CITY HIGHLIGHT, MARCH 2010

INDIANAPOLIS CITY HIGHLIGHTS
Josh Caruana, John Crisp, Albert Donato III

Indianapolis Multifamily Market

While the effects of the recession on the Indianapolis apartment market are expected to linger into the first half of 2010, renter demand will strengthen later in the year, leading to an improvement in vacancy. Healthy population growth, softening supply-side pressure and a comparatively quick recovery in the local labor market will be catalysts for a rebound in renter demand. Conditions are expected to be strongest in the Boone/Hendricks submarket; several growing industrial parks in Avon and along Interstate 65 will sustain a solid pool of renters, while population gains during the next 5 years are anticipated to be some of the most substantial in the metro. Absorption also will remain above-average in the East and Southeast submarkets, where low rents are attracting tenants. In addition, minimal construction activity in these close-in eastern areas should keep vacancy rates below the metro average in the near term.

Looking at market fundamentals in Indianapolis, healthy employment growth and minimal additions will spur demand for multifamily assets. Driven by gains in the professional and business services and government sectors, employers in Indianapolis are expected to add 9,000 jobs this year, increasing payrolls by 1 percent.

Following the completion of nearly 1,460 apartment units last year, deliveries are projected to ease to 370 units in 2010. Vacancy is forecast to reach 9.2 percent this year, 20 basis points lower than in 2009, when the rate jumped 170 basis points. Asking rents are projected to end 2010 at $637 per month, while effective rents will reach $593 per month, annual declines of 1.8 percent and 2.5 percent, respectively.

Elevated cap rates will maintain out-of-state investor interest in the Indianapolis apartment market this year. First-year yields are forecast to rise into the mid-9 percent range by mid-2010 and will likely remain relatively stable through the end of the year. Local buyers face numerous hurdles, including tight credit and strict access to Fannie Mae and Freddie Mac funding, as Indiana is a first-review state for the lenders. Indianapolis-based buyers who remain active are expected to follow divergent strategies. Some will focus on older-vintage assets near the downtown area, where the job market is stable and the renter pool is composed primarily of young professionals and students. Other local investors will seek newer complexes in outlying areas; many of these properties were purchased during the price run-up and now face financial hurdles amid weakened conditions, making them more susceptible to considerable discounting this year. Regional buyers, meanwhile, will likely target stabilized Class A assets across the metro in a flight to safety.

Buyers with extended hold strategies may find opportunities in the southern portion of the metro. The completion of work on the new Interstate 69 will draw employers to the Southwest/Johnson County submarket in the coming years, generating renter demand.

— Josh Caruana is the regional manager of the Indianapolis office of Marcus & Millichap.

Indianapolis Office Market

Real estate generally lags economic bad and good times and 2009 reflected this trend. The troubled economy played a major role in the reversal of fortunes for the Indianapolis office market last year. Office vacancies climbed. Absorption dipped. Rental rates declined. Concessions became de rigueur. And development sputtered throughout the Indianapolis office sector.

For starters, employment remained weak, with only healthcare and education showing any signs of life. Still, Indianapolis fared much better than its peer cities, with unemployment hovering in the low 8 percent range, well below the national average of 10 percent at year-end.

But employers cut back. Overall vacancy in the Indianapolis area increased 2.6 percentage points by year-end to 20.6 percent, with 6.6 million square feet available at the close of 2009. Office vacancies increased from 14.7 percent in 2008 to 18.3 percent in the central business district (CBD) during 2009, while the suburban markets saw vacancy climb from 20.2 percent to 22.4 percent during the course of the year.

New leasing activity was sparse. Instead, landlords depended on renewals and expansions in the battle for tenants.

Consequently, absorption posted its first negative number in 7 years. The Indianapolis multi-tenant office market experienced a net loss of 418,000 square feet of occupied office space in 2009. This was proportionately split between the CBD (negative 108,000 square feet) and the eight suburban submarkets (negative 310,000 square feet). Three of the suburban submarkets posted positive absorption, albeit small, led by Fishers which had 44,000 square feet of net occupied space last year.

Perhaps one of the most telling signs of the economy’s weight on employment and the financial system’s stranglehold on credit was the near disappearance of development. Only two multi-tenant office buildings entered the market last year, adding 154,000 square feet of Class A space. That was the low-water mark in Indianapolis for the entire decade and well below the 855,000 square feet completed in 2008.

The largest addition was Edgeworth Laskey’s One Concourse in the Fisher’s submarket. The 110,000-square-foot Class A building in the Concourse at Crosspoint Business Center entered 2010 with 25 percent of its space leased. In Greenwood, Alderson Commercial Group completed its 44,000 square foot Signature Building. While it has fared better than One Concourse, roughly 25 percent of its space was still in need of tenants.

Rental rates have declined and concessions have become more prominent as the office market struggles with vacancies, sublease space and unused shadow space. Landlords have become quite aggressive to retain and attract tenants. It’s not unusual to receive generous incentives such as a month’s free rent for each lease year and larger budgets for tenant finishes.

