Blackstone Group LP (BX) is in the spotlight as it prepares a record stock offering for the Hilton hotels chain. Its success building one of the nation’s biggest warehouse landlords has garnered far less attention.

IndCor Properties Inc., the Chicago-based industrial real estate company that Blackstone formed in 2010, has more than doubled in size since its inception and continues to make acquisitions. Demand for U.S. warehouse space is outpacing construction, leading to higher lease rates and declining vacancies as spending by consumers and businesses recovers.
“It’s an essential part of the economy as we move goods around the country,” Frank Cohen, Blackstone’s senior managing director overseeing industrial investments, said in a telephone interview. “You don’t just need it in New York or Los Angeles. You need toothpaste everywhere. The tile guy needs tile, or plumbing supplies, everywhere.”

Blackstone, the largest private-equity real estate firm, began buying industrial property in a depressed market, in many cases acquiring assets whose owners had purchased them close to the market’s 2007 peak and were hurt by a plunge in values after the credit crisis. IndCor’s crown jewel is 20 million square feet (1.9 million square meters) of warehouses, mainly in California, that it acquired from Walton Street Capital LLC by amassing positions in the underlying debt.

“Traditional, high-quality industrial has been very sought after by investors, so it was very hard for us to buy it prior to the market downturn,” Cohen said.

Hotel IPOs
Investors of late have been focused on hotel, retail and rental-housing deals by Blackstone’s real estate arm, a testament to the breadth of its property empire. Its Hilton Worldwide Holdings Inc., the world’s largest hotel operator, is planning an initial public offering of as much as $2.4 billion, according to a regulatory filing yesterday. That would surpass Hyatt Hotels Corp.’s $1.09 billion sale in November 2009 as the largest lodging IPO.

Extended Stay America Inc. (STAY), a lodging company co-owned by Blackstone, raised $565 million in its initial share sale last month and surged 19 percent on the first day of trading. The New York-based firm’s shopping-center landlord Brixmor Property Group Inc. raised $949 million in an October IPO. Blackstone also has become the largest owner of U.S. single-family homes for lease, spending $7.5 billion to buy about 40,000 houses.

In the third quarter, Blackstone’s real estate investments generated 42 percent more revenue than a year earlier, while revenue from the firm’s traditional buyouts declined 54 percent as the value of some publicly traded holdings fell. The real estate arm had $69 billion of assets under management, followed by about $63 billion each for the credit and private-equity units, and $53 billion for the hedge-fund division.

U.S. Focus
IndCor’s holdings exceed 100 million square feet. That makes it about the same size as the largest real estate investment trust focused on U.S. industrial properties, Indianapolis-based Duke Realty Corp. (DRE), which has 121 million square feet of distribution space in the nation and a $4.9 billion market value. The biggest warehouse REIT is San Francisco-based Prologis Inc. (PLD), with 562 million square feet in 21 countries, including about 280 million square feet in the U.S.

“IndCor has been buying like crazy,” said Rene Circ, director of industrial research at CoStar Group Inc.’s Property and Portfolio Research division in Chicago. “They’ve been focusing on large, large portfolios.”
Cohen declined to comment on whether Blackstone plans to sell IndCor or take it public.

Prices Recover
The three-month rolling average price for industrial buildings peaked at $78.60 per square foot in October 2007, and fell to a low of $47.12 in November 2009, data from Real Capital Analytics Inc. show. Prices have since climbed to $77.06 a square foot. Industrial-property purchases rose to almost $32 billion in January through September, up from $24 billion a year earlier, according to the New York-based research firm.

Two deals that kicked off IndCor, among 10 transactions Blackstone has made to build the company, were purchases from Eaton Vance Corp. funds and Prologis totaling almost 41 million square feet.

Blackstone typically looks for assets that need work to increase their value. The firm has acquired warehouses that have vacancies higher than the national average and are in key distribution markets, including smaller cities, said Tim Beaudin, IndCor’s chief executive officer.

