Downtown Colorado Springs

CBRE Research released its first-half 2016 MarketView reports focusing on the Colorado Springs office, retail and industrial sectors.

Regarding the industrial sector, CBRE reported those and flex property sectors experienced “positive fundamentals” in the first half of 2016 thanks to demand for quality space and “the encouraging macroeconomic situation.”

Positive net absorption was achieved, according to the report, as well as stable vacancy and a bump in average lease rates.

“Modest speculative construction commenced again for this business cycle, a response to pent-up demand for small warehouse space with 18-foot clear heights,” according to the report, which goes on to state that activity in the market was driven by local distributors — FedEx moved into its new 225,000-square-foot distribution warehouse and Home Delivery Link leased warehouse space.

“Investment trended up in the market, accelerated by the sale of the new FedEx-leased warehouse for $28.8 million,” according to CBRE.

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ECONOMIC/UNEMPLOYMENT

In the first half of 2016, employment continued to grow in the Colorado Springs market. All-industry job growth was 2.2 percent on an average year-to-date basis through June over the previous year, according to CBRE. Unemployment is at 4.7 percent for Colorado Springs and 4 percent for the state — both levels below “natural” unemployment of 5 percent.

Employment in industrial-using sectors decreased by 1 percent on an average year-to-date basis through June. Manufacturing’s job growth declined, however the transportation, warehousing, utilities and wholesale trade sectors saw growth of 1.1 percent and 1.9 percent respectively on an average year-to-date basis.

“The strong U.S. dollar has negatively impacted the country’s manufacturing sector, but growth in local distribution and warehousing could help lift the industrial job growth rate until manufacturing recovers,” according to CBRE.

CONSTRUCTION ACTIVITY

In spite of aging product and increasing demand for quality industrial and flex space, the construction sector has seen relatively little development activity, according to CBRE’s report. At the end of Q2, 50,400 square feet of industrial warehouse space was in development, compared to this time last year when no speculative industrial projects were underway.

“Speculative construction has been rare in the post-recession period,” the report states, “but perhaps current trends point toward further development of leasable small warehouse space.”

One of the three warehouses under construction — a 20,000-square-foot building with 6,000 square feet of office — has been pre-leased by Mineralife. Other owner-user development activity currently focuses on the Colorado Springs Airport, where tax incentives led to the construction of two hangars used by Cutter Aviation and Sierra Nevada Corporation.

“Construction may be on the verge of moving in a more positive direction in Colorado Springs industrial as more developers refocus on secondary and tertiary markets,” CBRE’s report states.

VACANCY/AVAILABILITY/ABSORPTION

For three consecutive quarters, the market recorded positive net absorption, attributable to stable demand. Positive net absorption of 62,310 square feet was recorded in Colorado Springs industrial and flex space in the first half of 2016. Direct vacancy stayed at 9.3 percent between Q4 2015 and Q2 2016, but increased 100 basis points year-over-year.

“This could be in part due to the closure of Chefs Catalog operations in Colorado Springs in late 2015, which occupied about 150,000 square feet at the time,” according to the report. “A large amount of space remains vacant from the closing of Intel and SCI years ago, which had a combined footprint of about 1 million square feet.”

CBRE reports that, at the end of Q2 2016, availability was 15.1 percent, a 190-point increase year-over-year, “which reflects some larger tenants whose leases have not been renewed to date. Tenants may be looking for higher-quality or lower-cost space to occupy before the end of the cycle and are holding out on renewing leases.”

AVERAGE ASKING LEASE RATES

Demand for space put upward pressure on lease rates, moving the average direct asking lease rate to $6.11 per square foot triple net, which is up $0.09 per square foot year-over-year. Increased demand for smaller spaces has increased asking rates to around $7 per square foot NNN, according to the report, which adds “due to the short amount of time these spaces stay on the market, they are not well-captured in the average asking rate figures.”

Class A and B industrial and flex buildings built after 2000 also lease at a premium, CBRE reports, averaging $7.97 per square foot NNN — nearly $2 per square foot more than the overall average asking rate.

“Looking ahead, rates will likely move upward at a slow pace due a number of larger, less-desirable blocks of available space that weigh down the average,” according to CBRE.

INVESTMENT TRENDS

Investment activity in Colorado Springs industrial and flex product increased in the first half of 2016. Nearly 730,000 square feet of space traded for a total of $55.5 million — up more than double the $16.7 million sold in H1 2015. The surge in sales volume was mostly due to the $28.8 million sale of the new build-to-suit FedEx distribution center. Without this, the market would have seen $26.7 million sales volume in H1 2016, a 60-percent increase over this time last year, the report states. CBRE reports other notable transactions in the first half of the year include the sale of the 131,875-square-foot Class A warehouse that currently houses Diamond Materials Technology for $5.5 million, and the Rocky Mountain Coors-occupied 78,657 distribution warehouse for $3.8 million.

