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The Environment and Performance of Industrial Real Estate John D. Benjamin,* Emily N. Zietz** and G. Stacy Sirmans***

Abstract

This study examined over seventy industrial real estate research papers and categorized them according to: 1) property characteristics, 2) demand determinants, 3) rent and income determinants, 4) return and valuation issues, 5) environmental concerns, 6) international issues, and 7) management and financing concerns. The findings indicate that industrial properties tend to be segmented and clustered by use with greater demand for flexibility and smaller size, yet with reduced demand for warehouse space. Employment, age, and percentage of office space affect industrial rents while industrial land values indicate future rental rates. In addition, local market factors, physical characteristics and location affect industrial property values, but environmental contamination has an adverse effect.

Introduction Interest in industrial real estate is increasing because it is a key sector of the real estate market in the United States. In 2001, for example, industrial properties accounted for almost 20% of the NCREIF Property Index with a market value of almost $21 billion dollars. Over the past twenty years, industrial properties have been a relatively stable investment for many investors, providing solid returns and attracting high demand, but the industrial real estate sector continues to be an evolving and dynamic market.

In this review of the empirical, theoretical and descriptive literature concerning industrial real estate, over sixty recent studies are examined by addressing seven questions: (1) What are the characteristics of the industrial real estate market? (2) What are the determinants of demand for industrial real estate? (3) What are the determinants of rent and income for industrial real estate? (4) What are the return and valuation issues in industrial real estate? (5) What are the environmental concerns in industrial real estate? (6) What is the international perspective of industrial real estate? and (7) What are the management and financing concerns in industrial real estate?

The article is organized as follows. The next section defines industrial real estate and identifies the environment for industrial properties. Succeeding sections survey the literature by addressing the above seven questions. The examination of categorical topics is presented both in a discussion and tabular format. The last section provides a summary and conclusions.

*American University, Washington, DC 20016 or [email protected]. **Middle Tennessee State University, Murfreesboro, TN 37132 or [email protected]. ***Florida State University, Tallahassee, FL 32306-1110 or [email protected].

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What is Industrial Property?

Expanding technology use in many industries is causing changes in the makeup of industrial real estate. Many industrial properties such as those used for research and development, for example, have benefited from improved technology. The performance of warehouse properties serving as large-scale distribution centers is similarly attracting attention.

In his seminal hedonic study of industrial real estate pricing, Ambrose (1990) defines industrial property as the land, structural improvements and equipment connected with a particular property that is being used for the conversion of materials into finished manufactured products. In general, warehouse property and minor processing plants of all kinds are included in the category of industrial property.

What specific types of properties are considered industrial real estate? According to the 1998 Real Estate Information Standards disclosed on NCREIF.org, there are five types of industrial properties.

1. Warehouse properties with at least 50,000 square feet with up to 15% office space, and the balance of the structure having 18- to 30-foot ceiling height; all loading must be dock-height.

2. Manufacturing buildings with 10- to 16-foot ceilings or sufficient height to accommodate overhead cranes must provide floor-height and dock- height loading.

3. Office showrooms that are single story (or mezzanine) with 10- to 16- foot ceilings with frontage treatment on one side and dock-height loading or grade level roll-up doors on the other. Less than 15% of these structures may be used as office space.

4. Flex space structures are single-story buildings with 10- to 18-foot ceilings with both floor-height and dock-height loading, including wide variation in office space utilization, ranging from retail and personal service to distribution, light industrial and occasional heavy industrial use.

5. Research and development industrial properties are one- and two-story, 10- to 15-foot ceiling heights with up to 50% office/dry lab space (with the remainder in wet lab, workshop, storage and other support), and with specific dock-height and floor-height loading.

Commercial properties used for other purposes including agricultural, offices (not mentioned in type 3 above), apartments and retail endeavors are not considered industrial properties.

Characteristics of the Industrial Real Estate Market

This section provides an overview of the literature discussing the nature and characteristics of industrial real estate relative to other types of properties while Exhibit 1 presents summaries of studies that focus on the characteristics of the industrial real estate market. Some of the earlier research on industrial properties

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Exhibit 1

Characteristics of the Industrial Real Estate Market

Author(s) Title Source Date, Location, Time Summary of Article

Mitchell and Jucius (1933)

Industrial Districts of the Chicago Region and Their Influence of Plant Location

The Journal of Business of the University of Chicago, 6:2, 139–56

Three manufacturing districts in Chicago, early 1900s

Evaluates the services rendered by three Chicago manufacturing districts: the Central Manufacturing District, Clearing Industrial District and the Kenwood Manufacturing District. Finds that the impact of manufacturing districts includes valuable transportation connections, financial advantages and cosmetic benefits to both neighboring property owners and to businesses and consumers nationwide who gain by having efficient and economical transportation resources.

Mayer (1942) Patterns and Recent Trends of Chicago’s Outlying Business Centers

The Journal of Land and Public Utility Economics, 18, 4–16

Location of business subcenters within the city of Chicago; changes in land values 1931–1941

Highlights the impact of business subcenters on economic activity and land values. Finds that land values may be used as an index of the importance of business subcenters. The median decline of land values of business corners in outlying business intersections (blighted areas) was between 20% and 29.9% during the period examined.

Shenfield and Florence (1944– 1945)

The Economies and Diseconomies of Industrial Concentration: The Wartime Experience of Coventry

The Review of Economic Studies 12:2, 79–99

Industrial growth inside Coventry and Birmingham, early 1900s to 1940

Examines industrial growth inside Coventry, England, specifically the automobile manufacturing, artificial silk yarn and electrical equipment industries. Finds that the effect of the war altered and unbalanced the industrial structure of the city, expanded the motor, and aircraft and associated engineering industries, and lead to difficulties but ultimately additional contracts for textile and service industries.

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Exhibit 1 (continued)

Characteristics of the Industrial Real Estate Market

Author(s) Title Source Date, Location, Time Summary of Article

Grissom, Hartzell and Liu (1987)

An Approach to Industrial Real Estate Market Segmentation and Valuation Using the Arbitrage Pricing Paradigm

Journal of the American Real Estate and Urban Economics Association, 15:3, 199–219

Quarterly return data from a large commingled real estate fund consisting of 382 properties of various types and locations with a market value of $2.6 billion

Evaluates the segmented market within industrial real estate in relation to risk versus return factors, and considers whether a submarket analysis or an integrated market analysis provides more accurate and useful results regarding rate of return and the Arbitrage Pricing Theory. Using the Chen methodology, concludes that the industrial real estate market is indeed segmented between various regions and a submarket analysis is better for predicting returns, but does not establish a link between general economic factors and industrial real estate returns.

Moriarty (1991) Urban Systems, Industrial Restructuring and the Spatial-Temporal Diffusion of Manufacturing Employment

Environment and Planning, 23:11, 1571–88

Manufacturing employment density distribution patterns in the U.S. from 1947–1982

Finds that geographic sorting of manufacturing operations based on marginal returns has led non-production workers to become more concentrated in large urban centers such as in the Northeast and Eastern North–Central U.S. This sorting process has helped influence geographic expansion of development but the influence is beginning to weaken.

Graham and Bible (1992)

Classifications for Commercial Real Estate

The Appraisal Journal, 60:2, 237–46

No empirical data Develops a systematic approach for classifying apartments, office buildings, retail centers and warehouse buildings.

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Exhibit 1 (continued)

Characteristics of the Industrial Real Estate Market

Author(s) Title Source Date, Location, Time Summary of Article

Harrison (1992) Industrial Districts: Old Wine in New Bottles?

Regional Studies, 26:5, 469–83

No empirical data Analyzes a recent trend of economic growth where similar types of companies are locating in close proximity to one another and contrasts this pattern with other trends that have led to geographic dispersal of some production facilities. Suggests that governmental incentives may encourage similar businesses to form ‘industrial districts’ by providing infrastructure and other services. Notes that the interaction of independent firms located closer together may be able to lower overall costs and that trust can be built more easily in face-to-face meetings. Concludes industrial district prototypes involve more than simply agglomeration economies.

Bruce (1994) Industrial Goes Upscale Journal of Property Management, 59:2, 14–7

Industrial property near the U.S. –Mexico border, May/June 1994

Evaluates the changing and higher technology standards that industrial property tenants demand as they consolidate operations into a few major locations. Finds that the elimination by NAFTA of duties and tariffs on goods being sent between the U.S., Canada and Mexico has influenced the demand for industrial property. Documents a shift from industrial to office / industrial spaces demand as tenants who previously sought cheaper office buildings move to save money and to reduce rents and commute times for employees.

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Exhibit 1 (continued)

Characteristics of the Industrial Real Estate Market

Author(s) Title Source Date, Location, Time Summary of Article

Franklin (1994) Industrial Inspirations Journal of Property Management, 59:3, 18– 20

No empirical data Asserts that industrial properties are strong performers in the real estate industry and that with innovative management, even older industrial properties may be excellent investments. Provides three case studies on how to make older industrial properties better investments.