“With this recovering market we’ve had a lot of success,” he said. Many of the properties were in need of increased leasing, capital investment and improved management, Beaudin said. “We look for assets that need some tender, loving care.”

Lehman, Prologis
Another purchase now part of IndCor’s holdings was about 16.5 million square feet acquired in stages from sellers including Lehman Brothers Holdings Inc. and Prologis. Those transactions included Blackstone Real Estate Partners VII’s acquisition of a Reno, Nevada, industrial portfolio for $427 million in August.

The fund also has agreed to buy about 7 million square feet from Pacific Life Insurance Co., including warehouses in Reno, in a deal of about $320 million set for completion by the end of the year, said a person with knowledge of the agreement.

IndCor has increased occupancies in Reno, and rents are starting to rise, Beaudin said.
“That market had been kind of beaten down,” he said. “We see that market being very, very good to us.”

Retailer Demand
The fundamentals of the U.S. industrial market are likely to keep improving for the next three to five years, Beaudin said. Internet stores such as Amazon.com Inc. and traditional retailers are leasing more space in distribution centers, helping reduce vacancies.

Rising industrial production, increased trade and growing business inventories also have helped support demand for warehouse space, said Jared Sullivan, a senior economist with CBRE Econometric Advisors, part of Los Angeles-based commercial-property brokerage CBRE Group Inc.

“That’s why people are excited about industrial real estate right now,” Sullivan said. “The seeds are there for continued strength in the sector.”

Also helping industrial owners such as Blackstone is a decline in warehouse and distribution-center construction. About 59 million square feet of industrial real estate will be added in the U.S. this year, down from the pre-recession average of about 150 million annually, according to CBRE.

“We’ll build as many industrial warehouses this year in the U.S. as were built in ’55,” Cohen said.

Vacancies Decline
Industrial availability in U.S. metropolitan areas fell to 11.7 percent in the third quarter from 13 percent a year earlier, data from CBRE show. Warehouse landlords have had 12 consecutive quarters of net occupancy gains, starting in the fourth quarter of 2010, according to Reis Inc., a New York-based real estate research firm.

Industrial rents will climb 4.4 percent next year and 4.6 percent in 2015, according to a CBRE forecast. The availability rate probably will fall to 11.2 percent next year, and 11.1 percent by the end of 2015, the firm said. Rental growth this year is projected to outpace inflation for the first time since 2006. CoStar expects rents to continue gaining and return to pre-recession highs by the first half of 2016, Circ said.

“Rents are definitely still on the rise,” he said. “We’ve had a decent year.”

Shares Gain
Rent and occupancy improvements have been a boon for warehouse landlords. A Bloomberg index of seven industrial REITs has returned 8.6 percent including reinvested dividends this year, making it the third-best performer among REITs, after hotels and self-storage. First Industrial Realty Trust Inc. (FR), a Chicago-based company with 62.5 million square feet of space in 25 states, is the best performer in the warehouse index this year, rising 22 percent through yesterday.

Prices for warehouses are increasing as well. The three-month rolling average capitalization rate for U.S. industrial property was 7.6 percent in October, compared with a high of 9.2 percent four years earlier, according to Real Capital Analytics. A measure of yield, cap rates fall as prices rise.

Investing in industrial real estate isn’t risk-free. A slowdown in the global economy, hurting worldwide trade, would cut demand for U.S. warehouse and distribution-center space, said Craig Guttenplan, a REIT analyst at CreditSights Inc. in London. Absent such a decline, IndCor may find it difficult to keep expanding as rents and occupancies rise.

“There are still some interesting opportunities out there, just not as many as in the last few years,” Cohen said.

It may still be a year or two before the industrial properties’ performance is improved and Blackstone begins to decide how to exit the IndCor investment, either by taking the company public or through a sale, Beaudin said. Blackstone is “still trying to stabilize what we have,” he said.

“There seems to be, among the people who invest in this asset class, excitement about the possibility” of an IPO, Cohen said. “What we’ve assembled is basically a really simple, high-quality national industrial portfolio.”