A bird’s eye view of Greater Phoenix today reveals a much-changed metropolitan area since the turn of century. New freeways, homes and businesses populate Arizona’s major population center, despite the economic turmoil caused by the 2008 financial crisis. Since then, the industrial market in particular has enjoyed a hot streak. But will water worries and costly capital cool white-hot industrial market?
AZRE magazine sat down with these NAIOP members to learn about why industrial has been booming, what threat the recent Metro Phoenix groundwater model poses to development and hear their thoughts on the market going forward:
• Ryan Abbott, executive vice president, Southwest Region, Clayco
• Jenna Borcherding, director of development, VanTrust Real Estate
• Jeff Dalton, vice president of FCL Builders
• Suzanne Kinney, president and CEO of NAIOP Arizona
• Don MacWilliam, vice chair, Industrial Properties, Colliers
The following responses have been edited for length and clarity.
AZRE: Greater Phoenix’s industrial market has experienced 14 years of positive net absorption. What are some of the factors that have made the region so attractive?
Don MacWilliam: First of all, we’ve had the land for expansion. When you look at some of the West Coast markets, they’ve been constrained by where they can actually build. The Southwest Valley has become a huge corridor, with a lot of people taking down bigger tracts of land than they ever have before.
We haven’t even tapped into Buckeye yet. Buckeye, from a total square mile standpoint, is bigger than the City of Phoenix, so we have another huge horizon in Buckeye.
Jenna Borcherding: In addition to the availability of land that Don hit on is the availability of labor and the talent pipeline. That’s what’s really attracted a significant number of these companies that have major presences. When you have these companies such as Amazon, UPS and REI coming into the market, others are looking at them as case studies and seeing that they’re able to get the talent they need. It’s a copycat industry and you get other groups following those big names.
Ryan Abbott: I’d add that there are adjacencies that make a ton of sense when you look at the population bases that surround Phoenix within a day’s reach — it’s pretty substantial. From a political standpoint, I still think of Phoenix as the place you go to get things done. The timeframe in which somebody can go from concept to land acquisition to having a product in place is impressive.
I do think we do have some things standing in our way when it comes to availability of water and infrastructure, and we’ve had to come up with a lot of bridging strategies to overcome that. It’s not atypical to see retention tanks on a site today that help everyone get through their inspections or have fire suppression systems to serve the building until the infrastructure can catch up.
If you look at other markets, that’s not possible — you just delay the project until you can bring everything up together. Whereas here, we can be very creative about which order you go about that, and the municipalities are very much in line to help make that happen.
Jeff Dalton: Really, you can sum it up with “We’re not California.” Labor, land, location and laws — that’s what we’ve been talking about. But the transportation infrastructure here amazes me. I relocated from the Northwest when the Loop 303 was just being completed. They haven’t built a new highway in my area in the Northwest in 30 years. Then I come down here and a freeway is being built in an open desert, and I thought, “These people are looking ahead,” and now look at the Loop 303 area.
This type of planning and having business-friendly laws have been huge. We have a corporate build-to-suit project for a client who has been in Los Angeles for 100-plus years, and they’re relocating the entire operation to Phoenix.
AZRE: What should readers know when it comes to water and industrial development considering the recent Phoenix Active Management Area (AMA) groundwater model?
Suzanne Kinney: I’ll start by saying that we’re not in a crisis largely because there’s been decades and decades of good planning for the reality that we are in a desert, and we have a long-term drought. We do see these stories coming out in the national media, and naturally, they’re going to go with the most inflammatory headlines.
But when you actually peel that back and look at the reality, we’re not in a dire situation at all. The reality of the moratorium that was put in place is that the 15 largest municipalities in the Phoenix Metro are not impacted at all.
This is only impacting the urban fringe that did not have a supply of surface water in place to meet a 100-year guaranteed supply. And then within that, it’s only for new home construction that hasn’t already been approved. There is no direct impact on industrial or any other asset classes.
DM: The commercial aspect has been lumped in and everybody created a stink. Our competitors, such as Texas and other states, are using that against us. They’re inflaming the whole thing.
SK: Don is right, it gives fodder for some other states to try to make their sales pitch. It’s incumbent upon all of us to get the facts out there. And the good thing is that there are a lot of entities, organizations and individuals who are working on doing that right now. But we do have to counter this national narrative that really has a lot of inaccuracies built into that.
Again, an important thing for everyone to realize is that as we are developing, we’re moving away from agriculture, which is very positive for our water situation because agriculture, and specifically a lot of the crops that have been grown here, are very water hungry crops. Alfalfa jumps out as one that is particularly intensive and the amount of water it needs to use. But modern industrial developments really don’t use a lot of water. There are a few exceptions, but this actually is improving the water situation for the metro area.
JD: Going back to the Hohokam people with their canals, Phoenix has been a national leader in the conservation of water. When you look at what we’ve got in groundwater and surface storage, reuse and recycling — over 90% of water for industrial uses is recycled in the Phoenix area. We’re back down to the water consumption level we were at in 1957 in Maricopa County, despite exponential population growth.