Myers (1994) Fundamentals of Production That Influence Facility Designs

The Appraisal Journal, 62:2, 296–302

Utilizes information dated back to 1985

Suggests that valuing a production facility presupposes evaluation of industrial production methods. States that it is essential to understand the productive capacity of a facility and the history of the property before trying to assign a value to a property. Evaluates various advantages and disadvantages in facility design: capacity of a property allows evaluation of sales of similar buildings based on design capacity, potentially the most important unit of industrial engineering measurement. Evaluates the factors the companies should consider when searching for an industrial property including property flexibility and the capability of the site to handle future technology, capacity and plant design.

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Exhibit 1 (continued)

Characteristics of the Industrial Real Estate Market

Author(s) Title Source Date, Location, Time Summary of Article

Bruce (1995) Recycling Your Industrial Properties

Journal of Property Management, 60:4, 44–7

No empirical data Discusses obsolescence strategic planning and environmental concerns as the commercial and industrial real estate markets suffer, suggesting that alternative uses must be found or property may be abandoned. Categorizes three types of properties: those affected by central business district (CBD) expansion due to their downtown location, CBD-related or waterfront-related residential projects and properties further from desirable CBD or waterfront. Discusses managing approaches for handling vacant properties. Evaluates the decisions involved in a potential recycling project, such as one that is converted from commercial to residential.

Venables (1996) Localization of Industry and Trade Performance

Oxford Review of Economic Policy, 1996, 12:3, 52–60

No empirical data Examines the determinants of a country’s industrial structure and trade patterns. Finds that ceteris paribus, firms are more profitable and are able to pay higher wages in locations that have the benefit of an agglomeration of complementary activities. Finds that comparative costs of different sectors determine the pattern of trade and that agglomeration forces are only one factor determining trade patterns.

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Exhibit 1 (continued)

Characteristics of the Industrial Real Estate Market

Author(s) Title Source Date, Location, Time Summary of Article

Black, Wolverton, Warden and Pittman (1997)

Manufacturing versus Distribution: Implicit Pricing of Real Property Characteristics by Submarket

Journal of Real Estate Finance and Economics, 15:3, 271–85

331 industrial property sales in southeastern US from 1987–1995

Evaluates differences in distribution activity and manufacturing activity, and proposes that these differences may lead to pricing differences. Provides evidence that there are indeed two submarkets in the industrial real estate environment—manufacturing and distribution. Enumerates significant variables for manufacturing properties (age, year of sale, MSA distance and lifting crane) and significant variables for distribution properties (air-conditioning, rail and excellent condition rating). Concludes that industrial submarkets should be considered when pricing a property and finds that of these fourteen characteristics, four proved to be different between the two submarkets. Provides analysis showing that the existence of these submarkets is a result of production process differences.

Cleminshaw (1997)

Measuring Superadequacy in Older Industrial Plants: A Case Study

Assessment Journal, 4:1, 37–40

No empirical data; Case Study

Defines superadequacy as ‘‘an element within a building’s design which creates an undesirable excess’’ and provides procedures and a case study of computing functional obsolescence due to superadequacy.

Thompson (1997)

Industrial Employment Densities

Journal of Real Estate Research, 14:3, 309–19

510 U.K. industrial properties

Evaluates long-term floor space-to- employment ratios in the U.K. and seeks to identify densities formed by specific industrial building types and to explain these densities and how they change over time. Attempts to create a method for predicting demand for various types of industrial property by linking employment data with property data. Concludes that there is no identifiable relationship between macroeconomic trends and employment densities.

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Exhibit 1 (continued)

Characteristics of the Industrial Real Estate Market

Author(s) Title Source Date, Location, Time Summary of Article

Hanson (1998) North American Economic Integration and Industry Location

Oxford Review of Economic Policy, 1998, 14:2, 30–44

Canadian, Mexican and U.S. manufacturing employment and wages, 1850–1997

Finds that in Mexico, closer economic ties with the U.S. appear to have contributed to a contraction of employment in the Mexico City manufacturing belt, an expansion of manufacturing employment elsewhere in the country and an increase in wages of skilled workers. Concludes that with the exception of U.S. cities on the Mexican border (whose employment growth is strongly related to export production in neighboring Mexican cities), the effects of economic integration on industry location in Canada and the U.S. appear to have been much weaker.

Ellison and Glaeser (1999)

The Geographic Concentration of Industry: Does Natural Advantage Explain Agglomeration?

American Economic Review, 89:2, 311–16

Four-digit manufacturing industries from 1987

Notes that agglomeration may be caused by local industry spillovers or as a result of natural cost advantages present in a specific area. Evaluates the effects of natural advantage location, suggesting that industrial location is a product of resource availability and labor-market advantages. Presents a model that explains industry clusters in three ways: observed cost advantages, unobserved costs advantages, geographically localized industry spillovers. Considers sixteen interactions relevant to the advantages provided from natural resources, labor and transportation costs. Concludes that at least 50% of the industry concentration is a result of natural advantages present in specific regions of the country.

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Exhibit 1 (continued)

Characteristics of the Industrial Real Estate Market

Author(s) Title Source Date, Location, Time Summary of Article

Hill and Brennan (2000)

A Methodology for Identifying the Drivers of Industrial Clusters: The Foundation of Regional Competitive Advantage

Economic Development Quarterly, 14:1, 65–96

194 industries in the Cleveland-Akron, Ohio

Presents a methodology for determining clusters of industries for which a region holds a competitive advantage—the ‘‘driver industries—because they have a significant economic effect on the region. Identifies ‘Foundational clusters’ for areas such as metalworking, chemicals and allied products, as having important relationships with other industries in the area. Concludes that there is a strong competency in materials industry especially metals and specialty chemicals, suggesting that the region must be innovative.

Crawford and Slade (2001)

Appraising Industrial Special-Purpose Properties

The Appraisal Journal, 69:2, 161–73

Hypothetical asset value Illustrates a new, convenient method, based on utilization rates, for estimating economic obsolescence in the appraisal of industrial special-purpose properties. Stipulates that this utilization-based method consider the operating leverage of the property, allowing an adjustment for obsolescence. Suggests that in order to accurately estimate economic obsolescence in industrial special purpose properties, an industrial appraiser must have access to information on underutilization, operating leverage, replacement cost new, current age and the total estimated economic life of the property.

THE ENVIRONMENT AND PERFORMANCE OF INDUSTRIAL REAL ESTATE 289

examined the economic and general impact of manufacturing districts and industrial parks. A study by Mitchell and Jucius (1933) evaluates the service benefits of three manufacturing districts in the Chicago Central Manufacturing district. This study highlights the unique services that industrial districts provide, including transportation and financial benefits to many businesses and consumers in these areas, as well as consumers across the country who receive shipments conveniently and cost efficiently. Mayer (1942) also examines major industrial centers in Chicago and finds varying rates of change in land values when specifically examining important outlying business corners. Industrial concentration in England was examined by Shenfield and Florence (1944–1945). This study highlights the effect that the wars had on several key industries, including altering the industrial structure of the city, expanding the motor and aircraft industry and associated engineering industry, and causing difficulties but ultimately facilitating additional contracts for textile and service firms.

A systematic classification approach for defining various commercial properties, provided by Graham and Bible (1992), includes apartments, industrial properties, office buildings, retail centers and warehouses. Consolidation of industrial real estate into a few major locations owing to higher technology standards is found by Bruce (1994). Examining the issue of market segmentation within the industrial real estate market, Grissom, Hartzell and Liu (1987), for example, find empirical evidence to support a segmented market within the industrial real estate environment, and conclude that looking at regional submarkets allow better predictions of returns. Black, Wolverton, Warden and Pittman (1997) show that the industrial real estate market can be divided into at least two subcategories: manufacturing and distribution. Their study suggests that property pricing is still most feasible when measured in aggregate, but that adjustments should be made for variability between subcategories.

Several studies examine the clustering effect of local industrial property markets. Moriarty (1991) attributes the concentration of nonproduction workers in large urban centers to the geographical sorting of manufacturing operations based on marginal returns. The advantages and disadvantages of companies locating within close proximity are discussed by Harrison (1992). He also examines governmental incentives and infrastructure that encourage businesses to form ‘‘industrial districts.’’ Firms are more profitable, according to the findings of Venables (1996), in locations that have an agglomeration of complementary activities.

Natural cost advantages are used as an explanation by Ellison and Glaeser (1999) for the geographic concentration of industrial properties. Their study suggests that firms can save on labor and other resource costs through industry clustering and that transportation and marketing costs can be reduced by locating closer to target markets. This concept is further developed by Hill and Brennan (2000) who examine 194 industries in the Cleveland-Akron, Ohio area in an attempt to determine clusters of industries or ‘‘industry drivers’’ for which a region holds a competitive advantage. Their study concludes that there is a strong tendency in the materials industry, specifically metals and specialty chemicals, for driver industries to add value to a region. In Mexico, Hanson (1998) finds that closer economic ties to the U.S. caused

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reduced employment in the Mexico City manufacturing belt, but that there were advantages of economic integration for cities along the U.S.-Mexico border.

