What will Happen to Commercial Real Estate with Amazon with Erik Hernandez of Lee & Associates #530

Norris Bruce

Bruce Norris is an active investor, hard money lender, and real estate educator with over 30 years experience. Bruce has been involved in over 2,000 real estate transactions as a buyer, seller, builder and money partner.

Norris Bruce
March 17, 2017

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Bruce Norris is joined again this week by Erik Hernandez. There’s lots to talk about with Amazon getting into the commercial real estate game thanks to Amazon’s Wholefoods acquisition. Erik has been with Lee & Associates in the commercial real estate division since 2000. Prior to that, he was in research since 1994. He specializes in industrial real estate, and he has been on the radio show a number of times prior. He is also the Norris Group’s go-to person for the commercial world.

Episode Highlights

What are we starting to see that could change the supermarket industry? Amazon and Wholefoods.
What other high-tech innovations are we starting to see or could see in the coming years?
How could technology change the way we are taught?
What is the biggest problem with the work world that we need to figure out?
What are we seeing happening in real estate on the industrial side that has changed the office market?
Which sector of real estate is the easiest to repurpose for other use?
What other projects are we seeing in areas such as Palm Desert and Adelanto?

Episode Notes

Bruce and Erik had just touched on something that is starting to occur. If you decide to buy groceries, instead of driving to the store you can put an order in to Amazon fresh and receive them before the next day. It may seem insignificant in itself, but if a lot of people do this there may not be a reason to have supermarkets around in the same quantity they currently exist. You can then start thinking about the ramifications of this since usually at the end of a core store there are cleaners and miscellaneous other stores that would no longer survive if the grocery store was not there. Bruce asked Erik if he sees this happening in the next ten years. Erik said this would be a fascinating story watch unfold as it is happening right before our very eyes. He does not think it will take ten years to play out, but rather we are in the second or third inning of this already.

If you are a member of the .com bubble, there were companies doing door-to-door delivery service back then. There was a company called Cosmo.com that was very popular in highly urbanized and densely populated areas like Manhattan. One of Erik’s friends who lived in Burbank loved it. With those companies, the technology was just not quite there, and this was 15-16 years ago. The idea was there, and sometimes the ideas are ahead of the technology’s ability to make it happen.

Erik read a great article about Reed Hastings, the founder of Netflix. He was talking about what his idea was to start the company, which had to do with bandwidth. They asked the class what the bandwidth of a station wagon full of vhs tapes was. They then asked what the bandwidth would be if you filled that with dvds at 4-5 gigabytes a piece. He realized at that time that the post office was a very efficient, high-bandwidth way to deliver movies to people. At the time the mechanism was dvds, but in his mind he always thought the technology would catch up. This led to them doing streaming back in 2007, and they now have 100 million subscribers for the streaming service. They are now down to 5 million subscribers for dvds.

Sometimes the idea is way ahead of where the technology is. Here we are again with things like Amazon Fresh and other companies that can deliver groceries to you the same day. It is amazing the convenience, speed, quality of the product, competitiveness of the price, and what this does to the core grocery store. The term displacement might hit more and more pockets of the commercial real estate market.

Bruce had an interesting experience with Uber. He had heard about it from his son Aaron, who was really up on everything tech. However, he had not had it in practice yet. When Bruce was invited to go up to Washington D.C. and speak in front of Fannie Mae, he had arranged a hotel that ended up being full. He was sent to a neighboring property, which after two minutes he was bitten by two bed bugs. He called Aaron up and asked him to help get him into a better hotel. In a flash Aaron texted him his new hotel and told him he was having Uber pick him up. Very shortly after the door knocked at his hotel, and it was the guy from Uber telling him he was ready to go. Bruce was astonished.
When he left, Aaron was not around and he did not have the Uber app. Therefore, he had to wait for a cab at the same hotel. While he was waiting for the cab, three people got picked up by Uber drivers in front of him. It is no wonder that this is displacing cabs as it is more efficient. Uber could not have existed until we had cell phones with the GPS technology and the internet tied into it to be able to talk to each other with that type of communication infrastructure. What is interesting is that they do not own anything yet, although apparently they are trying to figure out how to do self-driving Uber cars. Erik said he keeps reading about this, although he does not know if he would ever get into one yet. He thinks if he knew all the cars drove themselves he might feel a little safer. It is not the Uber car he would not trust, but the other cars on the road that are not autonomous.