When you look at all of that, and the direction we’re going compared to some other states that are not conserving water, and don’t have things like groundwater recharge, storage, and 100-year supply requirements, we’re in great shape going forward. We have some strict guidelines that some of the very peripheral cities are working to meet as they expand, and they will.
JB: Some of the far west municipalities are relying upon the private sector, and that’s where some of the challenges are. I’m no groundwater expert, but my understanding is that the punchline from the model was there’s going to be a 4% deficit if we didn’t find any new ways to conserve our water over the next 100 years. Arizona has always been a community where we innovate, and plan for the future
RA: The unfortunate part is that these national media stories minimize the hard work and forthright thought leadership in Arizona around this subject. Look at what we’ve already done for wastewater treatment. It’s 5% of our water, but as we bring water use down, we’re going to generate more and more fresh drinking water and we’re going to do more to treat industrial processes.
In fact, most of the facilities I see today that are in the microelectronics sector are planning on 80% of their water to be generated on site. It’s not that we’re missing anything along the way — all the right steps are being taken. That’s just not the headline that someone clicks on.
AZRE: Any final thoughts you want to share on the state of the market?
RA: I think the two things to track are the cost of debt to get work going and the rent rate. If you can get those things to correlate, you’ve at least got that side of it solved. We are getting relief in terms of commodities and materials. It used to be that if we needed joists for a job, we’d order them and get them 10 months later; now at least we have more certainty about what’s coming and when it’ll be there. Just last summer, everybody was on allocations for concrete, but now we’re pretty predictable on that side.
Utilities are something that everyone is having to get creative about. There’s a long lead time on transformers, and [Arizona Public Service (APS)] is trying to prioritize the list of demands that they’re getting for upstream power, and they don’t have a great mechanism of doing it.
JB: Nor can APS approach it with bias because they’re a public utility, so it’s just punch a ticket and get in line.
RA: That’s right. And for a lot of people, in order to get a tenant, you have to show that there’s a commitment for power. But at the exact same time, APS doesn’t know what is a real deal or not. Somehow, we have to figure out how APS can prioritize development. I’m not saying I’ve got a great solution — I don’t think cash deposits or early design stuff will solve it, but that’s our next big challenge.
JB: The market is much more civil and disciplined as a lot of capital is on the sidelines. Those with access to capital are seeing this as a time of opportunity, and that’s another tailwind for those developments. Arizona is well positioned because we’ve got a talented bench of developers and towns, and we have a significant amount of tenant activity.
Tenant activity doesn’t make the headlines, signed deals do. But when you see 45 million square feet of tenant activity circling the Valley, that is significant. Yes, we have 52 million square feet under construction. But I really like to keep a close pulse on what that tenant activity is doing.
DM: Deals for 300,000 square feet or 500,000 square feet are getting a lot more scrutiny, and that’s slowing down the whole process. Before, it was like, “If you don’t do this deal, we’re going to the next guy.” That mentality is out now. You may have backup offers and have multiple people working on certain deals at the same time, but it’s not the frenzy that we were seeing.
When you start looking at the absorption numbers that we’re seeing right now, we’ve been setting huge records for Phoenix over the last two to three years. And those numbers are probably at least half off right now from last year. Things are pulling back and getting a little bit more conservative. But as Jenna was saying, there’s still the tenant activity that seems to be extremely strong.
The largest buildings are a bit light just because we’ve got 38% of the 1-million-square-footers in the Western U.S. here in Phoenix, which is a big number for us. So, there’s a little headwind for the really large buildings, but our basic Bob 250,000- to-500,000-square-foot buildings are extremely active.
JD: On the construction side, we’re better off than a couple years ago when we were seeing 3% inflation per month in construction material. That was hard to predict, and our clients were going crazy, but we had no control of it. Now on the commodity side, we definitely have a little more predictability of future costs, we still have some challenges. It can be 60 to 70 weeks to get your main electric gear for the building. As soon as our client goes hard on the land, we’re ordering electric gear, and then we’ll design the building around it.
With labor, we’re still not back to the number of employees in the construction sector in Arizona from 2007. The industry has a long-term issue with bringing new people in at all levels to keep things going. It used to be that we could bang out a project in nine months and get a tenant in there, but now subcontractors are saying, “Here’s the production I can guarantee because I just don’t have the crews and we’re busy.” The associations are working really hard with the high schools to get people into the trades and learning what a career in construction can be.
SK: Overall, I think we’re still all very optimistic. Arizona is an excellent place to be, especially when you’re looking at the bigger picture. There’s still tremendous upside here, and we’ve weathered much more challenging situations than what we’re going through right now.
Some of the slowing is a natural correction. As an association executive observing our members, things were crazy and people were running in a million different directions. Now it’s still very healthy, but folks are catching up.
We probably don’t get as much national recognition as we deserve on the big issues — transportation, energy, water — but we’ve had decades of thoughtful planning, and we’re seeing that continue. I always like to say that Metro Phoenix is a true meritocracy. It’s welcoming and if you’re willing to work hard, then you’re going to have a great career and can build a great business. That remains the reality here.