Defined by Gemini as “the division of a system, structure or entity into two distinct branches or parts,” the term “bifurcation” is coming up more frequently in the context of industrial development in Texas — a sort of umbrella term for the process of establishing new subcategories of the property type.
The past seven or so years have constituted one of the most massive industrial building booms in modern history. Like matches and gasoline, Americans’ newfound obsession with e-commerce paired with unimaginably low interest rates for much of that time, sparking an all-out industrial development and leasing mania. Capital flowed into the sector with insatiable appetite, eventually forcing yield-chasers to devise new means of unlocking value within the space lest they cannibalize each other.
Of course, even before e-commerce irrevocably changed the way Americans shop and allowed industrial real estate to ascend as an institutionalized asset class, functional differences were recognized between manufacturing and distribution facilities, or between pure-play industrial and flex buildings. Investors understood the relative differences in how these subcategories of industrial product were built, operated and valued. And in terms of development, at the most basic level, the size of a building has always factored into the underwriting of construction costs.
But against the backdrop of the recent industrial development frenzy, building size became an equally important variable to consider on the revenue side of the ledger. From an investment standpoint, it’s a metric of evaluation unto itself, right up there with location, cash flow and tenant credit.
Rents no longer grow at frenetic paces across all types of product, unlike a few years ago when every industrial deal or project was seemingly a slam dunk. Today, delivering or buying an industrial building that is the wrong size for the needs of the market in question can have more dire consequences. But by that same logic, the notion that Texas industrial markets are currently oversupplied can be parsed or refuted by looking at delivery and absorption rates of buildings of different sizes. In other words, balanced pockets still exist.
Kyle Russell, managing director of development at Dallas-based Westmount Realty Capital, believes that this is a crucial perspective to keep in mind when assessing supply-demand dynamics.
“When we talk about oversupply, we have to be very clear about what size and category of buildings we’re talking about,” Russell says. “If designed properly, a mid-size, 300,000-square-foot building can offer more flexibility in lease-up, reach larger tenants and still be multi-tenanted several different ways. A 1 million-square-foot ‘bomber’ has far fewer lease-up options; there are only so many groups that can fill that kind of footprint.”
“Too often, we slice the data by market and submarket and stop there, but the more important cut is the tenant classes that a building can actually serve,” Russell continues. “It all gets lumped together as industrial, but you have to look under the hood of each building to see what the tenant possibilities really are.”
Russell applies the same line of thinking to different uses of buildings within the spectrum of industrial facilities.
“If you’re building a cold storage facility, and across the street is a tilt-wall dry box, there’s no competition there,” he says. “The tenants don’t cross or compete with each other, so it’s really important to caveat those product types.”
Cold storage development represents an emerging vertical of sorts for Westmount. Last summer, the firm purchased 25 acres in West Dallas in an off-market transaction for an 282,000-square-foot cold storage development that is now nearing commencement.
Hans Brindley, senior vice president and market officer for Prologis’ Houston portfolio, recognizes an efficient form of bifurcation in that market with regard to land. He says that the delineation — and developers’ ability to recognize it — has contributed to the overall health and evolution of that market.
“The Houston market has done a good job of bifurcating good sites from challenging ones, so there’s not really one area that’s being flooded [with new supply], especially if you start looking at size ranges,” Brindley says. “In the past you could almost pick one rate for the whole market. So we’ve seen some segmentation, and there’s been enough demand that landlords and developers with good sites haven’t had to panic on meeting their pro forma lease-up [expectations].”
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