Several studies have focused on the characteristics of industrial properties that enhance the utilization of property. One study examines obsolescence and suggests ways to recycle industrial properties to prevent them from becoming abandoned (Bruce, 1995). In examining changes in central business district (CBD) properties, this study elaborates on how to handle vacant industrial properties in ways such as converting them to residential. While providing case scenarios on how to make older properties good investments, Franklin (1994) notes that industrial properties are one of the stronger performers in the real estate industry. His study suggests that innovative management could facilitate older industrial properties becoming outstanding investments. Crawford and Slade (2001) illustrate a new method, based on utilization rates and operating leverage, for estimating economic obsolescence in special-purpose industrial properties.

Some studies have examined physical characteristics such as capacity and design. Myers (1994) discusses the importance of understanding the productive capacity and design of the facility, arguing that design capacity is the most important measurement for an industrial engineer. Other factors important in industrial property design include flexibility in technology and capacity expansion. Cleminshaw (1997) argues that a building’s design can create functional obsolescence by creating undesirable excess.

To evaluate long-term floor space-to-employment ratios in England, Thompson (1997) uses employment densities. His study finds no significant relationship between macroeconomic trends and employment densities.

The major findings from this section are:

� Industrial markets are segmented (e.g., manufacturing and distribution) and investment returns are better predicted in sub-markets. Studies have provided a systematic approach to classify industrial property types.

� Clustering is present in industrial properties due to infrastructure, government incentives and natural cost advantages (e.g., labor, transportation, marketing costs).

� There is some advantage to economic integration.

� Recycling industrial properties to other uses is important because obsolescence can occur due to design and age. Studies have suggested ways to revitalize industrial properties in order to avoid abandonment.

� Capacity and design are important. Properties must be flexible for technology and capacity expansion.

Determinants of Demand for Industrial Real Estate Studies that examine the demand patterns and determinants and the supply of industrial properties are synthesized below and reviewed in Exhibit 2. Using Detroit

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Exhibit 2

Determinants of Demand for Industrial Real Estate

Author(s) Title Source Data, Location, Time Period Summary of Article

Wheaton and Torto (1990)

An Investment Model of the Demand and Supply for Industrial Real Estate

American Real Estate and Urban Economics Association Journal, 18: 4, 530–47

Fifty-two major metropolitan areas with 130,000 structures from 1972–1989

Develops a model that is useful in estimating excess plant capacity in particular markets. Suggests that many tenants actually use industrial property for some mix of uses including manufcturing, distribution storage and research. Suggests that construction lag time may cause a temporary inefficiency in the supply and demand for industrial property.

Hartman (1991) Industrial Real Estate: Go Figure

Real Estate Issues, 16:1, 23–7

Detroit Market Data from Michigan Society of Industrial and Office Realtors (SIOR) from 1982–1989

Examines the growth in average sales prices per square foot of industrial buildings and land and compares city values to those of the suburbs. Finds that the relationships between the number of market transactions and the sizes of industrial buildings did not change over the time period examined: sales and leases of buildings of 25,000 square feet or less regardless of market conditions are dominant. Shows that unit prices consistently decrease as building size increase.

Rauch (1993) Does History Matter Only When It Matters Little? The Case of City- Industry Location

The Quarterly Journal of Economics, 108:3, 843– 67

Theoretical model Examines the historical role of city-industry locations and the traditional incentive businesses have to remain subject to agglomeration economies. Finds that since World War II, industries have had a tendency to cluster together and are reluctant to move from an old, high-cost site to a new, low-cost site. Notes that industrial park property developers may alleviate this inertia through discriminatory pricing strategies.

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Exhibit 2 (continued)

Determinants of Demand for Industrial Real Estate

Author(s) Title Source Data, Location, Time Period Summary of Article

Hughes (1994) Determinants of Demand of Industrial Property

The Appraisal Journal, 62:2, 303–09

Data for industrial and office properties in Atlanta, Chicago, Boston, New York, and Washington, DC from 1984–1988

Examines the difference in demand determinants for industrial properties versus office properties, noting that simple population changes may not be sufficient to determine current and future demand for industrial property. Finds that general population growth is only one factor that determines demand, while other factors include: technological changes, natural resources, labor, infrastructure and exchange capability.

Wheaton (1996) A Perspective on Telecommunications Technology and Real Estate: Office, Industrial, and Retail Markets

Real Estate Finance, 13: 2, 13–7

Data used are national Predicts enhanced technology will reduce industrial space demand by improving inventory management and thus reducing warehousing needs, but the effects of improved technology will not be too quick or drastic. Evaluates the effects of corporate downsizing, noting many companies use more subcontracted services, thus shifting rather than reducing real estate demand. Suggests that ‘‘Hoteling’’ may not be a suitable strategy to save on real estate costs unless the time spent in the office is random and not determined by cycles or seasons.

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Exhibit 2 (continued)

Determinants of Demand for Industrial Real Estate

Author(s) Title Source Data, Location, Time Period Summary of Article

Christensen, Wisener and Campos (1997)

Attributes of Tomorrow’s Warehouse Structures

Real Estate Review, 27:3, 51–7

No empirical data Assesses the changing spacing needs of warehouse tenants, but warns that these needs do not validate the views of either modernists or traditionalists. Consistent with modernists, tenants perceive a need for slightly more building square footage. Tenants’ expectations for change in dock doors vary with building size of their warehouse spaces. Users of properties with at least 50,000 square feet expect to add doors more quickly than users of smaller properties. Concludes that landlords’ belief that tenants prefer buildings with higher ceilings may be inaccurate.

Rabianski and Black (1997)

Why Analysts Often Make Wrong Estimates About the Demand for Industrial Space

Real Estate Review, 27:1, 68–72

No empirical data Offers three approaches to estimate industrial space demand: forecast industrial space relative to office space, estimate future manufacturing space demand and forecast the demand for business parks. Factors sometimes overlooked include the performance of the regional and national economy and overall economic growth. Proposes that the single most important problem is that analysts often assume that analysis of the demand for industrial space is synonymous to the analysis of demand for office space.

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market data from the state Society of Industrial and Office Realtors (SIOR), Hartman (1991) examines the growth in average sales prices per square foot of industrial buildings and land, comparing city to suburban values. This study finds that prices consistently decline as building size increases. Hartman also finds that demand is greatest for buildings of 25,000 square feet or less regardless of market conditions.

Examining the tendency of various firms within an industry to cluster together and often form the nuclei of a city, Rauch (1993) examines the historical role of city- industry locations. This study notes the historical incentive businesses have to remain subject to agglomeration economies. Rauch finds that firms are reluctant to move from an old, high-cost site to a new, low-cost site, but that property developers may alleviate this inertia through pricing strategies over time.

Evaluating data relevant to plant completions, Wheaton and Torto (1990) provide a model that is useful in estimating excess plant capacity in a particular market. They also stress that many tenants use industrial properties for mixed purposes such as manufacturing, distribution, storage and research.

Two studies discuss the impact that changes in technology are having on the demand for industrial properties (see Hughes, 1994; and Wheaton, 1996). Both studies concur that large companies are looking to consolidate operations into a few key locations. Hughes, in examining the determinates of industrial space demand, reports that firms are shifting from industrial to industrial /office properties, often as a way to meet their more advanced warehousing and distribution needs. These needs include more automated inventory tracking and ordering systems such as JIT inventory management. Wheaton (1996) supports the popular view that enhanced technology will reduce the demand for industrial properties as inventory management is improved, and thus the demand for warehouse property is shrinking. Another study addresses the changing demand for certain physical attributes of industrial space. Christensen, Wisener and Campos (1997) discuss the changing space needs for warehouse tenants such as square footage, dock doors and higher ceilings.

Noting the difficulties in analyzing industrial space that arise from the assumption that demand for industrial space is synonymous to the demand for office space, Rabianski and Black (1997) suggest three approaches. First, they estimate the demand for industrial properties relative to office space; second, they forecast manufacturing space demand; and third, they forecast the demand for business parks. It is important to not overlook the performance of the regional and national economies, overall economic growth and overall population change as demand drivers for industrial space.

The major findings about the demand for industrial real estate are:

� Price per square foot declines as building size increases, and demand is greatest for buildings of 25,000 square feet or less regardless of market conditions.

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� Estimating the excess supply of industrial properties is confounded by their use for mixed purposes such as manufacturing, storage, distribution and research.

� Large companies generally seek to consolidate operations into a few key locations and are shifting from industrial to office/industrial properties.

� The demand for warehouse property is decreasing due to the improved inventory management that results from enhanced technology.

� Demand for industrial space should be estimated relative to demand for office and manufacturing space, regional and nation economies, overall economic growth and population changes.