MARKET OUTLOOK

The outlook for the Colorado Springs’ industrial and flex market is positive with economic and demographic growth signaling no immediate end to the current business cycle. Pent-up demand in the sector results from lack of new construction and the aging of existing available product. Many tenants who are waiting to reposition themselves with higher quality, lower cost space have to ride out the current cycle because of limited options restrict movement. Smaller, Class A and Class B warehouse space built after 2000 roughly catch a $2-per-square-foot premium on the market and are leased quickly. CBRE reports this trend will continue “until speculative construction catches up with demand.”

The North submarket has relatively little rentable space, but the population growth that area indicates that the submarket remains an attractive industrial market for development in the future.

OFFICE MARKET

Colorado Springs’ office market remained healthy in the first half of 2016 with decreasing vacancy and availability and positive net absorption. Small- and medium-sized tenants repositioned to ride out the end of the business cycle by consolidating and seeking higher quality space, according to the report.

“The majority of space being vacated is less desirable and commands a lower asking rate, which has in turn driven down the average direct asking lease rate in recent quarters,” CBRE reports. “This is partially why the market experienced a 20 bps year-over-year decrease in vacancy to 12.2 percent and a concurrent $0.11 per square foot drop in the average asking rate to end Q2 2016 at $16.80 per square foot full service gross.”

Tenants active in the market included those in government, non-profit, technology and cybersecurity industries. Medical office was the primary driver of construction activity in the market while investment activity lagged a bit in the first half of the year, but is expected to pick up momentum in the second half.

 

CONSTRUCTION ACTIVITY

Office construction reactivated in the Colorado Springs market with 100,206 square feet in development at the end of Q2 2016 — a two-fold increase year-over-year. Three small medical office and one multi-tenant general office building were under construction, all in the Northeast submarket.

“One notable delivery in H1 2016 was the remodel of the old railway depot for reuse as the Catalyst Campus, which will provide a new technology environment with onsite training, research and development, and some executive suites and co-working space for partnering with local industries,” according to the report. “This type of incubator and co-working environment is useful to propel further growth in Colorado Springs’ technology industry and overall office market by allowing companies to grow organically until they are able to absorb more traditional office space.”

VACANCY/AVAILABILITY/ABSORPTION

The market posted positive net absorption in the first half of 2016, driven by movement and slight growth among small to medium-sized users. Positive net absorption of 22,747 square feet was recorded in H1 2016 — which was dampened by Serco downsizing by about 80,000 square feet. Direct vacancy has remained relatively stable in recent quarters, ending Q2 2016 at 12.2 percent, which is a 20 bps decrease from Q2 2015 when it was 12.4 percent. Of the major submarkets, the CBD and North submarkets recorded the lowest vacancy at the end of Q2 2016 — at 10.3 percent and 8.5 percent, respectively, due to having the largest supply of high-quality space in desirable locations. In H1 2016, active tenants included Christian Care Ministries and the Colorado Department of Corrections, which moved to a 91,000-square-foot space at Academy Point in May. Availability decreased to 17.1 percent in Q2 2016 — down 40 bps year-over-year.

LEASE RATES

The direct average asking lease rate in the Colorado Springs office market was $16.80 per square foot (Full Service Gross) at the end of Q2 — a $0.11 per square foot decrease year-over-year. As increased premium space has leased in recent years, the average asking rate has trended downward from nearly $18 per square foot FSG at the end of 2010 when quality space flooded the then-fragile market. Now approaching the end of the business cycle and with space-optimizing techniques available, companies are looking to consolidate footprints in better quality space, according to the report. When this happens they leave behind lower quality, cheaper space that depresses the average rate, explaining recent trends. At the end of Q2, the Central Business District submarket had a direct average asking rate of $20.17 per square foot FSG — a $3.37 per square foot premium on the overall market. Certain submarkets such as the CBD, North and East have commanded higher rates recently while the Southeast — which has seen a lot of consolidation due to its dependence on government contracts — has more competitive prices. Class A buildings built after 1990 also have higher asking rates that currently average $21.50 per square foot FSG.

INVESTMENT TRENDS

Ten Colorado Springs office properties traded hands during the first half of the year, with $37.8 million in sales volume. This is down 69 percent from H1 2015 when $63.9 million traded hands. The largest transaction in the first half of the year involved two Class A buildings at 1050 and 1090 N. Newport Road that sold as part of a large portfolio sale. The local portion of the portfolio sold for $8.2 million or $68 per square foot. Another notable deal was the sale of a Class B office building at 9910 Federal Drive for $6.2 million or $79 per square foot. One-third of the purchases in H1 2016 were made by out-of-state investors, displaying the increasing tendency of outsider investment in Colorado Springs office product. Looking ahead, sales activity is expected to increase in H2 2016 as there are several large deals already in progress.

MARKET OUTLOOK

“Driven by strengthening macroeconomic and demographic fundamentals, the Colorado Springs office market will likely remain steady through the end of the business cycle,” according to CBRE. “Tenants and landlords looking to position themselves well for the long-term are driving the market toward an equilibrium in which the majority of high-quality of space is leased.”

