Small-Bay Warehouse Owners and Operators Expand Niche Post-COVID

Due to a diverse tenant base, these subdivided spaces tend to have more solid cash flow. Newmark (NMRK) data found that while 100 million square feet of such space has been added nationally since 2020, its 4 percent vacancy rate remains below that of larger warehouse segments. Vacancy for 100,000- to 300,000-square-foot space is nearly double at 7.4 percent, and the rates only get worse for larger categories.  

“As long as there’s small and midsize businesses operating in California, there’s always going to be a need for it,” said Newmark Executive Managing Director Danny Williams.

That shift is clear in Southern California, particularly Los Angeles and San Diego. While the development pipeline remains small due to high costs and challenging land acquisition, small-bay warehouses are assets that, while often antiquated, perform well. Many of these vintage buildings would be nearly impossible to replicate today: Financing and construction for similarly sized industrial spaces remains expensive, and comparable buildings sell below today’s replacement costs. 

Plus, the prohibitive cost of building anything below 75,000 square feet, since builders couldn’t count on the economy of scale that comes with the largest warehouses, meant supply stagnated. Some owner-occupied spaces have had the same tenants for 40 years, and firms like Surf Management based in the South Bay near Los Angeles have acquired massive portfolios. 

“The greatest softness in the industrial market right now is the 100,000 to 300,000 square feet range, where you’ve got tons of options,” said Taylor Wood, a Savills vice chairman in Orange County. 

Brett Turner, senior managing director of acquisitions and dispositions for BKM Capital Partners, operates a portfolio of small-bay spaces in the San Diego region, and has seen demand explode. A menagerie of tenants — drone startups for the military, life sciences labs, cross-border shipping firms benefiting from post-pandemic reshoring efforts — have taken up space in BKM’s renovated spaces, which include LED lighting, electric vehicle chargers and rooftop solar. Rents have been increasing 5 percent annually for a few years, and supply has actually contracted. 

While the small bays within these buildings, often 10,000 square feet, attract new businesses such as last-mile delivery spaces, ghost kitchens and startups, the tenant mix can also feel like a bit of a throwback, with storage for construction firms, parcel delivery, car repair shops or storage space for small businesses. Cintas, the uniform company, has hundreds of such spaces. 

“It’s traditional use, but the competitive advantage is always going to be location,” said Stephen Bailey, vice chairman of industrial capital markets for Newmark. “If you’re looking at space that is big box in nature, you just might have to sacrifice location.”

The renewed interest in small-bay space also exemplifies changing logistics technology. Emerging e-commerce demand drove bigger and more centralized mega warehouses to streamline distribution for big players — the so-called Amazon effect that reshaped the industrial landscape. Now, logistics is more commoditized: Networks of third-party delivery services have coalesced in cities, online shopping data has made it easier to pinpoint areas of high customer concentration, last-mile delivery has become table stakes, and better software has improved the ability to choreograph between multiple warehouses. 

It makes financial and operational sense for some companies, then, to forgo the single, massive space and rely on a constellation of smaller warehouses. Even Amazon has made a big effort in recent years to drop millions of square feet of space in big warehouses and invest in last-mile infrastructure, sub-50,000-square-foot “last touch” spaces, the last touchpoint before a product hits someone’s doorstep.

That’s created an opportunity for bigger firms to trade down and maintain operational efficiency with smaller leases. John Nahas, managing director of asset management for Rexford, which runs a 50 million-square-foot portfolio of smaller industrial spaces in and around Los Angeles, said the publicly traded company’s investment in more efficient, well-run spaces — and in helping tenants stack goods vertically — means larger firms feel comfortable downsizing and consolidating.

Tyler Scriven, co-founder and CEO of Saltbox, a co-warehousing firm that offers ready-to-use, flexible industrial space and logistics software to businesses, said he’s seeing big firms and even enterprise-level clients lease out multiple locations. (The firm covers nine markets with two L.A.-area locations.) And demand for turnkey space for multi-nodal logistics operations will only grow, he said. 

“It’s not just about space,” said Scriven. “If you tried to do this five years ago, it would have been operationally complex. We’ve made it so even the smallest brand can put products in a number of places and take advantage of next-day delivery. As more brands take advantage, others will be forced to.”

Investors see the potential of buying into a high barrier to entry niche market, with more rent growth and solid fundamentals, and have begun assembling capital. Over the last decade, it seems nearly every piece of land near major markets and ports that could be turned into increasingly larger warehouses has been acquired and entitled. In that rush, the smaller segment of the market was forgotten.

Now, big investors are trying to cobble together space from mom-and-pop owners, said Newmark’s Bailey. Blackstone’s Link Logistics, which over the last five years has assembled  a nationwide portfolio that includes smaller, last-mile warehouse space in urban cores, now boasts half a billion square feet total spread over more than 3,500 properties. Rexford has also seen robust interest in its occasional divestment of smaller, multitenant spaces.

“There’s plenty of institutional players that are very comfortable in this space,” said Newmark’s Williams.  “And, certainly, if these products become available, they will make a run at it and try to buy it.” 

Newmark found that while large warehouse sales volume is running about 30 percent below the pre-COVID average, sales volume for small-bay spaces remains 32 percent above, with a slightly higher cap rate performance. These small business tenants also tended to pay rent more regularly than even big-box clients, said Bailey. Entrepreneurs especially have a lot more pressure to make the business work and not fall behind on rent, where big-box behemoths would simply try to negotiate concessions.

“Investors are coming in and saying, ‘I bet I can push rent 20 to 25 percent because there’s nowhere for these firms to go, the market has 2 percent vacancy,’” said Savills’ Wood. “What’s the risk?”

In San Diego, BKM has seen interest from outside buyers skyrocket. Offers have doubled in 2024 versus the previous year, and sales, which averaged about $35 million annually in recent years, hit $84 million in the first three months of this year alone. 

Investors like it need to steel themselves for a managerial challenge. BKM, with 100 staffers, does more than 600 leases a year, and Turner, the company’s acquisitions and dispositions chief, says the operational intensity is extreme. But the payoff is there. 

“Office is absolutely demolished, multifamily started to move backwards, and big-box warehouse is oversupplied,” Turner said. “We’re kind of the only game in town.”