Determinants of Rent and Income for Industrial Real Estate

The determinants of rent and income for industrial real estate are examined in the articles grouped in Exhibit 3. Topics range from geographic differences in rental rates to the factors that best forecast rents and vacancy rates. Bible and Hsieh (1996) argue that Geographic Information System (GIS) technology may be useful in industrial real estate research. Where property characteristics in general are not important in determining warehouse occupancy rates, GIS technology may be used to examine warehouse occupancy rates by applying distance variables along with conventional property variables. Where location is important, Reenstierna (1997) discusses the advantages and disadvantages of using a ‘‘baseline’’ valuation model in lieu of the traditional sales comparison method. His study also uses a GIS map, indicating the change in value for a ‘‘baseline’’ property in different locations throughout the area examined.

Studies that seek to explain rental rate patterns and the determinant factors of industrial rent variations include those by Sivitanidou and Sivitanides (1995), Buttimer, Rutherford and Witten (1997), Jones and Orr (1999), Thompson and Tsolacos (1999) and Thompson and Tsolacos (2000). Sivitanidou and Sivitanides use alternative empirical models to examine the long-term rents of similar properties within competing industrial areas. Their study finds that several property-specific variables are relevant to the firm and other variables are relevant to workers; moreover, both have significant effects on the rental rates of industrial properties. Firms value access to raw materials and other markets, available services, freeway, intersection and major airport proximity as needed amenities whereas workers value education, low crime rates and proximity to shopping areas.

Presenting an empirical analysis of the determinants of pooled industrial warehouse rents, Buttimer, Rutherford and Witten (1997) note characteristics that positively influence rent per square foot as well as characteristics that are negatively related to rent per square foot. Using Dallas/Fort Worth data for 848 industrial properties from 1989:4 through 1992:4, they find positive and significant variables for the number of ground-level doors (a proxy for accessibility and building size) and the annual change in net employment. Ceiling height, percentage of office space, building age and a

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Exhibit 3

Determinants of Rent and Income for Industrial Real Estate

Author(s) Title Source Data, Location, Time Period Summary of Article

Sivitanidou and Sivitanides (1995)

Industrial Rent Differentials: The Case of Greater Los Angeles

Environment and Planning, 1995, 27:7, 1133–46

1990 industrial (production space) rents in Greater Los Angeles

Explores the relationship between location and industrial real estate rental rates within decentralized metropolitan areas. Indicates that amenities for both the firm and for workers can have significant effects on the rental rates achieved by industrial properties. Emphasizes the importance of access to raw materials and other markets on the rents received for a property and notes other variables including: services available, freeway proximity, nearest major intersection, proximity to a major airport, education within the area, crime rates, and proximity to shopping areas. Concludes that all property-specific variables are statistically significant. Explains the pricing pattern as a result of firm and worker preferences for amenities.

Bible and Hsieh (1996)

Warehouse Buildings and Geographic Information Systems

The Appraisal Journal, 1996, 64:4, 416–22

No empirical data Suggests using Geographic Information System (GIS) for estimating occupancy rates, producing maps to depict where buildings are clustered and showing locations of buildings with different occupancy rates. Posits that property characteristics in general are not important in determining warehouse occupancy rates.

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Exhibit 3 (continued)

Determinants of Demand for Industrial Real Estate

Author(s) Title Source Data, Location, Time Period Summary of Article

Chai (1997) Determinants of NOI for Warehouse Properties

Real Estate Finance, 14: 2, 48–54

Chicago, Dallas, LA, 1979–1996

Suggests that although net operating income (NOI) is often determined by forecasting rents and vacancy rates, this may not be the best way of determining NOI for warehouse properties. Indicates that while industrial property data are available, they may not be segmented by warehouse, manufacturing and R&D facilities. Indicates that NOI is determined by variables that can change from one market to another, thus it would be misleading to use a single model across various markets.

Buttimer, Rutherford and Witten (1997)

Industrial Warehouse Rent Determinants in the Dallas /Fort Worth Area

Journal of Real Estate Research, 13:1, 47–55

848 buildings (about 60%) in the industrial warehouse market in Dallas /Fort Worth, 1989– 1993

Uses a multivariate random effects model to examine the determinants of market rents for industrial warehouse space. Finds that characteristics relating positively to rental price per square foot include number of grade high doors and the annual change in net employment, and that characteristics relating negatively to the rental PSF include ceiling height, percentage of office space, building age and existence of a sprinkler system. Reports also that rent rates are impacted by location variables and general market conditions. Suggests that owning smaller, standardized structures would best suit landlords.

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Exhibit 3 (continued)

Determinants of Rent and Income for Industrial Real Estat

Author(s) Title Source Data, Location, Time Period Summary of Article

Reenstierna (1997)

Industrials: The Baseline Method

The Appraisal Journal, 65:3, 291–300

More than 500 one-story one-tenant industrial buildings in the Boston area from 1992–1995

Employs the baseline methodology to create a valuation model for single tenant industrial buildings. Method can be used in markets where location has a significant impact on the selling price of a property. Discusses using the baseline valuation model versus the traditional sales comparison method. Creates a GIS map that shows the change for a typical baseline building in different locations throughout the region studied.

Jones and Orr (1999)

Local Commercial and Industrial Renal Trends and Property Market Constraints

Urban Studies, 36:2, 223–37

Data are from local rental information since 1977 for a large number of urban centers in the U.K.

Evaluates the effect of market constraints on the long-term rental rate trends in the various sectors of the commercial and industrial real estate markets. Finds that the inelastic supply of retail units in town centers leads to the likelihood of long-term local retail rental premiums in growing centers; the large increase in demand for offices could create long-term local rental premiums; many of the influences on rents are the localized implications of long-term macroeconomic trends, especially the growth of services and the decline of manufacturing industries. Notes short-term or cyclical macroeconomic influences, which will influence output and sales via incomes. Concludes that office rents reflect local fixed effects, and that the effect of national economic variables is strong.

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Exhibit 3 (continued)

Determinants of Rent and Income for Industrial Real Estat

Author(s) Title Source Data, Location, Time Period Summary of Article

Mueller (1999) Real Estate Rental Growth Rates at Different Points in the Physical Market Cycle

Journal of Real Estate Research, 18:1, 131–50

Occupancy and rental growth rates, 1967–1997

Finds that national average rental growth rates vary significantly at different points in the physical market cycle (occupancy rates). Shows that local demand and supply are major determinants of rental growth rates.

Thompson and Tsolacos (1999)

Rent Adjustments and Forecasts in the Industrial Market

Journal of Real Estate Research, 17:1 /2, 151–67

Quarterly national industrial market of Great Britain taken quarterly from the of 1977 of 1997

Seeks to forecast industrial rent variations by utilizing the double-smoothing approach so that older data is given less weight in the model. Concludes that changes in GDP have an influence on industrial rental rates by virtue of increasing demand.

Thompson and Tsolacos (2000)

Projections in the Industrial Property Market Using a Simultaneous Equation System

Journal of Real Estate Research, 19:1 /2, 165–88

Data from the national industrial market in the U.K. from 1984–1998

Using a three-equation simultaneous system to model the industrial property market in U.K., suggests that real rents and construction costs in the industrial building supply are correlated. Suggests that simultaneous equations can be effective as an alternative method in analyzing industrial property markets, both at the local and aggregate market levels. Forecasts market growth and new industrial building supply from 1999-2003 providing a general scenario as well as a ‘Golden Scenario’ and a ‘Recession Scenario.’

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sprinkler system are inversely related to rent (these results seem counter intuitive, but may be data specific). Location variables and general market conditions also influence industrial property rent. Buttimer, et al., summarize their findings by supporting Ambrose’s (1990) results that property owners would be best served by owning smaller, standardized facilities given that the market appears to reward these types of properties with higher rent.

Chai (1997) confirms the finding that location and general market conditions influence income for industrial properties. This study cautions that since variations in rents and vacancy rates affect net operating income, a single model across various markets may not be the best way to estimate warehouse NOI. Variables that change from one market to another should be incorporated into forecasting. Local demand and supply, argues Mueller (1999), are major determinants of rental growth rates.

Thompson and Tsolacos (1999, 2000) suggest models for estimating industrial rents. Their earlier study uses rent indices to estimate changes in real rents, seeking to provide empirical evidence of determinant factors of industrial rent variations over time and to provide forecasts of future rents. Results indicate that changes in GDP have an influence on industrial rents due to increasing demand. Thompson and Tsolacos conclude in their 2000 study, also using data from the United Kingdom, that there are relationships for real rents and construction costs with industrial building supply. The belief that supply variables are more elastic for industrial properties than for retail spaces is addressed by Jones and Orr (1999) who confirm this hypothesis with empirical results from U.K. data.

The major findings from this section are:

� GIS technology may be useful along with conventional property variables in estimating warehouse occupancy.

� Variables relative to the firm that affect industrial rents are access to raw materials and other markets, available services, freeway, intersection and major airport proximity.

� Variables relevant to workers that affect industrial rents are education, crime rates and proximity to shopping.

� Variables that have a positive effect on industrial rents are the number of grade high doors and the change in net employment.

� Variables that have a negative effect on industrial rents are ceiling height, percentage of office space, building age and sprinkler systems.