Bruce asked Erik if he knew Sean O’Toole. About 5 years ago or more they were in the limo going to I Survived Real Estate, and back then they were talking about self-driving cars. Bruce Norris reacted the same way Erik did in regards to driving next to self-driving cars. Sean said they would actually do better than the actual driver, and Bruce wondered how this was possible. He said inside the car would be a computer where, if you played 100 games in a row of Rock, Paper, Scissor, you would lose 100% of the time. This is because it picks up your impulse on what you are going to do. With the invention of the Cloud, all these self-driving cars are connected and have the same memories shared at the same time. If a self-driving car is following a truck that has something fall off of it, it registers that memory and shares it with every other self-driving car. They would have the same experience without actually having the experience.

Some of these things that seem so futuristic are already here, and it will be fascinating to see what we are talking about 5-7 years from now. Soon someone will be starting their own company sitting in their basement, parent’s garage, or dorm room. Sean bought a 3D printer for his 10-year old son so he could start playing around with it and be entrepreneurial. This is looking more and more like the future.

Bruce had another interesting experience regarding education. We have over $1 trillion in debt from college in an era where you can have the best teacher of a subject teach 1 million to 10 million people at the same time. Bruce sees this coming in the near future. He had attended Pacific High School, and before that he went to junior high. He talked with a guy he sat next to coming back on a plane who had a Master’s degree, and it turned out they both went to the same high school and junior high. Bruce asked him who his favorite teacher was, and he told him hands down that it was Beglinger, his 8th grade civics teacher. Bruce said this was his favorite teacher also.

It is interesting how with all the years of college, his favorite teacher was from junior high. If Beglinger taught you civics, you got an A. It was that simple. He had to explain to the principal every year why every one of his students got an A in his class, including a final test that was handwritten. This was one that was not multiple choice, and if you spelled something wrong you got half the question wrong. It is possible to have the best teacher teach you something. Erik thinks we are at the beginning stages of this. There is a lot of social structure we will need to figure out. You have these online universities that Ivy League caliber courses online that you can get into, and it is fascinating.
Erik is learning about this himself since his oldest son is in eighth grade. As a joke he got him an SAT prep book and UCLA jacket for Christmas. If you think about what college could look like in 4-10 years and what Erik took at UCR in his day, the class sizes were much smaller. He remembered some lecture halls that would have 200-300 students, like Economics 101. He could have watched a YouTube video and learned just as much if not more. If he was tired from being out the night before, he could have paused it, taken a nap, woken up, hit play, and not missed anything. You can also think about the expense that would not be incurred if you could do that, especially if you could watch it from one of the best teachers on the planet.

Bruce said his great mentor from his life and business is Jim Rohn. He is no longer here, but he can still teach Bruce every day because he can drive around with his cd in his car. You could also have Beglinger teach civics because he just an unusual guy who made it live. Every subject has that teacher where they make it exciting to learn. There is no point in not letting them teach most of the people. You ask anybody that question, and they will hopefully have a few answers. Erik said his would have been to Mr. Degrasse, his speech and debate teacher because he was one of his favorites. It is a shame this passion was not captured, but there will always be the next person. Eventually, we will start to do that.

Another thing Sean said years ago was the biggest problem is we have to figure out how to have a society where 40-50% of the people no longer need to work. This is an amazing statement to think about as this could very well be true. One of the best presentations Bruce has ever seen involved a man who talked about the changes coming due to solar energy. He opened with a street scene in 1899 in New York. He asked the audience if they saw a car in an image with all horse-drawn carriages. There was only one car in the picture, and you could barely make it out. Ten years later he showed the same street scene, and he asked if they could find a horse. It was a complete change only ten years later. He said that this is what is about to happen with solar and electric cars. The only reason you would not own an electric car is because they were prohibitive in price. Now, starting at the end of this year you will have a $35,000 electric car that has less than 30 parts and guaranteed for life. Suddenly, it makes economic sense.

Bruce has talked to others about this, and at least three people said they had an electric car on order. Erik’s brother-in-law even has a deposit on one. The first couple days they signed up and were really excited since they are nice cars. When you start thinking about what happens afterwards, you get to pass by all the gas places forever. This is astonishing, and we are on the cusp of a lot of things. He wanted to hear more about the study Bruce heard from Sean about 40-50% of the people not needing to work. Bill Gates talked about taxing robotics as a laborer. The labor these machines provide would be taxed just as if they were a worker, so there is revenue that is not ceasing. However, that is not tied to payroll taxes, so how would you generate revenue? Bruce thinks he was trying to say that there should be that since this is one of the biggest sources of revenue and you are displacing it.

