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Commercial Real Estate

Terry Darrow: Construction and Rents—A Real (Estate) Disconnect

The two questions I get most often when it comes to the North Texas industrial market are “When is construction coming?” and “Why aren’t why aren’t rental rates rising?”
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Terry Darrow

I get asked all sorts of questions in my job, but the two I get most often when it comes to the North Texas industrial market are “When is construction coming?” and “Why aren’t why aren’t rental rates rising?” To answer these questions, I’ll need to get somewhat technical.

Let’s start with the first one on construction, though; it’s relatively easy.

Significant speculative construction is pretty imminent at this point. I think we’ll see a few projects kick off this summer—at least a couple of large bulk buildings in South Dallas, along with some in the D/FW Airport and Northwest submarkets. Great Southwest and North Fort Worth are also likely submarkets for new construction.

Current market fundamentals (8.6 percent total vacancy and above-average net absorption) warrant new construction, which is a trend we’ve seen for nearly a year. The holdup seems to be the result of cautious lenders, as several developers signaled that they’re ready to get to digging.

With pent-up demand and no new construction, higher rental rates are likely—which we’ve seen to date. The average weighted quoted asking rate is $3.60 per square feet (triple net). A year ago, that same number was $3.56 per square feet. That’s a rise of just over 1 percent, not even keeping up with inflation.

The bottom line: Rents are rising in effective terms, but landlords haven’t raised the asking rates on their properties to keep up. Rather, they’ve gotten less “generous” with free rent and incentives.

Because average asking rates are based on the currently marketed-space and most large blocks of new construction from the last cycle have been leased, they aren’t included in the current average rate calculations; thus, keeping average asking rates flat. Once new construction projects begin, those blocks of space will push the average asking rate up.

So, although one would logically believe new supply would drive rates down, it’s actually the inverse: due to the way asking rates are calculated, the new speculative construction will bring costs up.

So there we have it. Connecting the dots between rent and construction is tricky – especially when the two are really (estate) disconnected.

As managing director, Terry Darrow leads Jones Lang LaSalle’s Dallas-Fort Worth industrial group. Contact him at [email protected].

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