� Supply variables are more elastic for industrial properties than for retail space.

� Changes in GDP have an effect on industrial rents due to increasing demand.

� Forecasting industrial property NOI needs to consider location and general market conditions that affect income.

� Local demand and supply are major determinants of rental growth rates.

THE ENVIRONMENT AND PERFORMANCE OF INDUSTRIAL REAL ESTATE 301

Return and Valuation Issues in Industrial Real Estate

Exhibit 4 provides a survey of the literature relating to return and valuation issues. Several of these studies look at the pros and cons of using traditional appraisal methods in valuing industrial properties.

In one of the first multivariate hedonic pricing studies for industrial real estate, Ambrose (1990) uses fifty-seven industrial property listings in the Atlanta, GA from 1986 to 1987. He finds that the market for industrial property is priced rationally based on property physical and locational characteristics. Between the market for industrial property listed for sale and property listed for lease, a clientele effect exists: industrial properties listed for sale are more than twice as large and have less finished office space than comparable properties listed for lease. Thus, participants in the industrial real estate market value property characteristics differently when they are purchasing from when they are leasing.

In an important series of papers using Dallas/Ft. Worth area industrial real estate data, Rutherford examines a number of issues associated with the pricing of industrial properties. Fehribach, Rutherford and Eakin (1993) estimate multivariate hedonic pricing models for industrial real estate sales price using physical, financial, locational and economic variables for each property. They show that a number of variables are significant in determining industrial real estate selling price. Ceiling height, office space, size of building, number of dock-high loading doors and single tenant occupant are positively related to sales price, while distance to airport and age are negatively related to sales price. These results differ slightly from Buttimer, Rutherford and Witten’s (1997) later hedonic rent per square foot study of the same market where they find negative relationships between rent and ceiling height and between rent and percentage of office space.

To examine the efficiency of the industrial real estate market, Atteberry and Rutherford (1993) develop a multivariate hedonic pricing model using 764 industrial property sales in the Dallas/Ft. Worth area from 1983 to 1991. They find a significant lag relationship between past and current industrial real estate prices and conclude that industrial real estate markets may be inefficient because current prices do not fully reflect past available information.

Local market factors, physical characteristics and location, according to Lockwood and Rutherford (1996), affect value. Using a factor-analytic linear structural relations model to test for the effects on industrial property value of various factors, they find that the log of sales price or value is related most strongly to local market factors, physical characteristics and location. National market interest rates, however, have little influence on the sales price of industrial properties.

After evaluating issues relevant to using the cost approach in appraising industrial properties, Treadwell (1988) suggests considering the actual costs. Such cost analysis would require distinguishing the cause and effect of such items as depreciation and functional obsolescence. While the cost approach may sometimes be the only tool

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Exhibit 4

Return/Valuation Issues in Industrial Real Estate

Author(s) Title Source Data, Location, Time Period Summary of Article

Treadwell (1988)

Intricacies of the Cost Approach in the Appraisal of Major Industrial Properties

The Appraisal Journal, 56:1, 70–9

No empirical data Suggests an approach to accurately apply the cost approach in the appraisal of conventional industrial properties and limited-purpose properties. Considers questions: ‘‘What are we finding the cost of?’’ and ‘‘At what point in time are we calculating the cost for?’’ and suggests distinguishing between various causes and effects of depreciation and functional obsolescence. Concludes that the cost approach may be the only tool available to appraisers for limited-purpose industrial properties, and warns that amounts for depreciation may be far greater than those normally used.

Ambrose (1990)

An Analysis of the Factors Affecting Light Industrial Property Valuation

Journal of Real Estate Research, 5:3, 355–70

Fifty-seven industrial property listings in the Atlanta, 1986–1987

Provides a seminal study of industrial property pricing using hedonic methodology and asking prices. Asking prices are highly correlated with selling prices (R2 � .99). Finds the market for industrial property is priced rationally and property physical and locational characteristics determine most of its value. Further finds that there is a clientele effect between the market for industrial property listed for sale and property listed for lease: industrial properties listed for sale are more than twice as large and have less finished office area than comparable properties listed for lease. Concludes that participants in the industrial real estate market value property characteristics differently when they are purchasing from when they are leasing.

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Exhibit 4 (continued)

Return/Valuation Issues in Industrial Real Estate

Author(s) Title Source Data, Location, Time Period Summary of Article

Zimmer (1991) Avoiding Traps When Using Sales Comparison to Value Storage and Distribution Facilities

The Appraisal Journal, 59:3, 390–94

Six comparable sales in 1990

Evaluates the appropriateness of using price per square foot when also using the sales comparison approach. Suggests this can lead to the over- or under-valuing of property especially when there are varied land-to- building ratios. Presents an alternative method for valuation to the sales comparison approach. Concludes that components of sales value should be isolated because properties have varying characteristics and land values, and thus their overall prices vary.

Atteberry and Rutherford (1993)

Industrial Real Estate Prices and Market Efficiency

Journal of Real Estate Research, 8:3, 377–85

764 industrial property sales in the Dallas /Ft. Worth area, 1983–1991

Focuses on the efficiency of the industrial real estate market. Estimates multivariate hedonic pricing models for industrial real estate sales price per square foot. Finds a significant lag relationship between past and current industrial real estate prices. Concludes that the industrial real estate market may be inefficient because current prices do not fully reflect past available information.

Fehribach, Rutherford, and Eakin (1993)

An Analysis of the Determinants of Industrial Property Valuation

Journal of Real Estate Research, 8:3, 365–76

170 industrial property sales in the Dallas /Ft. Worth area, 1987–1991

Estimates multivariate hedonic pricing models for industrial real estate sales price using physical, financial, locational and economic variables for each property. Finds a number of variables are significant in determining industrial real estate selling price: ceiling height (�), office space (�), size of building (�), number of dock-high doors (�), distance to airport (�), age (�) and type of tenant (single (�) vs. multiple (�)).

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Exhibit 4 (continued)

Return/Valuation Issues in Industrial Real Estate

Author(s) Title Source Data, Location, Time Period Summary of Article

Alvayay, Rutherford and Smith (1995)

Tax Rules and the Sale and Leaseback of Corporate Real Estate

Real Estate Economics, 23:2, 207–38

No empirical data, but examining the effect of sale and leaseback of corporate real estate on stock price, 1982–1989

Develops a theoretical model to examine the effects of tax law changes on sale and leaseback transactions. Explains tax effects and potential savings of sale and leaseback agreements. Examines the impact of the Tax Reform Act of 1986 on sale and leaseback transactions. Argues that sale and leaseback transactions positively impact the equity value of the firm.

Lockwood and Rutherford (1996)

Determinants of Industrial Property Value

Real Estate Economics, 24:2, 257–72

Sales of 308 industrial properties in the Dallas / Fort Worth area from 1987–1991

Employs a factor-analytic linear structural relations (LISREL) model to test for the effects on industrial property value of various factors including physical property, national market, local market, interest rate and location. LISREL lessens problems with multicollinearity. Finds that the log of sales price or value is related most strongly to physical characteristics and location factors. Concludes that national market factors and interest rates have little influence on the industrial sale prices.

Myer, Chaudhry and Webb (1997)

Stationarity and Co- Integration in Systems with Three National Real Estate Indices

Journal of Real Estate Research, 13:3, 369–81

Industrial, office, retail and aggregate properties for the U.S., Canada and the U.K, 1987–1992

Reports that commercial real estate returns show evidence of variables with drift and time trend (nonstationarity) components. Notes that apparently the long-run forecasts of U.S., Canadian and U.K. real estate indices (with the exception of industrial properties in nominal terms) do not diverge significantly. Concludes that the exchange rate-adjusted and real series are co-integrated, thus a common link may be explained by inflationary expectations.

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Exhibit 4 (continued)

Return/Valuation Issues in Industrial Real Estate

Author(s) Title Source Data, Location, Time Period Summary of Article

Ling (1998) The Fundamental Determinants of Commercial Real Estate Returns

Real Estate Finance, 14: 4, 13–24

Quarterly data from 1978–1994

Shows how to quantify the risk premium that investors receive in commercial real estate returns. Concludes that interest rate related variables have the most significant amount of risk. Finds that the risk associated with consumption is significant. Finds that unobservable variables and investor preferences are important determinants in real estate returns.

McGrath (2000) Urban Industrial Land Redevelopment and Contamination Risk

Journal of Urban Economics, 47:3, 414–42.

Chicago industrial land development and contamination risk and demolition costs

Concludes that contamination liability may be considered a land demolition cost and capitalized into the bid price of industrial properties, thus providing a way to incorporate contamination risk into land values.

Young (2000) REIT Property-Type Sector Integration

Journal of Real Estate Research, 19:1 /2, 3–21

Monthly total returns and capitalization rates of apartment, industrial, office and retail REITs 1989–1998

Reports that various property types in equity REITs are becoming more integrated. Examines pairs of equity REITs containing mostly apartment, industrial, office and retail properties for correlations over rolling sixty- month returns. Concludes that property- specific REITs show a similar trend over rolling sixty-month return correlations.

