It has been our experience that flex industrial buildings underperform in the Chicago Metropolitan Area relative to traditional warehouse buildings. Given the higher percentage of office space in flex properties, one would often expect the sales price per square foot to be substantially higher than traditional warehouse space, but that is often not the case. Flex spaces typically have 30-100% office space versus 5-20% which is more typically seen in warehouse space. We suspect that the underperformance can be attributed to the much smaller niche for flex space and the general softness of suburban office space in this area over the past 20 years.
Flex industrial buildings are not simply industrial buildings with extra office space. Flex industrial buildings are designed to allow the flexible conversion of unfinished space to office space or vice versa. The following are some general characteristics of flex space:
The finished area in flex buildings can change over time. When buildings have been converted to 85% or more office space, it is generally considered more appropriate to just appraise them as offices.
One of the biggest mistakes we see in appraising these properties is understating vacancy levels. When estimating vacancy rates for this type of property it is frequently necessary to take a blend of office and industrial space. So, for a 60% office/40% warehouse unit, you might need to find office vacancies and separate warehouse vacancies and then apply the appropriate vacancy factor to each section of the space.
Many analysts just consider flex properties like glorified warehouse space and apply warehouse vacancy rates which is not correct. If the warehouse market is running a 7% vacancy rate and office is running closer to 16%, then flex space should be somewhere in the middle. The 60% office/40% warehouse example above would equate to a blended vacancy rate of 12.4% (.6 office % X .16 vacancy level= .096) + (.4 warehouse X .07 vacancy level = 0.28) or (9.6% + 2.8% = 12.4%).
In a market where warehouse space is very much in demand it is easy to over-value flex properties because they share some characteristics. Be careful not to fall into that trap.