“There are three main factors that make IOS investments particularly attractive to Meadow Partners – our existing expertise and relationships in many of the markets in which these sites exist, the lower amount of capital required for initial investment, and the increasing supply/demand imbalance.”

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Before diving into Meadow Partners’ investment strategy in industrial outdoor storage, can you take a moment to describe the industrial outdoor storage asset class and how it differs from traditional enclosed industrial assets?

Industrial outdoor storage, also known as IOS, is industrial-zoned land primarily used for the storage of trucks, trailers, vans, large equipment, containers, and materials. The land can be improved by installing pavement, perimeter fencing and flood lighting. The defining factor of IOS, as compared to traditional enclosed industrial, is that the primary value is derived from the open, horizontal outdoor space, rather than a vertical building. This is reflected in the way that IOS properties are rented on a per acre basis as opposed to per square foot. Any enclosed spaces on an IOS property serve ancillary purposes, such as truck maintenance and repair, loading and unloading, or back-office needs, and typically make up less than 20% of the property.

Location is a critical factor for IOS sites and demand is largely driven by proximity to both multiple transportation options as well as dense populations. Site selection is also impacted by local zoning regulations and macroeconomic drivers, such as manufacturing and distribution hubs and their continued reliance on e-commerce. The best performing sites are generally located near major urban centers with population density and at the intersection of primary logistics and infrastructure hubs – such as ports, railways, highways, and airports – where there is high demand within the supply chain for a space to store, sort and move goods as well as store the equipment required to move those goods. Places like northern New Jersey, Los Angeles / Long Beach, California, Savannah, Georgia and Miami, Florida are some of the primary locations where we have seen strong demand for these sites.

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How did Meadow Partners ultimately identify IOS as an asset class and how do you describe your approach to investing in IOS?

When we began evaluating investment opportunities within the industrials space broadly, we were uncomfortable with the amount of new supply, rents and cap rates in the traditional distribution sector. So when we started looking at alternatives, we were really intrigued by the diminishing supply, relative cap rates, and similar underlying tenant credit metrics in the IOS space. The lack of available sites, combined with the demand from increasing storage needs along the supply chain, made the opportunity even more attractive. Additionally, one of the main principles of investing in real estate is a comparison to replacement cost, and within the IOS sector, replacement is really difficult given municipalities’ continued effort to remove the use from zoning and a “not in my backyard” mentality.

We found that municipalities viewed IOS as the lowest and worst possible land use given it’s not particularly aesthetically appealing to have an open lot with heavy equipment or trucks exposed. As a result, local governments have attempted to put parameters in place to avoid developers using industrial-zoned land for IOS, with many largely halting the zoning of land for industrial use completely. However, as the industrial distribution ecosystem continues to grow, and more trucks and transportation equipment are required to keep up with distribution demand, the need for IOS sites will be imperative. We believe that these factors make for compelling supply/demand characteristics and unique investment outcomes.

At the time we began, we were early in this space and IOS was still an emerging and fragmented asset class. There was a lack of readily available data which made it more difficult to understand and underwrite IOS opportunities. Given Meadow Partners’ deep experience and expertise investing in properties across New York and London – two major transportation hubs with shipping ports, multiple airports, major highways, and rail lines – coupled with our focus on Class B, value-add real estate investments, we were well-equipped to apply our core competencies to identify and execute on Class B IOS opportunities in the New York area as a starting point. We didn’t like the economics available competing with our larger competitors who were focused on investing in Class A warehouse distribution, prior to the evolution of IOS into a well-established asset class. And, as such, Meadow took the path less traveled – leveraging our Class B expertise to identify assets in one of our primary markets and growing our presence in other markets over time.

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What is particularly compelling about an IOS investment and what characteristics do you look for in a site before putting capital to work?

There are three main factors that make IOS investments particularly attractive to Meadow Partners – our existing expertise and relationships in many of the markets in which these sites exist, the lower amount of capital required for initial investment, and the increasing supply/demand imbalance.

To go a layer deeper on each of those, starting with expertise, the majority of existing sites today are momand- pop owned, which means sourcing acquisitions takes in-depth knowledge of local markets and hands-on experience with local brokers. Given the scarcity and fragmented ownership of IOS sites, we find that having existing market knowledge and deep relationships in some of the top local markets where IOS sites exist – such as New York and London – gives us an advantage in sourcing because we have boots on the ground, can canvass site-by-site, and develop in-person relationships with individual owners.

