online were less than 15,000 SF. But as is the case with Davis/Woodland, this remains an extremely tight marketplace with limited options for expansion-minded tenants. Thanks to -143,000 SF of negative net absorption in Q1, vacancy here climbed from 0.6% to 2.7%.

The Power Inn submarket was the only other Sacramento trade area to record more than 100,000 SF of negative net absorption; moveouts from wholesaler Ferguson and from storage concept PODS outpaced new deals from Green Acres, Metro Express and multiple other users. The overall negative net absorption of -138,000 recorded in Q1 drove vacancy up from 3.2% to 3.7%.

West Sacramento led all other submarkets in terms of occupancy gains in Q1; new deals from Pro West Wall Products, Distributors Operators, AVB, Collicutt Energy Services, and Kloeckner Metals helped to drive positive net absorption to the tune of 213,000 SF, despite some notable move-outs like RiceBran Technology’s move out of more than 100,000 SF of the Kellogg Building on Riverside Parkway.

No other local submarket recorded occupancy growth more than 100,000 SF, though we are still tracking a substantial number of existing tenant requirements in the region and our brokers report that touring activity is solid, albeit not at the breakneck pace of a couple of years ago. But there has been a noticeable shift in tenant requirements.

From 2019 through 2022, space users in need of 100,000 SF of space or more proliferated the landscape and helped to drive the outsized leasing activity and occupancy growth of those years. Active space requirements in the region remain plentiful from smaller to mid-size users, but we are seeing far fewer tenants actively seeking space above the 50,000 SF level, much less the 100,000 SF deals that were driving local activity for much of the past five years.

The current average asking rent for industrial space in the Sacramento region is $0.83 per square foot (PSF), on a monthly, triple net basis. This metric is up 2.5% from where it stood a year ago ($0.81 PSF), but up 15.2% from the $0.72 PSF rate of two years ago. We are anticipating flat rental rate growth in 2024, though this has nothing to do with vacancy levels climbing. The market is much closer to market equilibrium now than it has been since the pandemic. Keep in mind that the average asking rate for industrial space at the end of 2019 was $0.69 PSF. In the pandemic era, rents have skyrocketed 30% in just four years. Rents have increased an astonishing 112.8% over the past decade (the average asking rate was just $0.39 PSF in Q1 2014). No doubt that much of this has been driven by the naturally higher costs inherent in new development, particularly the elevated costs of building modern eCommerce fulfillment, distribution, or cold storage facilities. But those growth rates are not sustainable forever—we see rates stabilizing and staying where they are in the near-term.

Source:GallelliRealEstate;CostarGroup

Sacramento Industrial Market All Classes of Product Q1 2024

CONSTRUCTION PIPELINE EMPTYING: BACK TO PREPANDEMIC LEVELS

At the height of the pandemic in 2020, nearly 4.1 MSF of new product came online. In 2021, the industrial inventory increased by another 4.1 MSF. That dropped slightly to 4.0 MSF in 2022 and last year developers added 3.8 MSF of new space to the Sacramento market. Since 2020, the local industrial inventory has grown by a whopping 10.0% in the largest wave of new development in the region since has been the late 1990s/early 2000s. The big difference is that vacancy levels were in their teens when that wave of building slowed, while the current 6.3% vacancy rate is much closer to the classic market definition of equilibrium. Market equilibrium is when there is enough available product in the marketplace to accommodate expansion from tenants (and economic growth), but not so much as to prevent sustainable rental rate growth in line with overall inflation.

A total of 913,000 SF of new space was delivered in Q1, all at Buzz Oates’ Metro Air Park project in the Natomas/Northgate submarket. There is now just under 1.3 MSF of space under construction in the region, which is the lowest we have tracked since Q4 2018. One year ago, there was 4.0 MSF in the pipeline and that number was above 5.0 MSF two years ago. The pipeline is returning to pre-surge levels just as demand has been cooling.

Our current review of projects underway shows us that at least 223,000 SF of new space will come online in Q2 2024, followed by just 108,000 SF in Q3, 190,000 SF in Q4—most of which already has tenants lined up. There is one 312,000 SF build-to-suit distribution facility scheduled to come online at Buzz Oates’ Metro Airpark project near the Sacramento International Airport in early 2025. Meanwhile, in the Sunrise submarket Northpoint Development has begun construction on a smaller number of buildings at the former Aerojet Rocketdyne campus along Highway 50. The site has been undergoing significant environmental work in recent years before construction could begin.

Among the other shifts we are seeing heading into 2024 is a return to smaller building development as the market reacts to the pullback in mega space requirements. We have no doubt that some currently proposed projects will also move forward and add to these totals. We anticipate continued growth from Buzz Oates (both at Metro Airpark and elsewhere), as well as new projects coming out of the ground from Buzz Oates, Mark IV Capital, Panattoni and a few others. Those that move forward will almost certainly be smaller than 100,000 SF if speculative. In our discussions with developers, it is becoming clear that the days of building 100,000 SF of greater projects on a speculative basis are over for now—expect projects larger than that to be build-to-suits… at least until the next big development wave.

In the meantime, construction levels are returning to pre-2020 norms, as is demand.

LOOKING AHEAD

We expect the market to return to positive occupancy growth in Q2 2024 thanks to deals already in the pipeline. But that growth will be modest—at least over the first half of the year until there is greater macroeconomic clarity. Tenants that had been in aggressive growth mode have slowed down over the course of 2023, over macroeconomic concerns. As one retail logistics advisor for a major national superstore chain told us, “My client still has a need for multiple traditional distribution centers and at least two more eCommerce fulfillment locations to fill out their supply chain. But they’ve been slowing the pace in 2023 out of potential recession concerns. Hopefully, those concerns fade over the next few months so they can put me back on the road.”

Select Sacramento Region Industrial Leases Past Six Months (Q4 2023/Q1 2024)

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