Thompson and Tsolacos (2001)

Industrial Land Values-A Guide to Future Markets?

The Journal of Real Estate Research, 21:1 /2, 55–76

Quarterly data from six markets in the U.K., 1987–1999

Provides empirical evidence from the U.K. that industrial property prices are linked to other economic occurrences. Presents several methods that can be used to measure land value. Concludes that industrial land values have an effect on industrial property prices, but the effect is not always constant.

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Exhibit 4 (continued)

Return/Valuation Issues in Industrial Real Estate

Author(s) Title Source Data, Location, Time Period Summary of Article

Derbes (2002) Non-Comparable Industrial Sales

The Appraisal Journal, 70:1, 39–45

No empirical data Posits that the lack of bona fide comparable market transactions prevents the sales comparison approach from being a viable approach to appraising special- and single- purpose properties. Argues that, to accurately use the sales comparison approach in industrial properties, the sale properties should have the same highest and best use.

Ellsworth (2002)

Industrial Facility Valuation: Electric Generating Projects

The Appraisal Journal, 70:1, 34–8

No empirical data Suggests that valuations of industrial facilities such as electric generating facilities should compare more than price per kilowatt of generating capacity. Competitive and economic environment should be examined.

He (2002) Excess Returns of Industrial Stocks and the Real Estate Factor

Southern Economic Journal, 68:3, 632–45

Stock Market returns, U.S. and corporate bonds, treasury bills, new house price index and S&P Industrial Stock Index, 1963–1997

Examines major risk factors in pricing industrial stocks, and estimates various explanatory models. Shows that the real estate factor plays a significant role in explaining excess returns on industrial stocks. Concludes that when examining subperiods, results indicate that the real estate effects are stable and second only to the overall stock market effects.

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available for appraisers, its calculations may often use amounts for depreciation that are in excess of the amounts normally included.

Additionally, Zimmer (1991) warns of traps when using the sales comparison approach to value certain industrial properties. This study suggests that components of sales value should be isolated because properties have varying characteristics and land values, and that their respective prices vary accordingly. The lack of true comparable market transactions, Derbes (2002) notes, prevents the sales comparison approach from being a viable technique to valuing special and single-purpose industrial properties.

Alvayay, Rutherford and Smith (1995) focus on the impact of the Tax Reform Act of 1986 on sale and leaseback transactions. They argue that sale and leaseback transactions positively impact the equity value of the firm.

Thompson and Tsolacos (2001) later show that industrial land prices have an effect on local rental rates and that appraisers may use land values as an indicator of future rental rates. Valuing specific industrial properties containing electric generating facilities is addressed by Ellsworth (2002) who argues that valuations of these special properties should address factors related to the competitive and economic environment within which the property operates rather than just addressing price per kilowatt of generating capacity.

There is a significant co-variation between the overall stock market and the real estate market. Young (2000) finds significant integration of returns of various types of equity REITs. In examining excess returns of industrial stocks, He (2002) finds that the real estate factor plays an important role in explaining excess returns of industrial stocks.

Ling (1998) examines non-diversifiable or systematic risk through a multifactor asset pricing model and seeks to identify the most important macroeconomic drivers that affect real estate returns. Results suggest that the largest risk premiums in commercial real estate returns are associated with interest rate-related variables and with consumption. Myer, Chaudhry and Webb (1997) also use macroeconomic factors to examine the long-run forecasts of U.S., U.K. and Canadian industrial real estate data. They find that industrial property variables have drift and time trend components. McGrath (2000) focuses on contamination risk and finds that contamination liability may be considered a land demolition cost and factored into the bid price of industrial properties, thus directly affecting land values.

The major findings concerning the return and valuation of industrial real estate are:

� There is a clientele effect in light industrial properties so that properties for sale tend to be larger and to have less office space than properties for lease.

� A number of variables are significant in determining industrial real estate selling price including ceiling height, office space, size of building,

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loading door height, distance to airport and type of tenant (single vs. multiple).

� Local market factors, physical characteristics and location affect industrial property value.

� In using the cost approach in appraisal, accurate cost analysis requires distinguishing cause and effect of items such as depreciation and functional obsolescence.

� When using the sales comparison approach, components of sales value should be isolated because properties have varying characteristics and different land values.

� Valuation of special purpose industrial properties should address factors related to the competitive and economic environment.

� The largest risk premiums in commercial real estate returns are associated with interest rate-related variables and with consumption.

� Industrial property returns appear to have nonstationarity.

� The industrial real estate market may be inefficient with regards to incorporating past information.

Environmental Concerns in Industrial Real Estate?

Articles that have looked at the impact of environmental issues on industrial real estate (reviewed in Exhibit 5) include studies of landfills, past contamination, clean-up risk and regulation. In an examination of 153 industrial land transactions in Phoenix, Arizona, for the years 1984 to 1994, Guntermann (1995) focuses on nineteen properties located near fourteen landfills. He finds that industrial land prices around open, solid waste landfills are reduced by the presence of the landfill and its inherent stigma, but for a closed solid waste landfill or a refuse landfill, there is no reduction in the sales price. Conklin (1996) provides a checklist to help property owners identify and eliminate illegal dumping. Piatkowski (1997) suggests methods of evaluating, negotiating and alleviating environmental problems through environmental Risk Assessment Surveys (ERAS).

In several studies, Jackson (2001a, 2001b, 2001c, and 2002) presents empirical and survey evidence on how prices of industrial properties are affected by the presence of past contamination. Using paired sales and hedonic regression analyses, Jackson (2001a) makes a comparison of improved industrial sites that were once contaminated to similar noncontaminated sites to determine the effect of contamination on price. He concludes that the sales prices of previously contaminated properties are not affected by the prior presence of environmental problems.

In his literature review, Jackson (2001b) centers on the effects of environmental contamination on real estate prices and values, but concludes that most of the studies show an adverse impact on the sales price and on the value of non-remediated industrial and commercial real estate. The effects include reduced sale prices, reduced transaction rates and increased incidence of seller financing. No-further-action letters

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Environmental Concerns in Industrial Real Estate

Author(s) Title Source Data, Location, Time Period Summary of Article

Guntermann (1995)

Sanitary Landfills, Stigma, and Industrial Land Values

Journal of Real Estate Research, 10:5, 531–42

Data on 19 sales around 12 landfills and 153 total industrial property transactions in Phoenix, Arizona, 1984–1994

Focuses on open and closed solid waste landfills that contain various non-hazardous materials and examines the effect on the surrounding land prices. Shows that industrial land values around open, solid waste landfills are reduced by the presence of the landfill, but for a closed solid waste landfill or a refuse landfill, there is no reduction in sales price.

Boyd, Harrington and Macauley (1996)

The Effects of Environmental Liability on Industrial Real Estate Development

Journal of Real Estate Finance and Economics, 12:1, 37–58

No empirical data Evaluates the effects of current liability regulations with respect to property transactions involving environmental contamination concerns. Suggests that market inefficiencies are more related to asymmetrical information and insufficient detection methods than to legal uncertainty. Proposes that pollution in itself does not make property transactions inefficient because the price asked for polluted, or formerly polluted property, should be discounted to account for potential cleanup costs.

Conklin (1996) Operation Dump-And- Run

Journal of Property Management, 61:1, 30–3

No empirical data Provides a checklist for better identifying and eliminating illegal dumping which is becoming a great problem for industrial property owners.

Piatkowski (1997)

Beyond Compliance: Environmental Risk Assessments at Industrial Properties

Journal of Property Management, 62:2, 72–5

No empirical data Highlights common environmental exposures of industrial properties, discusses various responsible parties including tenants and neighboring property owners, and suggests methods of negotiating and alleviating environmental problems through Environmental Risk Assessment Surveys (ERAS).

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Exhibit 5 (continued)

Environmental Concerns in Industrial Real Estate

Author(s) Title Source Data, Location, Time Period Summary of Article

Powell (1997) Preemption of Local Zoning Ordinances Under Federal hazardous Waste Laws

Real Estate Law Journal, 26:1, 101–05

No empirical data Examines the conflict between state and federal environmental law and outlines the circumstances where federal law will preempt state action.

Jackson (2001a)

The Effect of Previous Environmental Contamination of Industrial Real Estate Prices

The Appraisal Journal, 69:2, 200–10

Data for the paired sales analysis include 8 properties from southern California area, while data for the hedonic analysis contains 13 contaminated properties and 122 total sales from Los Angeles, San Diego, and Orange Counties during 1998 and 1999

Examines by paired sales and hedonic pricing analyses how the prices of industrial properties are affected by the presence of past contamination problems. Concludes that properties and prices are not affected by the prior presence of the environmental conditions.

