Small bays for big boys (and girls) - by David Skinner

What makes a good investment in a world where interest rates are almost as high as the age of the next presidential options, or perhaps as high as the rest of the country seems to be on the next alleged “football dynasty” (which is in fact nothing of a dynasty compared to the Patriots; but that is, as my brother would say, “neither here nor is it there)? There are a few investing principles that come to mind, and they remain to be sound investment fundamentals in any economy. Investing in real estate and investing in businesses work along the same ideas.

First, good investments having high barriers to entry ensure that it is an uphill battle for competition. Second, strong investments will typically have high replacement cost of the assets or facility. Stable investments also have government regulations that create legal hurdles over which to jump. In our discussion today, small bay industrial buildings check most of these boxes, and I have a few examples of what to look for. For the sake of this conversation, we are going to define “small bay industrial” as industrial buildings or rentable units between 2,000 – 10,000 s/f, primarily served with drive-in, or “at grade” loading doors. The five factors that drive current and future value that we will touch on here are: 1) extra land, 2) flexible zoning, 3) garage door size, 4) oil / water separators, and 5) highway access.

Extra Land: The typical industrial parking ratio for a distribution building in Greater Boston is about one passenger vehicle per 1,000 s/f of rentable area; manufacturing typically utilizes between one to two spaces per 1,000 s/f of rentable area. Most small bay industrial tenants will need three or more per 1,000 s/f of rentable area. This is typically a challenge for a landlord to accommodate, and as you can imagine, difficult for a tenant to identify. Therefore, if an owner has a property that can accommodate this rigorous parking ratio, the rentable price per s/f of building is much higher. It is a simple case of supply and demand. How much higher is the rent, you might ask? A good rule of thumb is to charge anywhere between an additional $3,000 - $5,000 per acre on a monthly basis around I-495, and closer to $10,000 per acre per month around Rte. 128/I-95, and even higher than that as the sites move closer to Boston.

Flexible Zoning: The users who look to rent small bay industrial tend to want to have access to population centers - these could be plumbing or electrical contractors, utility service providers (ex: telecom service groups), or even less traditional uses such as a ghost kitchen. The challenge that all of these users face are similar; the municipalities where the tenants find all their work are changing zoning to be more and more restrictive for development of industrial properties and industrial uses like those we just described. This means that small bay industrial property that is zoned for outdoor parking and outdoor equipment storage will only become more and more difficult to find as time goes on. There will always be long-term appreciation for properties like these.

Garage Door Size: Believe it or not, not all small bay industrial is created equal. I have a sad story of a client who purchased a small bay industrial property in the middle of a significant population center and the rents were significantly below market. It seemed like a no-brainer, home-run. The problem was that all the doors were 8’ and 10’ high. Tall sprinter vans are 9.5’ - and because of the way the garage door folds up under the ceiling, it doesn’t actually allow for a full 10’ of clearance. The horror began to set in when the owner realized that he cannot actually rent these spaces to most contractors unless they have short vans, which of course detracts from the value of the property. Through this experience, we learned that doors and ceilings should have a minimum of 12’ clearance.

Oil / Water Separators: Small bay industrial buildings that were built recently likely have oil / water separators. Many municipalities have mandated that any building that allows vehicles to be driven inside will need floor drains and separators. Some older buildings have been grandfathered, but any special permit needed for a new tenant will likely necessitate the installation of new floor drains which could mean tearing up the existing floor to be able to install the system — an expensive endeavor to be sure.

Highway Access: Keep in mind, the users for small bay industrial are interested in getting to homes and neighborhoods easily. While highway access is always an alluring feature of any kind of property, understanding that cities like Worcester, Framingham, or Brockton (among many others) have such densely populated areas of the city that do not boast immediate highway access but need contractors to work on the roads, homes, and businesses in those areas. It could be seen as a detracting factor that being in one of these downtown areas takes 15 minutes to get to the nearest freeway, but that is where working with an experienced local agent in this product type will help you understand which of these areas are most worth investment.

Of course, not all small bay industrial property is created equal, and we always advise investors to talk with local real estate agents who do the leasing and know the lease comps in the area so you aren’t shooting blind.

David Skinner is an advisor, partner at Prescott Advisory, Newton Highlands, Mass.