Industrial lease space in Anchorage is lagging behind demand. Here’s why.

Anchorage industrial lease space is one piece of the commercial real estate market that is in high demand and short supply.

At present, it's difficult to build new warehouses due to the cost of construction. Also, most of the remaining developable land requires soil remediation – an additional expense to meet the requirements for new buildings.

Doug Taylor, certified commercial investment member and a top-positioned industrial broker, administered an industrial survey that is well-known and respected among commercial real estate professionals. After analyzing the data from the survey, Mr. Taylor concluded that the industrial market's total inventory is approximately 17,000,000 square feet, a low number in light of demand in Anchorage. This study was done a couple years ago, however not much new inventory or new construction has happened since.

The industrial vacancy rate in Anchorage is about 2-3 percent, with an average monthly rent of $1.20 NNN (NNN is triple net – where the tenant pays their pro-rata share of building expenses including utilities, taxes, insurance and sometimes maintenance).

That's almost double the rent compared to what some markets in the Lower 48 offer for superior industrial space.

The cost of new construction for investment-driven development of industrial space can range from $200-$300 per square foot, taking into consideration size and economies of scale. Recently, the increased cost of steel has hindered the industrial market even more by widening the gap between the cost of new development and the required return for investment. The minimum lease rate for new construction to pencil is $1.50 NNN per square foot. The approximate $0.30 per square foot delta between the current market rents and new construction is not likely to be bridged anytime soon.

Industrial land prices have gone up. Part of this can be attributed to land redevelopment, like in Midtown, which has transitioned from mobile home parks to Class A office space. As businesses relocated from downtown to new properties in Midtown, the Midtown property values increased and ultimately so did the cost of industrial land. Today's industrial land prices range from $12-$20 per square foot.

Increase in land cost represents only one of the major hurdles for new construction. Another one is the subsurface quality of the soils in the remaining developable land; this issue likely represents the lion's share of the problem.

There has been an ongoing concern for some time among commercial real estate professionals that Anchorage is running out of developable land, and that all the good gravel-based land has been developed.

Embedded within this hurdle is the additional cost of soil remediation.

Remediation often requires removal of peat and other non-buildable soil that must be replaced with "non-frost susceptible" (NFS) fill materials. These remediation efforts often exceed $1.35 per cubic foot, depending on the haul distance between the remediated site and where the materials ultimately will be transferred to. Little to no frost occurs under normal freezing conditions in NFS clean fill, such as free draining sands, gravels, crushed rock and similar granular materials. This substantially adds to the cost of new construction and sometimes is the single biggest factor in why a site isn't purchased or developed. Sometimes a site is selected because it's big enough for the purpose of the project – even if the soil conditions require remediation.

[Here's how growth in the health care industry is playing out in Alaska's commercial real estate market]

Anchorage's newest and most modern warehouse is currently being constructed and visible from the Walter J. Hickel Expressway. The Odom Corp. is in the middle of construction on this project. Once completed, it will be one of the biggest warehouses in the state, at close to 200,000 square feet (almost 5 acres) under roof.

I recently met with Bill Odom to discuss the challenges of building warehouses in Anchorage. Odom said the corporation has what's pretty much an identical building in the Lower 48 that cost half of what the building in Anchorage will cost. He said site preparation, remediation and structural seismic requirements, including side and floor bracing, were mainly responsible for the additional cost.

This 200,000-square-foot warehouse, if built for investment purposes rather than an owner-occupant type of tenancy, would be priced out of the market when you consider the rental rate and return on investment.

As we move forward, expanding the supply of industrial properties in Anchorage will require creative solutions, as the conditions ahead continue to appear challenging. Industrial tenants coming to the Anchorage market are in desperate need for lease space, and that consequently impacts the local economy as industrial lease rates continue to escalate.

Brandon Spoerhase, CCIM, is a lifelong Alaskan, a former member of the Anchorage Planning and Zoning Commission. He specializes in commercial and investment real estate and is the Broker for BSI Commercial Real Estate. His column appears monthly.