Jackson (2001b)

The Effects of Environmental Contamination on Real Estate: A Literature Review

Journal of Real Estate Literature, 9:2, 91–116

Provides a literature review on the effects of environmental contamination on real estate including industrial properties

Shows that all the studies on the effects of contamination of commercial and industrial real estate sale prices and values find significant adverse impact. Includes reduced sale prices, reduced transaction rates and increased dependence on seller financing as effects of contamination. Finds that no-further- action letters from regulators do not increase property marketability. Finds that prices of properties near closed landfills are not affected while properties near active landfills are adversely affected. Finds that groundwater contamination adversely affects industrial properties.

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Environmental Concerns in Industrial Real Estate

Author(s) Title Source Data, Location, Time Period Summary of Article

Jackson (2001c)

Environmental Risk Perceptions of Commercial and Industrial Real Estate Lenders

Journal of Real Estate Research, 22:3, 271–88

Survey responses from 238 out of 453 (52.5%) national industrial and commercial mortgage lenders during late 1999

Examines the risk perceptions of mortgage lenders concerning environmentally contaminated industrial and other commercial properties. Finds that perceived lending risk changes before, during and after cleanup. Reports that over 90% of mortgage lenders will not make a loan before cleanup and without an approved remediation plan, but over 60% would lend at normal market rates after cleanup.

Jackson (2002) Environmental Contamination and Industrial Real Estate Prices

Journal of Real Estate, 23:1 /2, 180–99

Data on 140 industrial property sales from Southern California from 1995 to 1999

Estimates using hedonic pricing analysis the impact of environmental contamination on industrial real estate sales prices. Finds statistically significant impacts on industrial real estate sales prices before and during remediation, but not afterward.

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from regulatory authorities do not increase property marketability. Groundwater contamination and location near active landfills adversely affect industrial property values, but properties located near closed landfills are not affected.

Both loan risk and real estate prices according to the time schedule for contamination cleanup. Using survey responses from 238 out of 453 (52.5%) national industrial and commercial mortgage lenders during late 1999, Jackson (2001c) finds perceived lending risk changes before, during and after cleanup. He reports that over 90% of mortgage lenders will not make a loan before cleanup and without an approved remediation plan, but over 60% would lend at normal market rates after cleanup. In recently published study, Jackson (2002) uses 140 Southern Californian industrial property sales from 1995 to 1999 in a hedonic pricing model to estimate the impact of environmental contamination on industrial real estate sale prices. The author finds statistically significant negative impacts on industrial real estate sales prices before and during remediation, but not afterwards.

Some of research on environmental concerns addresses regulation and compliance. Boyd, Harrington and Macauley (1996) examine the effects and implications of the 1980 Comprehensive Environmental Response, Compensation and Liability Act (CERCLA) and discuss the effects of asymmetrical information on property transactions. The authors suggest that market inefficiencies are more related to asymmetrical information and insufficient detection methods than to legal uncertainty. They suggest potential legal reforms that may make these property transactions more efficient. Powell (1997) discusses how state and federal environmental laws often conflict and outlines scenarios in which federal law preempts state regulation.

The major findings about environmental concerns are:

� Landfills sell for much less than other industrial sites.

� Property prices are not affected by past contamination for closed landfills, but unremediated contamination has an adverse impact on industrial property values by reducing sale prices and transaction rates, and by increasing the incidence of seller financing.

� Property prices near closed landfills are not adversely affected while prices of properties near active landfills are negatively affected.

� Groundwater contamination adversely affects industrial property values.

� Market inefficiencies in industrial property valuation are more related to asymmetrical information rather than to legal uncertainty.

� State and federal environmental laws often conflict, and federal law often preempts state regulation.

The International Perspective of Industrial Real Estate

Much of the literature in international industrial real estate research relates to issues involving foreign investor choice, industrial property rights and the influence of a

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country’s laws regarding industrial development or clustering. Exhibit 6 provides an overview of the studies addressing international industrial real estate issues.

International legislative and regulatory issues are addressed in several studies. Bumbak (1984) argues that property rights, such as patents and trademarks, need to be more clearly defined and regulated by the European Court. Larger issues such as Non-tariff Barriers (NTBs) are examined in some U.S. manufacturing industries in a study by Busch and Reinhardt (1999). They suggest that geographically concentrated but politically dispersed industries are most likely to receive relief from imports, but that large industries benefit from being politically concentrated. Further, Ietto-Gillies (2000) proposes that countries be defined by the regulatory regimes to which they adhere. Also, this study explores the role of multinational firms in the location of economic activity and in the geographical concentration of productivity. Comparing the location of companies under several political regimes, Martin and Rogers (1995) determine that tenants will likely seek a location with the best possible infrastructure, highest per capital income and the largest market. They conclude that governments can use infrastructure to attract industries.

Many other divergent topics in international industrial real estate exist. Examining the wealth effect of international versus domestic real estate joint ventures, He, Myer and Webb (1997) find that international real estate joint ventures have smaller wealth effects compared to domestic ventures. Ford, Fung and Gerlowski (1998) look at factors that influence foreign investor choice in types of U.S. real estate and find that foreigners investing in industrial real estate are most influenced by changes in capitalization rates, market activity and current rent levels. In an earlier study of foreign investments in the U.S. (mostly Japanese), Porter (1986) predicted that federal aid and the economic base of some industrial cities would decline with increasing foreign competition, specifically in the steel and automobile manufacturing sectors.

Several studies deal with city size and industrial diversification. Begovic (1992), using data from Yugoslavia, examines the relationship between industrial diversification and city size. He concludes that there is a significant relationship between these two factors in Yugoslavia but there is no significant relationship between industrial share and city size. He argues that this is partially due to transportation and tourism development being based on spatial distribution rather than city size. Porter (2000) notes the role of clustering, the geographic concentration of related firms in a country’s economy, as an influence on an industry’s productivity, innovation, new business formation, competition, government support and overall economic policy. Waits (2000) reviews the influence of clusters and finds that clusters of global firms in similar industries are vital to the economic development of a global economy. He further notes that clusters of industries rather than individual firms or industries are a significant source of jobs, income and export growth. In examining a specific industry, Imrie (1989) provides a case scenario of industrial restructuring in the British pottery industry, focusing on the employment and geographic impact of economic change in this sector.

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Exhibit 6

International Perspective of Industrial Real Estate

Author(s) Title Source Data, Location, Time Period Summary of Article

Bumbak (1984) Industrial Property Rights and the Free Movement of Goods in the European Communities

Case Western Reserve Journal of International Law, 16:3, 381– 436

No Empirical Data Examines the European Court’s interpretation of article 36, which relates to most all forms of industrial property rights, including patents, trademarks, copyrights, performance rights and industrial designs. Argues that given the uneven nature of decisional law and the pace of technological change, there is a need for European Community wide legislation regulating intellectual property.

Porter (1986) America’s Industrial Cities: Jolted but Resilient

Annals, AAPSS, 488, 77–84

No Empirical Data Predicts that federal aid and the economic base of many industrial cities, especially the steel and automobile manufacturing, will decline with the increasing foreign competition. Suggests that because their human and physical resources are greater than their capacity, industrial cities have an opportunity to become stronger than they were prior to increased foreign competition.

Imrie (1989) Industrial Restructuring, Labour, and Locality: The Case of the British Pottery Industry

Environment and Planning, 21, 3–26

British Pottery Industry, 1975–1986

Provides a case study of industrial restructuring in the pottery industry. Examines the background to crisis and restructuring in this industry as well as the employment and geographical effects of economic change in this industry.

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International Perspective of Industrial Real Estate

Author(s) Title Source Data, Location, Time Period Summary of Article

Begovic (1992) Industrial Diversification and City Size: The Case of Yugoslavia

Urban Studies, 29:1, 77– 88

Census and employment data for sixty-eight Yugoslavia cities, 1981

Examines the industrial diversification-city size relationship. Shows results supporting the hypothesis (agglomeration economics theory) that a statistically significant relationship exists between city size and industrial diversification or industrial share. Finds a significant relationship between industrial diversification and size of cities in Yugoslavia. Finds no statistically significant relationship between industrial share and city size, possibly due to the fact that the development of the transportation and tourism and leisure industries is based on factors whose spatial distribution is unrelated to city size. Concludes that city size variation may explain only a small part of industrial diversification /share.

Martin and Rogers (1995)

Industrial Location and Public Infrastructure

Journal of International Economics, 39:3–4, 335– 51

No empirical data Compares the locations of companies under several political regimes and notes that some countries impose rules that restrict or forbid plant closures. Determines that the incentives to inhibit firms’ relocation will be more prevalent in areas with strong economies of scale and where the infrastructures of the current and target countries are advanced. Suggests that tenants will likely seek a location that is in a market with the best possible infrastructure, highest per capital income and largest market. Provides a model to predict the effect an infrastructure change will have on the location tendencies of industrial tenants. Concludes that with the model presented, governments can evaluate policies and use public infrastructure to attract industries from other areas.

