It Pays to Explore Sub-Markets (and Beyond)

From a national perspective, you may look at a list of rental rates, peg where your current or prospective lease falls and, if within a range of 5-10% or so, figure you are doing well.  Are you?  Maybe, maybe not.  Here's why:  Typically, market rents are quoted as average rates.  Forget that they ignore your particular improvements and other critical requirements.  There can be big – really large – huge swings in price from one sub-market to another.

For example, we recently negotiated a lease renewal in Cool Springs, TN for a client.  The Cool Springs/Franklin area is an attractive suburb of Nashville.  In fact, many of the major country music stars have homes there, as well as the CEO's of many of Nashville's hottest companies.  So while areas such as Downtown or North Nashville submarkets have vacancy rates near 25%, the Cool Springs/Franklin market is running just under 10%.  As you might guess, these other markets had a handful of desperate landlords willing to offer below market rates, lots of free rent, and other forms of love toward our bond-rated credit tenant client.  Meanwhile, the existing Cool Springs landlord rep's attitude was, “I'll have to see how much of a rent increase the owner will require for you to renew.”  Increase?  Yes, rents there are actually higher than they were in 2007 at the peak of the overall market.

The right strategy?  Consider moving out of Cool Springs.  We mapped all existing employees, color-coded by management level, and discovered that they were generally scattered around the Nashville metropolitan area.  Only a few key staff actually lived (because of the high cost) in Cool Springs.  We'd be doing most of them a favor by moving to another sub-market, and the significant savings would allow the company to create an exciting new workspace and perhaps provide other economic or quality-of-work benefits.

So what happened?  Ultimately, the existing landlord dropped their rate and the client renewed.  The point is that we had to find real reasons to move, quantify the financial benefit, and help the landlord evaluate the cost.   The landlord could then accept either a reduced rent expectation or decide to take the vacancy risk and effort of attracting another tenant as good as our client.  It makes me think of that Indiana Jones movie scene where the Knight of Templar says to the Nazi about to drink from a chalice that will either give him immortality or instant death, “Choose wisely.”  This time, the landlord did (the Nazi didn't).

For industrial distribution property, the opportunities are even greater.  Where office users are often tied to a specific geographic area based on their employee base, distributors are driven by logistics of delivering to their customers.  For many companies, they have simply been in that location for many years and, per the law of inertia, tend to stay in the same location at each renewal, well, just because they have always been there.  If they actually did a logistics study of their service area, they might find that they could shift across to a number of different real estate markets and serve that client base as well or better.  Both UPS and FedEx have simple and effective tools that can help identify where to locate to get the best next day ground delivery coverage based on specific delivery areas.

As mentioned in our previous article Commercial Real Estate Leasing Market Update, industrial rates (including flex space) range from less than $3 in some markets (Memphis, Greenville) to over $7 (Albuquerque, Ft. Lauderdale) and stretching to $12 in San Francisco.  You may find that your coverage from a $3 market is as good or better than that in a $6 market.  Or you may determine a way to set up a “Hub and Spoke” or “Break Freight” strategy that requires only the smallest of locations in the high rent district.

Because the economy is going sideways, this disparity between markets is even greater that it was in the past. Therefore, it pays to evaluate the opportunity to operate from a slightly more blighted submarket or nearby town that can give you an economic advantage over your competitors mired in the expensive areas.  WalMart doesn't put their distribution centers in the high demand areas.  Maybe you shouldn't either.

Less is More.