Moving forward, these forces are placing pressure on building owners and developers. The downward pressure on net rental rates have declined to levels below existing mortgage obligations for some building owners. As equity positions remain precarious, especially since valuations continue to be problematic, many owners face difficulty in refinancing. Devaluation remains a major challenge as debt matures. Where this shakes out remains to be seen but this will no doubt continue to adversely impact the market this year. We fully expect to see the level of distressed assets to increase this year.

As for development, there are more than 20 buildings and a million square feet on the drawing board. Most of these projects will remain on those boards for a few years. Any speculative development will require a dramatic improvement in financing fundamentals, more available credit, substantial pre-leasing and an uptick in demand for office space.

While 2010 may be a better year in the office sector than 2009; it may be a case of it could not get any worse. Most economists believe the market will bounce along the bottom, with slow job growth. Muted demand for office space will hasten the office sector’s recovery.

Indianapolis still has a positive story to tell and sell. Tenants can find a selection of high quality inventory and benefit from the area’s overall low cost of doing business, excellent infrastructure and skilled workforce.

— John Crisp is a principal and vice president in Cassidy Turley’s Indianapolis regional office. 

Indianapolis Industrial Market

The Indianapolis industrial market is home to what is nationally called the Crossroads of America. The total market is comprised of 282.5 million square feet in 5,556 buildings as of the end of the fourth quarter of 2009. Broken down, the flex market consists of 23.4 million square feet in 849 facilities and the warehouse market consists of 259.1 million square feet in 4,707 facilities. There are 985 owner-occupied buildings that account for 60.2 million square feet or 21.3 percent of the total market.

In 2009 the industrial market in total had a negative absorption of 828,657 square feet. The warehouse segment lead the way throughout the year with a 1.14 million-square-foot decline in total absorption and the flex market actually had positive absorption of 309,530 for the year. In looking at 2009, overall absorption statistics show that the market had a positive absorption of 2.06 million square feet in the first quarter; a decline of 377,872 square feet in the second quarter; a decrease of 1.89 million square feet in the third quarter; and a drop of 625,613 square feet in the fourth quarter.

Tenants moving out of large blocks of space in 2009 included Metaldyne emptying 982,640 square feet and Phoenix Material Management vacating 220,500 square feet. Tenants moving in to large blocks of space in 2009 included LaCrosse Footwear’s 380,000-square-foot addition, 364,000 square feet for Accuride and Siemens 320,000-square-foot move. In addition, two of the largest lease renewals signed in 2009 included Whirlpool’s 424,828 square feet at Opus VI-VII and Ditan Distribution’s 381,493 square feet at 909 Whitaker Road; both properties are located in the Southwest County submarket in Plainfield.

At the end of the first quarter of 2009 the vacancy rate for the overall Indianapolis industrial market was still quite respectful at 7.8 percent. However, the second quarter saw the vacancy rate began to increase significantly to 8.3 percent, by the end of the third quarter it hit 9.2 percent with a climb to 9.5 percent overall at year-end.

Some of the notable construction deliveries in 2009 included 600,000 square feet at 415 S. Mt Zion Road and Allpoints Midwest’s 533,520-square-foot Building 2. Total delivery of space for 2009 was 2.56 million square feet. In talking with many developers, they are ready to go for any build-to-suit customers; however, the speculative market is shut down for the time being. There is one construction project under way at the moment with delivery to be in the second quarter this year—Medco Health Solutions at the Browning Investments/Duke Realty joint-venture at Anson Park at the Allpoints Midwest located in the Northwest quadrant of Indianapolis near Interstate 65 and State Route 267 in Boone County.

The overall industrial market rental rate was $4.36 per square foot for the year-end 2009. The average flex market was $9.16 per square foot and the average warehouse market was $4.08 per square foot at the year-end.

What does all this mean for 2010?

Unless the capital markets open up and allow the small business owner flexibility; the market will continue to see small business owners close their doors. This will increase the sublease and direct vacancy markets. The overall vacancy rates will change as more flex space becomes available. It’s already evident that the warehouse market is slowing down considerably due to the amount of speculative product under construction—none. The warehouse market will continue to see consolidation in logistics companies as logistic companies continue to work hard to keep facilities full; more bulk space will become available on the market as inventory numbers continue to dwindle and this will increase competition for logistics contracts. Key industrial markets for 2010 will continue to be the Southwest/Plainfield market and the Northwest/Boone County market. There has been some increasing interest in the East side/Mt. Comfort market by Browning Investments.

The overall key indicator for 2010 will be job growth. This, of course, is a key indicator for the entire country. Indianapolis may not see much job growth, but the market needs to stop its downward trends and level off. The state and cities of Indiana have been working hard to create incentives and reasons to do business in Indiana.

— Albert Donato III is a principal and vice president at Acorn Group Inc./TCN Worldwide in Indianapolis.

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