The Shrinking Industrial Space

Source: San Francisco Business Times
Author: Adam Weintraub

These are exciting times to be a manufacturer in San Francisco. But nerve-wracking, too.

With the rise of the ‘maker’ movement and rebirth of artisan food and drink, manufacturing firms and jobs in the city are burgeoning after several decades of decline.
That growth is creating its own problems: It’s driving up rents and increasing competition for space from tenants that can pay more than a low-margin manufacturer. Rents have surged in the last two years, and rich sale prices for industrial sites suggest that new owners will charge rents too high for the mainly small firms behind San Francisco’s manufacturing rebirth.
Even the city’s recent effort to create incentives for construction of more light-industrial space — by allowing developers to combine it with office development — faces looming clouds. With the first combined office/industrial project under the new rules getting ready to face the Planning Commission, officials worry that a flood of office development proposals will quickly hit the Prop. M development ceiling.

“We remain very concerned about how tight the market is right now for industrially zoned space,” said Kate Sofis, executive director of SFMade, a nonprofit supporting the manufacturing sector and companies in the city. “We’re seeing asking rents nudge up above $2 a square foot (per month), which is very difficult for a traditional manufacturer.”

Bidding wars
Dave McLean started searching in 2010 for a larger space to produce beer for his Magnolia Brewing Co., which had maxed out capacity in the basement of his Haight-Ashbury brewpub. He found about 10,000 square feet in one of the few available spaces at the American Industrial Center at 2505 Third St. in Dogpatch. He opened the brewery late last year and Smokestack BBQ restaurant in May.

“I suspect the window may have shut right as we got in,” said McLean, who calls the giant AIC complex with its hundreds of small spaces a unique asset in San Francisco’s manufacturing world. “I don’t think I’d want to be looking right now.”

The space crunch has bakers and chocolatiers competing for space with repair shops and HVAC distributors, and now also with small clothing manufacturers, 3D-printer developers and robotics startups. Some firms are struggling with bootstrap finances while others are backed by investors, and there can be a big difference between the profit margins on a robotic manipulator and a barrel of beer.

That sets up bidding wars for so-called “PDR” space (for “production, distribution and repair”) just as it does for offices, with high-margin or well-financed tenants squeezing out those with weaker cash flow.

“It’s certainly getting to the point price-wise where a lot of business services (companies) are having a tough time making rent,” said Scott Mason, president of Calco Commercial Inc., a real estate brokerage firm with extensive experience in San Francisco industrial property from SoMa to the Bayshore.
“There is a shortage right now; rents are up 30 to 40 percent just in the past two years or so,” said David Lai, a principal with Yosemite Investment LLC, of South San Francisco. The company develops and runs industrial space, including at Yosemite Plaza, a former bottling plant in the Bayview where tenants have included a tech accelerator, a commercial kitchen, a chocolate maker and a towing firm.

Now Yosemite is looking to replace a 1,200-square-foot storage building and surface parking at 2200 to 2250 Jennings St. with a 13,500-square-foot industrial building, 26 feet high, which could be divided into six individual spaces for lease or sale, according to preliminary plans filed with the city. “There is a lot of demand for small spaces,” Lai said.
Rising demand and prices have attracted some investor interest. ASB Real Estate Investments, in a joint venture with SKS Partners and ProspectHill Group, said in July it would buy the 103,000-square-foot office-warehouse complex at 1400 16th St. in Showplace Square that’s been the headquarters of Jessica McClintock Inc. SKS declined to comment, but the buyers have said they intend to redevelop the three-building complex for R&D, prototyping and manufacturing.
SFMade chief Sofis said the word in the marketplace is that the price was high enough that she’s expecting rents in the neighborhood of $2 to $3 per square foot per month. “That’s not an ideal outcome from the standpoint of SFMade,” she said.

San Francisco’s strategy toward PDR space has its roots about 15 years ago, when the dot-com boom raised the same kinds of concerns heard today that residential and office development would crowd industrial businesses and jobs out of the city.

