Demand for industrial commercial space remains strong but there are some concerns creeping into the picture that could very well reduce activity levels this year, according to the industrial specialists at CB Richard Ellis.

With near historic low single-digit vacancy rates for industrial space, there is a shortage of available industrial space on the market.

That’s helped to keep lease rates, net absorption and new construction stabilized. But it also prompted at least one user to go elsewhere last year.

In 2007, a warehouse user choose Casa Grande over Tucson, citing rents that were significantly lower, employees more readily available and better access to freeways.

Distributors are now facing questions of where to locate to be able to provide high service levels at closer-in locations versus lower costs and dealing with traveling greater distances on a congested Interstate 10.

While not every industrial user should or will consider locating in Casa Grande, as Tucson and Phoenix continue to grow together the idea of serving both markets from one location will become more attractive.

Growing bottlenecks in the logistics arena are starting to limit manufacturing productions. And, of course, the weakened national economy could make its way into distribution and manufacturing in Tucson.

Recent job growth, at 2.8 percent, has led to a noticeable supply and demand imbalance in the region. The rate of population and job growth are expected to slow by nearly half this year, though both will continue to go up.

More than 25 percent of the Tucson region’s economy is driven by the sagging homebuilding industry. Businesses in that and related industries will consolidate – some will undoubtedly disappear entirely – which, alone, could push vacancy rates up another 4 percentage points this year.

There is positive news. High-tech industries, such as solar power, advanced battery technologies and life sciences, are in their growth phases and not as affected by economic concerns. These companies will supply growth and opportunity in the face of uncertain market conditions.

New construction of industrial space will be driven by a combination of owner-occupied or build-to-suit projects, which were delayed from last year. Additionally, after a long period of dormancy, speculative development has returned as new distribution projects will add over 900,000 square feet to the industrial base.

Originally these projects were scheduled to come open last year but were delayed by a combination of governmental delays and questions over the economy.

As the supply of available industrial space increases, lease rates for existing product will stabilize. But there continues to be a gap in the occupancy costs of new construction versus renting existing space. This gap will widen.

Lease rates that have been lagging behind the yields required to justify new construction, have now reached a level sufficient to attract capital investment.

The required asking rates for new construction remain well above that of second-generation space. In fact, average asking lease rates are up market-wide, simply due to the large amount of new product that has come on-line.

But there are still going to be issues for users who aren’t looking for owner-occupied, new construction or build-to-suit projects. In light of current vacancy levels, tenants are finding fewer alternatives for functionally adequate second-generation space. In some cases, they’re finding no options at all.

That means tenants basically are facing the need to choose among three tough decisions:

• Stay in existing space that’s non-functional

• Renew a lease with big rate increase

• Pay much higher prices for new development

Taking pressure out of options requiring new construction or major improvements is the slowdown in the homebuilding industry, which is stabilizing some costs. But there is a substantial amount of commercial and public infrastructure projects underway that are taking up the slack from the loss of homebuilding-related construction

For the Tucson region, the value of industrial land will hold steady in 2008. Several projects are in the planning stage for the northwest sector, which continues to suffer from a shortage of finished industrial lots.