The News: Southern California Adjusts to New Reality

Southern California’s Inland Empire is a conduit for nationwide shipping for cargo arriving from the ports of Los Angeles and Long Beach. That placement had led to robust growth in recent years as developers added an average of 20 million square feet of new inventory annually, according to reports released recently from Marcus & Millichap Real Estate Investment Services Inc. But judging by first-quarter performance, declining fundamentals are adding up to a tough year for the 452 million-square-foot market, which spans Riverside and San Bernardino counties. For example, vacancy has jumped from 7.7 percent to 11.3 percent since the first quarter of 2008. Leasing, meanwhile, dropped by more than half during the past year, from 14.7 million square feet to 7 million square feet.Slowing leasing velocity even further, much of the product now coming to market in the Inland Empire is second- and third-generation space, explained Jerry Holdner, vice president of market research for Voit Commercial Brokerage. Lower ceiling heights and other less than up-to-date features often make older product less attractive to prospective tenants, he noted.The findings indicate a market in recession, but they also note trends that may ease the impact. “What is healthy is that the market is going to take the hit all at once,” Holdner said. “It’s not going to drag out.” Developers’ decisions to reduce construction volume drastically will mitigate the rise in vacancy. This year, deliveries of new industrial space in the Inland Empire will drop from 22.6 million percent to just 6.1 million square feet, according to Marcus & Millichap.In neighboring Orange County, an industrial market that is both much smaller in scale than the Inland Empire and considerably different in nature, is showing signs of both strain and mitigating factors. Orange County’s 248 million-square-foot industrial market is tied much more closely to the county’s entrepreneurial culture and local economic conditions than it is to transcontinental trade, Holdner explained. By some indicators, Orange County’s market is in much better shape than the Inland Empire’s. Orange County’s 5 percent vacancy rate is less than half its neighbor’s, in part because much of the inventory is contained in buildings that are smaller than 100,000 square feet, representing a fraction of the size of many Inland Empire facilities. Still, that vacancy rate reflects an 80-basis-point increase since the first quarter of 2008, according to Voit.Several other benchmarks in Orange County are also registering downward movement. Triple-net asking rents have declined almost 19 percent since reaching a record $9.60 per square foot last year, the steepest decline since 1993. Negative net absorption hit 1.2 million square feet in the first quarter, the most since a 2.3 million net loss in the fourth quarter of 2002. Nevertheless, Orange County has at least one major trend in its favor:  a glut of new inventory will not further ratchet up vacancy or depress pricing this year. At the moment, no new product is under construction.