Furthermore, the initial capital required to transact is much less than other real estate sectors. Generally speaking, we will install pavement, perimeter fencing and overhead lighting after acquiring a property – the installation and upkeep of which pales in comparison to typical renovations we’d undertake with a multifamily asset.

Building on that, demand for these sites is extremely high given the limited supply, and as a result, tenant turnover is low. Tenants need these sites to operate their businesses and participate in e-commerce and last-mile logistics, which makes these assets mission-critical for business owners. We expect demand for the sector, as well as other logistics-related assets, to continue to accelerate as a higher percentage of the population continues to rely on the e-commerce ecosystem.

Unlike the office sector where tenants have tremendous optionality in their space and could pivot to remote work, these sites are required for businesses. The friction costs of disrupting business to move sites and rearrange the supply chain far outweigh rental increases, drastically increasing the stickiness of your tenancy. In some cases, given transportation is one of the largest costs for certain users, a well-located and designed IOS property can increase operational efficiency and decrease distribution costs. And tenants do not generally require costly tenant improvements as they might in an office.

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Can you provide some examples of why companies may require IOS sites?

Most operators need IOS in some capacity, even if the bulk of their goods require enclosed storage. Take an operator like Amazon for example, which requires enclosed warehouses with racks to store and sort its small goods. The vehicles that transport those goods to the warehouse, and then once sorted, transport them to the next location or end destination include trucks, trailers and vans that need space outdoors proximate to the warehouses themselves. Another example is a car rental company that might need to store up to 500 rental cars near its dealership. We’ve found car storage to be a common use for IOS in Newark, New Jersey, which receives imports from Volkswagen and Mercedes Benz from Europe daily. These car companies require space to store their vehicles between the time the ships carrying them arrive at the New Jersey port, and the time when the vehicles are ultimately ready to be distributed across the country.

Both the Amazon and car dealership examples are ones with which Meadow Partners has first-hand experience. We own an eight-acre IOS property in northern New Jersey leased to Amazon, which uses the site to store its last-mile sprinter vans that support its fulfillment centers in the area. We also recently purchased a Volkswagen / Audi car dealership located on the outskirts of London and in the heart of one of the local, established commercial and automotive hubs. The site is 4 acres and, given its location and low site coverage, would be considered one of the best automotive properties of its size in the area.

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There seems to have been a recent uptick of investment into IOS. Why? Do you expect new entrants will continue to emerge and how does that impact your competitive positioning?

The early investors and operators in this space have scaled their portfolios to such a large extent that they are attracting more large institutional investment into the asset class. For example, some of these early investors own 20-to-30 sites valued at $100 million in aggregate and are positioned to sell them. And with the performance of these earlier investments starting to play out in a positive way, more investors are becoming interested in IOS. A lot of this performance has been driven by consistent and growing rents. Despite economic headwinds today, rents have grown 20-40% since 2019 and were consistent throughout the COVID-19 pandemic and shutdowns. Indeed, the investment class has grown so much that we now have significant data that shows this IOS investing is not a one-off or niche opportunity. Both new operators and established institutional operators are increasingly adding IOS to their investment portfolios, particularly over the last three to four years.

While we’ve certainly seen an uptick, there remain barriers to entry for new entrants. The proven performance of IOS, coupled with demand for the sites, has impacted pricing, driven down cap rates and made sites harder to source. When we first began investing in this space, we were underwriting double-digit cap rates; we have not seen that for some time. Also hindering the market today is limited financing, which is true across all asset classes in a rising rate environment. Investment activity has certainly slowed, but overall, we expect the asset class will only continue to institutionalize and become more competitive. We’ve certainly had to adjust our approach to compete as new investors have entered the space and mom-and-pop owners have become more sophisticated in understanding the value of their land. However, we continue to see opportunities to invest in smaller-scale deals, in the 10-to-20-acre size range.

While we are very bullish on IOS, are seeking to expand our footprint in the sector, and believe there are strong tailwinds in the medium-to-long term, we are proceeding with caution today. We've seen many investors overpay for assets because they’re more focused on building critical mass quickly than ensuring each of their properties has strong value fundamentals and features the right IOS attributes. Our approach, on the other hand, is to be thoughtful and measured, carefully evaluating each IOS investment opportunity case-by-case, keeping in mind the specific market and broader macro dynamics. We are therefore waiting patiently for pricing to appropriately reflect true underlying value, and are only allocating capital into IOS at the most opportune times. It goes without saying, however, that we expect the IOS opportunities ahead to be tremendous.