Prop. M looms
The Eastern Neighborhoods plan carved out areas preserved for light industrial uses. That was before the growth of the ‘maker’ movement, which diversified the kinds of businesses seeking space and increased demand for small, flexible production sites. (And, as one city planning official noted, from almost the moment PDR districts were created, residential and office developers were trying to nibble at their edges.)

More recently, the city has tried to create incentives for construction of new PDR space, recognizing that the lower rents make industrial space unattractive or infeasible for developers to build. An ordinance backed by Supervisor Malia Cohen, Mayor Ed Lee and others created incentives by allowing developers on 15 largely vacant sites to build a combination of office and PDR space (see story at right). The higher rent on the office space would subsidize the industrial space.
“It’s kind of an experiment, but some of those parcels have very low intensity,” now featuring parking lots, storage buildings or weeds, said Joshua Switzky, a San Francisco senior planner.
But with a long line of office development projects moving toward the approvals process, some fear the limits imposed by the 28-year-old Prop. M office development cap could keep this new approach from producing a single new building. Manufacturing interests fear that attractive, high-profile office towers may get preference over less flashy office/PDR ventures if choices have to be made.

Looking to Pier 70
City officials say they’re committed to helping makers thrive as a part of a vibrant, diverse economy. “We need to make sure they have new, modern efficient, well-located space in order to stay and grow,” said Todd Rufo, director of the Office of Economic and Workforce Development.

They also point to the prospect of new industrial space as part of Orton Development’s rehabilitation plans for Pier 70. McLean, of Magnolia Brewing, said one key tool for companies is to include a retail element with their manufacturing, noting that the zoning of American Industrial Center allows him to do both. “It’s one thing to pay $3, $4, $5 a square foot (per month) for a retail business where you’ve got that retail mark-up,” he said, and manufacturers can use that mark-up to support manufacturing even if the rents are a bit steep.

American industrial Center: 800,000 square feet, and full
Greg Markoulis has lived through decades of the challenges faced by manufacturers. His family bought the 800,000-plus-square-foot American Industrial Center, a former can-manufacturing plant, in 1975. At one point, the garment industry occupied some 275,000 square feet there, but within five years after the North American Free Trade Agreement (NAFTA) took effect in 1994 it had dropped to 10,000 square feet.

“We diversified tremendously after that,” said Markoulis, general manager of AIC. The family divided the property into roughly 320 different spaces over the years, catering to smaller tenants and startups and accommodating them as they grew, he said. The owners have changed their approach as the industry changed and keep lease rates low, and that keeps occupancy high.
But demand is fierce, Markoulis said. “For the last three years we’ve been over-full.”

Markoulis prefers to have a half-dozen vacant spaces in the complex so he has flexibility to shuffle if a tenant needs more room, but the property now stays booked almost solid. “We’ve stopped giving guesstimates as to when a space will be available,” he said.

Mixing manufacturing with other uses: is it the recipe?
One of the 15 parcels where San Francisco hopes to experiment with mixing manufacturing and other space is also in the sights of Dan Murphy, principal with UrbanGreen DevcoLLC.
Murphy has submitted preliminary plans to convert the San Francisco Mini Storage and truck rental site at 100 Hooper St. into a mixed-use urban campus with two 58-foot, four-story buildings linked by elevated walkways above a courtyard.

The project is envisioned with 60,000 square feet of PDR and 333,000 square feet of ‘flexible commercial space,’ which could include office, PDR, retail or other uses, including room for classes or other activities by the nearby California College of the Arts. Murphy received a preliminary project assessment for 100 Hooper in 2012 and will hold a community meeting Sept. 13 to present plans to neighbors; he hopes to present the project to the Planning Commission this fall.

“It’s extremely well-located; it’s a gateway property to Mission Bay,” Murphy said. Murphy sees the opportunity to create an industrial version of the fertile cross-pollinating tech communities that have grown in SoMa, with part of the courtyard serving as a pedestrian public space for the complex and part allowing access to loading bays for distribution and deliveries.
SFMade officials and Murphy are both concerned that the Prop. M office limits could create a new obstacle to building industrial space.

“It’s a little alarming that we may get folded into some new (review) process,” Murphy said.

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