In H1 2016, the needle moved slightly in the direction of more speculative construction, a trend that may continue as demand mounts for higher quality space in key locations. The North submarket is the likely location for future development due in part to demographic growth. While many Colorado Springs’ company decisions depend on the political environment and government contract status, the increasing diversity of users in the market should help to stabilize any adjustments in the defense and aerospace industries.

 

RETAIL MARKET

The Colorado Springs retail market maintained solid growth in the first half of 2016. Lease rates increased 5.6 percent year-over-year to $11.01 per square foot NNN in Q2 2016. Vacancy remained at 6.5 percent with overall positive net absorption of 78,059 square feet in H1 2016. Construction was active with more than 457,000 square feet of retail space in development. National, as well as local retailers, are driving demand in the market, and Colorado Springs saw the opening of its first Nordstrom Rack in the North submarket in Q2 2016. This submarket is getting a lot of attention from developers and national tenants who see that it is an ideal location with strong housing growth. Investment sales in the first half of 2016 were up 82 percent from H1 2015 sales, totaling $99.8 million.

 

CONSTRUCTION ACTIVITY

Construction activity remained strong in the first half of 2016, as seven retail properties came online, with 457,000 square feet more in the development pipeline. Over 118,000 square feet of quality retail space was delivered in H1 2016, an increase of 44,802 square feet over H1 2015. A Sprouts Farmers Market opened at Northgate Plaza, as well as a multi-tenant building at South Academy Highlands. Developers are still active — with more than 457,000 square feet under construction at the end of Q2, though slightly less than the 488,000 square feet that was under construction in Q2 2015. The North submarket had the most construction activity in H1 2016 with eight projects underway, compromising approximately 159,000 square feet. New multi-tenant retail development projects in the North submarket include Northgate Plaza, Polaris Pointe, InterQuest Marketplace and Briargate Crossing. The Southeast submarket will gain another grocery store in 2016, as a King Soopers Marketplace is currently under construction at Constitution Avenue and Marksheffel Road.

VACANCY/AVAILABILITY/ABSORPTION

The Colorado Springs retail market recorded overall positive net absorption of 78,059 square feet in the first half of 2016. Strong absorption in Q1 2016 helped maintain positive net absorption for the first half of the year, in spite of a handful of store closings, including Office Depot and Hancock Fabrics, that prompted negative net absorption in Q2 2016. Vacancy remained stable at 6.5 percent, unchanged year-over-year.

“The market appears to be in an equilibrium where new and quality vacated space is being absorbed quickly,” according to the report, “driving the need for new construction.” Availability was at 9.7 percent, a slight 20 basis points increase from 9.5 percent in the second quarter of 2015.

LEASE RATES

In Q2, the average direct asking lease rate reached $11.01 per square foot NNN — its highest point in six years. The 5.6 percent year-over-year increase is attributed to strong demand for premium space combined with the new retail inventory that became available in the first half of the year. The average direct asking rate for retail properties in shopping centers built after 1995 is $20.86 per square foot NNN, indicating that retailers are willing to pay a premium for high-quality space. The North and East submarkets, which have strong trade area demographics in terms of population growth and income, commanded the highest asking rates in Q2 2016 at $20.54 and $19.88 per square foot NNN, respectively. On average, asking lease rates will see moderate increases as more leasable premium space is developed in the market.

INVESTMENT SALES

Twenty-nine retail properties traded hands in the first half of 2016, for a total sales volume of $99.8 million, up 82 percent from the $54.8 million sales volume in H1 2015. Colorado Springs is on the radar of an increasing number of institutional investors. National single tenant net-leased properties are especially appealing. In fact, the largest sale of H1 2016 was purchase of two STNL Walgreens pharmacies in the market for $12.5 million, followed by a Sprouts Farmers Market-leased building in Northgate Plaza for $9.7 million. This upward trend in retail investment sales is expected to remain strong through the remainder of 2016.

MARKET OUTLOOK

The upward trend of the Colorado Springs retail market suggests steady growth through the end of 2016 and beyond if macroeconomic fundamentals hold steady. Unyielding demand will continue for premium space in key trade areas such as North Academy Boulevard, Powers Boulevard and the Broadmoor area in the southwest. Future retail development will follow housing growth in the outer submarkets, as well as the CBD and certain infill areas that are in the early stages of revitalization. Urban Renewal Areas like the South Nevada Avenue Corridor and the Ivywild Neighborhood have planned mixed-use developments that include much-needed urban retail. Positive macroeconomic trends coupled with ongoing tenant demand will continue driving leasing activity. Pre-leasing activity for most multi-tenant buildings under construction has been strong, which will help subdue elevated rates that are sometimes associated with new construction.

“Colorado Springs is a ‘great find’ for commercial investors and the overall outlook remains positive,” according to the report.

For the Business Journal’s most up-to-date coverage of the Central Business District’s retail market, click here.