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Exhibit 6 (continued)

International Perspective of Industrial Real Estate

Author(s) Title Source Data, Location, Time Period Summary of Article

He, Myer and Webb (1997)

The Wealth Effects of Domestic vs. International Joint Ventures: The Case of Real Estate

Journal of Real Estate Research, 13:3, 349–58

Real estate joint ventures, with hotels 1975–1990

Examines the wealth effect of international versus domestic real estate joint ventures. Finds domestic real estate joint ventures incur a significant increase in value but international real estate joint ventures have a much smaller wealth effect. Finds hotel joint ventures to have a weaker wealth effect than non-hotel real estate joint ventures.

Ford, Fung and Gerlowski (1998)

Factors Affecting Foreign Investor Choice in Types of U.S. Real Estate

Journal of Real Estate Research, 1998, 16:1, 99– 111

Apartment, office, retail and industrial investment transactions from 1980–1991

Reports that foreign investor choice of industrial real estate (as well as apartment, office and retail properties) is most sensitive to changes in capitalization rates, market activity and current rent levels.

Busch and Reinhardt (1999)

Industrial Location and Protection: The Political and Economic Geography of U.S. Non- tariff Barriers

American Journal of Political Science, 43:4, 1028–50

Non-tariff Barriers (NTBs) in 363 U.S. Manufacturing Industries, 1990

Considers correction for inherent problems with endogenous protection research, such as erroneously using geographic concentration as a proxy for political concentration, and finds that geographically concentrated but politically dispersed industries are most likely to receive relief from imports, but very large industries benefit from being politically concentrated. Reports results that show a way to reconcile differing hypotheses via endogenous protection theory.

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International Perspective of Industrial Real Estate

Author(s) Title Source Data, Location, Time Period Summary of Article

Ietto-Gillies (2000)

What Role for Multinational in the New Theories of International Trade and Location?

International Review of Applied Economics, 14:4, 413–26

Various data sources from the 1990s

Explores multinational corporations’ role in the location of economic activity and in the geographical concentration of production. Proposes that nations can be defined by the regulatory regimes they encompass and that more qualitative features should be considered in theories of multinational production and location. States that the implications of operating between various regulatory regimes will affect the pattern of location as well as concentration of activity.

Porter (2000) Location, Competition, and Economic Development: Local Clusters in a Global Economy

Economic Development Quarterly, 14:1, 15–34

No empirical data Discusses the role of clustering (geographic concentrations of interconnected companies) in metropolitan, state, regional and national economies. Notes how clustering influences an industry’s productivity, innovation, new business formation, competition, government support and overall economic policy.

Waits (2000) The Added Value of the Industry Cluster Approach to Economic Analysis, Strategy Development, and Service Delivery

Economic Development Quarterly, 14:1, 35–50

No empirical data Case study

Reviews the influence of cluster-focused economic analysis and strategy development. Finds the clusters of world-class firms in related industries are the most important economic development customers in the global economy. Suggests that clusters of industries rather than individual firms or industries, are the source of jobs, income and export growth.

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Management and Financing Concerns in Industrial Real Estate

Author(s) Title Source Data, Location, Time Period Summary of Article

Simons (1994) Industrial Real Estate Mortgage Default Experience of the New York State Job Development Authority Second Loan Program: A Preliminary Investigation

Journal of the American Real Estate and Urban Economics Association, 22:4, 631–46

New York State Job Development Authority data 1962–1988

Explores the loan default history experienced by an industrial lending company. Concludes that firm bankruptcy and negative net equity have a strong correlation to loan defaults among the properties studied. Concludes that restructuring within companies is typically unsuccessful as the median survival time after such activity is about one year.

Klein (1999) Monitoring Industrial Tenants

Journal of Property Management, 64:4, 76– 80

No empirical data Addresses issues relating to the ongoing monitoring and management of industrial properties. Argues that the importance of this research arises from the financial liability that management can face with regard to code and ordinance violations by their tenants. Suggests that more time is needed to evaluate the safety of hazardous waste management with increased environmental concerns from the government and community. Gives various measures management can take to become a more effective and safe property manager.

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The major findings for industrial real estate from an international perspective are:

� Property rights such as industrial designs need to be more clearly defined and regulated in Europe.

� Geographically concentrated but politically dispersed industries are most likely to receive relief from imports, but large industries benefit from being politically concentrated.

� Governments can use infrastructure to attract industries and tenants will likely seek a location with the best possible infrastructure, highest per capita income and the largest market.

� International real estate joint ventures have a smaller wealth effect than domestic real estate joint ventures.

� Foreigners investing in industrial real estate are most influenced by changes in capitalization rates, market activity and current rent levels.

� There is a significant relationship between diversification and city size in Yugoslavia but there is not significant relationship between industrial share and city size.

� Geographical clustering influences an industry’s productivity, innovation, new business formation, competition, government support and overall economic policy.

Management and Financing Concerns in Industrial Real Estate A final category of the literature examines the management and financing concerns in industrial real estate. This research is presented in Exhibit 7. Examining borrower net equity in industrial real estate mortgage default in New York, Simons (1994) finds a strong negative relationship between net equity and default, with the greatest probability of default being when net equity is negative. Examining general industrial property management issues and the financial liability that management can face if code and ordinance rules are violated, Klein (1999) notes several measures that management can take to become more effective and safe property managers.

The major findings from this section are:

� In industrial real estate mortgage default, there is a negative relationship between net equity and default with default probability being greatest when net equity is negative.

� Management should be careful to minimize the financial liability that it can face with regard to code and ordinance violations by tenants.

Summary and Conclusions Industrial real estate research is receiving increased academic attention. The goal of this study has been to survey the empirical, theoretical and descriptive literatures concerning industrial real estate by examining over seventy recent studies and

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addressing seven questions: (1) What are the characteristics of the industrial real estate market (i.e., property characteristics)? (2) What are the determinants of demand for industrial real estate (i.e., demand determinants)? (3) What are the determinants of rent and income for industrial real estate (i.e., rent and income determinants)? (4) What are the return and valuation issues in industrial real estate (i.e., return and valuation issues)? (5) What are the environmental concerns in industrial real estate (i.e., environmental issues)? (6) What is the international perspective of industrial real estate (i.e., international issues)? and (7) What are the management and financing concerns in industrial real estate (i.e., management and financing issues)?

Some major findings are: (1) industrial properties tend to be segmented (e.g., manufacturing and distribution) and clustered; (2) design and capacity are important and properties must be flexible; (3) demand tends to be greatest for smaller properties (25,000 square feet or less); (4) enhanced technology has reduced the demand for warehouse space; (5) industrial firms are concerned with access to raw materials, freeway access and airport access; (6) some factors that affect industrial rents include changes in employment, age and percentage of office space; (7) industrial land values may serve as a good indicator of future rental rates; (8) local market factors, physical characteristics and location affect industrial property values; (9) contamination has an adverse effect on property values and lenders’ willingness to finance; (10) foreigners investing in industrial real estate are concerned with capitalization rates, current rents and market activity; and (11) there is a negative relationship between net equity and default in industrial mortgage loan default.

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Simons, R. A, Industrial Real Estate Mortgage Default Experience of the New York State Job Development Authority Second Loan Program: A Preliminary Investigation, Journal of the American Real Estate and Urban Economics Association, 1994, 22:4, 631–46. Sivitanidou, R. and P. Sivitanides, Industrial Rent Differentials: The Case of Greater Los Angeles, Environment and Planning, 1995, 27:7, 1133–46. Thompson, R., Industrial Employment Densities, Journal of Real Estate Research, 1997, 14:3, 309–19. Thompson, B. and S. Tsolacos, Rent Adjustments and Forecasts in the Industrial Market, Journal of Real Estate Research, 1999, 17:1/2, 151–67. ——., Projections in the Industrial Property Market Using a Simultaneous Equation System, Journal of Real Estate Research, 2000, 19:1/2, 165–88. ——., Industrial Land Values: A Guide to Future Markets?, Journal of Real Estate Research, 2001, 21:1/2, 55–76. Treadwell, D. H., Intricacies of the Cost Approach in the Appraisal of Major Industrial Properties, The Appraisal Journal, 1988, 56:1, 70–79. Venables, A. J., Localization of Industry and Trade Performance, Oxford Review of Economic Policy, 1996, 12:3, 52–60. Waits, M. J., The Added Value of the Industry Cluster Approach to Economic Analysis, Strategy Development, and Service Delivery, Economic Development Quarterly, 2000, 14:1, 35–50. Wheaton, W. C. and R. G. Torto, 1990, An Investment Model of the Demand and Supply for Industrial Real Estate, American Real Estate and Urban Economics Association Journal, 1990, 18:4, 530–47. Wheaton, W. C., A Perspective on Telecommunications Technology and Real Estate: Office, Industrial, and Retail Markets, Real Estate Finance, 1996, 13:2, 13–17. Young, M. S., REIT Property - type Sector Integration, Journal of Real Estate Research, 2000, 19:1/2, 3–21. Zimmer, D. W., Avoiding Traps When Using Sales Comparison to Value Storage and Distribution Facilities, The Appraisal Journal, 1991, 59:3, 390–94.

The authors thank Brent Ambrose and John McDonald for their helpful comments and suggestions.

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