Colorado Real Estate Journal - January 21, 2015
Is Colorado getting“high(er)” on marijuana? I published an article in November 2013 in the Colorado Real Estate Journal with the title “Is Colorado high on marijuana?” Since then, there has been quite a bit of smoking (or eating) that is continuing to drive the market. So how has this impacted real estate in the last year? As a Colorado hard-money lender myself (traditional banks are still not engaging in this market), I have witnessed firsthand the impacts of the marijuana industry on commercial real estate. The phrase Alan Greenspan coined to describe the dot-com bust, “irrational exuberance,” best describes the current impact marijuana has had on industrial real estate. This irrational exuberance is being seen both in lease rates and recent sales. As most know, marijuana production (both medical and recreational) has been relegated to industrial areas. Industrial properties are ideal since many have heavy power, open spaces and typically fit the zoning requirements (setback from schools, rehab centers, etc.). With the new marijuana gold rush in Colorado, how is this impacting both supply and demand of industrial properties? First, the current lease rates are unsustainable. Marijuana tenants are paying three to four times market rates. A traditional tenant cannot afford the rents that are being paid and, as the supply and demand of marijuana converge, many marijuana tenants will not be able to afford the present rents as well. There already is a push for consolidation within the industry due to the high overhead. Along with overpriced leases, many marijuana tenants are buying up Class C/D properties. Many of these properties are functionally obsolete due to ceiling heights (12 feet or less) and in less-desirable areas. Many have been languishing and sitting vacant prior to the marijuana influx. These properties are ideal for marijuana and many are converting old, functionally obsolete buildings into grow warehouses. Once the gold rush is over, the vast majority of buildings will be functionally obsolete once again (albeit climate controlled). The large desire for marijuana space has increased prices beyond reality. For example, I recently was asked to finance property on the Interstate 70 corridor that sold for $800,000 12 months ago and was just sold again for $1.5 million. Nothing had been done to the building since it was bought. The price was double what comparable properties were selling for. The prices are out of line with what a normal user should pay both on the sales approach and income approach when compared to non-marijuana properties. This craziness also is spreading outside of Denver. I recently was evaluating a building in Pueblo and spoke with a commercial Realtor in the area; of the last five industrial sales (many were sitting vacant for years), four were marijuana related. The marijuana industry is rapidly evolving and is not immune to basic economics of supply and demand. Currently, there is pent-up demand, but this huge demand spike is not sustainable. There is finite demand (not like everyone will start eating 12 cookies a day) that will level off over time. Along with demand leveling off, supply also is increasing. According to many in the industry, there is more than 500,000 square feet of new space coming on line over the next 12 months on the Front Range. Other states also are coming on line (four states allow recreational sales and 23 states have some sort of medical option), which will further increase the supply. All of these factors will help the supply and demand come into balance. Furthermore, in the long term marijuana is an agricultural product. It will inevitably be produced more efficiently (outdoors, in greenhouses, etc.). I am currently seeing this trend now with outdoor grows in Southwest Colorado and marijuana tenants taking over greenhouses north of Denver. Unfortunately there will be a bad trip when the party stops. The vast majority of improvements to industrial warehouses are useless. For example, is Denver going to become the dry-cleaning capital of the U.S.? (I can’t think of another industry that could utilize both the heavy power and water). Will the Front Range be known as the indoor tomato grow powerhouse? (What else needs all the climate-controlled space to grow plants inside?) What about all the fancy cameras and other security? (I can’t even think of another industry that would require security monitoring and cash storage [safes, etc.] like the marijuana industry.) The Denver Front Range will have the largest percentage of overbuilt industrial space in the entire country. In summary, we have a bona fide game of musical chairs, but at the end of this game, when the music stops, you don’t want to be the last one with a chair – in this case, the last one holding a marijuana building that was overbuilt and overpaid for.