After Nearly Two Years Of Inactivity, Tenants Start Leasing Industrial Space In Northern California Again

Bay Area industrial market experts have seen leasing pick up in the last three months, a shift that could help burn through some of the supply available on the market. 

While there was about 38.5M SF of vacant Northern California industrial space, or 5.2% of the total inventory in Q2, that overhang is nominal compared to other West Coast markets, according to panelists at Bisnow’s Northern California Industrial and Logistics Summit.

“I will say that in the last 90 days demand has certainly picked up,” Colliers Executive Vice President Michael Goldstein said, adding that both touring demand and requests for proposals have increased. “Prior to 90 days ago, over the previous 18 months, it was about as quiet as we've seen it since 2008 to 2009 from a demand standpoint.”

While oversupply has been an issue over the past few years, California’s infamous red tape has kept overbuilding in check locally.

“From a supply standpoint, it's so hard to build a building in this state that we don't have the oversupply like a lot of the West Coast markets do,” Goldstein said. Phoenix, Las Vegas and Salt Lake City, he added, face bigger supply and demand imbalances.

Kevin Ramos, chief investment officer of Sacramento-based developer Buzz Oates, said his firm has signed about 500K SF in new leases year-to-date across its industrial portfolio. When combined with existing tenants signing renewals or expansions, Buzz Oates has closed about 1M SF in deals this year. 

Tenants that have been active in the Northern California market over the past few months include building supply companies, packaging firms, food and beverage companies, and e-commerce companies, Ramos said.

The Northern California industrial market is healthier than it appears on paper, LDK Ventures Senior Vice President and head of acquisitions Jason Klier said at the event, held July 16 at the Grand Hyatt San Francisco.

“When you've added 25% [in new development] since the first quarter of 2020 until today of your base inventory, and interest rates have gone up 150% in the same time period, we almost have it better than we deserve,” Klier said.

For Prologis, the Central Valley, East Bay and Silicon Valley have the strongest industrial submarkets in NorCal. 

“Tracy and Lathrop in the Central Valley are the strongest. Tracy is high on the list for us,” said Prologis SVP and Investment Officer Ali Harandi. “We have also had success in San Leandro.”

Appealing demographics make Fremont, Milpitas, San Jose and Santa Clara popular at Prologis as well. 

“The southern part of the Bay is mainly driven by the high-tech user base, power availability and where the employee base wants to work and live,” Harandi said.

In spite of its challenges with crime, Oakland remains one of the REIT’s most beloved submarkets. 

“We do love Oakland. It's going through a lot of struggles right now and getting a lot of national attention, unfortunately,” Harandi said. “But we do believe in that market and it has a lot of good, strong attributes and we will continue to invest in that market.” 

Realterm, an Annapolis, Maryland-based developer of transportation and infrastructure real estate, is fond of San Jose for its “final-mile” locations and strong demographics. Ben Andreycack, vice president of investments for Realterm, said his firm likes San Jose and the entire 880 corridor due to its proximity to the Port of Oakland and access to container facilities.

Although vacancy increased in Silicon Valley in the second quarter, 60% of the deals signed were new leases, according to CBRE, “indicating tenants’ confidence in the market and their ability to transact,” a spokesperson for CBRE said in an email. Vacancy jumped more than a percentage point in Silicon Valley from the first quarter to Q2 when it reached 4.3%. However, nearly 88% of this vacancy is in buildings constructed before 2000.

“Most tenants want to be in newer buildings with modern features that provide robust power and clear height – which older buildings are not able to accommodate. This presents a potential conversion or development opportunity as supply dwindles,” the spokesperson wrote.

As a result, older Class-B buildings face obsolescence and contribute to Northern California’s industrial supply glut.

Having an ample supply of robust power remains one of the biggest concerns among tenants, particularly in Silicon Valley, agreed panelists at the Bisnow event.

“Power is a huge driver right now,” Panattoni Development's Senior Development Manager Abbie Wertheim said. She said there are increased requirements both inside and outside of Panattoni’s properties. Outside the building, tenants need ample power for electric vehicle charging and warehouse distribution tenants have “increasingly more sophisticated material handling systems that require more and more power.”

“On the advanced manufacturing side, you certainly need a heavy dose of power to get your operations going,” Wertheim said. 

Tenants are also increasingly demanding hydrogen fueling stations and electric charging for their truck fleets, Kimley-Horn Project Manager Danae Hall said. 

While development has been sparse over the past few years due to the California Environmental Quality Act and California’s challenging entitlement process, new facilities tailored to meet the needs of high-tech, high-power users like advanced manufacturers and other tenants in Silicon Valley are in the pipeline.

According to CBRE, 2.8M SF of industrial projects are under construction, the highest level since Q4 2019.

Tenants are the driving force behind all new construction, Wertheim said. 

“Speculative developments just don't make sense. It’s all build-to-suit where it's tenant driven and tenant designed.”

In spite of the previous slowdown in leasing and development activity, one panelist believes Northern California market conditions will improve before other metro areas. 

“NorCal is probably in the best position to recover quicker than other markets (on the West Coast),” Goldstein said.