There are a lot of changes coming. Soon we could see robots farming the fields and making our food and drones delivering it all to our house. You do not have to go anywhere except watch Netflix. We are also seeing virtual reality more. Bruce has not really been up on this, so this year he went to 2 major shows featuring 3D printing, virtual reality, and robotics. It was way over his head, but he was just fascinated to glimpse that world and see what is possible. They are 3D printing real estate, which is hard to comprehend. There is a certain scale where they have to have these giant machines to put together something like this. Something interesting Erik has seen is instead of thinking of it as one giant structure you have to build, they are breaking them down into much smaller pieces. It is almost like a Lego playset where you have all the smaller pieces and assembly it rather quickly. It will be fascinating to watch what happens over the next ten years with the conversions of some of these technologies.

We are seeing things happen on the real estate side with the amount of industrial real estate built. This has really changed the office market in the Inland Empire. When you look at one of Bruce’s reports that talked about the rigorous financing requirements coming, it also talked about the different levels and price journey of different product types. You had storage units and industrial doing very well. You then had a losing segment of hotels because of Airbnb. Almost all the other segments have something that is taking from them. Malls have online shopping, hotels have Airbnb. The industrial space seems to be the beneficiary of all these changes.

Industrial real estate is probably one of the easiest asset classes that you can repurpose for a different use. Erik has always enjoyed working with this because one day you can have a warehouse and the company moves out. The next company that moves in might be a manufacturer or food company, and they can repurpose that space to make something or do something different than the previous occupant. That is a lot harder to do when 100 Circuit Cities all go empty at the same time. It is a lot more difficult because each shopping center has its own unique things.

In Rancho Cucamonga, when the Circuit City closed, Best Buy took it over. They vacated their old spot, and it took 2-3 years before the old Best Buy spot backfilled. It wound up being divided into a food market and Party City. It takes time to repurpose retail and office buildings, especially since they are specialized. If you think of a high-rise building when the company moves out, they have to go in and completely rebuild the space plan from scratch. This is an expensive proposition. You have not really seen many high-rise buildings being built in this cycle, especially in the Inland Empire.

The commercial building Bruce bought 6 years ago has had neighboring properties and was like a condo project. Every building has 4,000 square foot condos. He had not had a neighbor until last month for the entire six years. Erik thinks a lot of cities went back and looked at how they enhanced their industrial real estate in their cities. There was a great article a few months back in the Daily Bulletin about what happened at the I-10 freeway and Vineyard at the entrance to the airport. This was on the north side of the freeway where the Meredith Center has been built. This is the area where the 1 million square foot QVC center has gone in. This project involved over 200 acres of land and was for mid-rise and high-rise office buildings. It was like a century city east and was a master plan that had been sitting on the books for literally decades. The city finally realized this was never going to happen, and it if did it could be beyond any of our lifetimes.

There was a need for the cities and for the area to provide jobs to people today, and the opportunity came along to repurpose that center. This will create a lot of jobs over there, different jobs than what the original plan was. Bruce asked if we have any repurposing of buildings to the use of marijuana. Erik said he heard this has happened and there are a couple cities that are trying to be the first to figure this out. He does not think anybody has quite figured this out yet, although he is not an expert on this.

Bruce said in the desert area, around Palm Springs and Palm Desert, there is an investor involved in one major project. It is a lot of square footage, although it is not the kind of building Erik was talking about that is 1 million square feet. They were big buildings and all being rented by the same industry. They were being pre-rented, were not even constructed yet, and were being rented for several dollars a foot. What is interesting about this is that it could be subject to a policy change, which is pretty scary. Erik said Rancho Cucamonga passed something that basically said, “Not our town.” However, there are other cities that have had ballot initiatives and citizens put together groups to see if they can figure this out.

The city of Adelanto zoned a particular area up in the High Desert, and when this happened the land prices shot through the roof. Erik did not believe it originally when somebody told him about this. When he heard the numbers, he started digging into it himself and told some friends. Sure enough, he was proven wrong and was blown away by what had happened up there in a short period of time. This is a whole different level of everything, and rent would probably be the driver. What you can pay for dirt depends on what you can get for the square footage of the space. This will definitely be an interesting segment to see what happens with it since it goes into effect in January. There is a lot of money being spent on the assumption that this will still be in existence when we get there. This is a little scary and will be interesting to watch to see what happens.

Thank you for joining us for Bruce’s discussion with Erik Hernandez. If you would like more information, you can contact him at (909) 373-2707.

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