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Attention turned to logistics for JCRA’s latest real estate breakfast series on 24 May. The aim was to draw upon the experiences of investors, owners, and asset managers within the logistics sector and foster a lively debate. A wide range of issues were discussed with contributions from participants active across the UK, Europe and the US. Below is a summary of the main themes from the breakfast:
What are conditions currently in the logistics sector?
The fundamentals of supply and demand in the logistics sector mean that its real estate is in rude health. Everyone agrees that there are a number of supply-side constraints limiting suitable development sites for logistics. For instance, a lack of labour supply near many proposed sites is a barrier to development, as are planners who remain dogmatic in their approach to logistics.
Even if these particular supply-side restrictions are overcome, Savills highlights that the key issue is the lack of appropriate land available in the south of England upon which logistic assets could be built. In addition, the rebadging of other real estate assets such as office space as logistics assets remains difficult/unfeasible.
In this context, record levels of take-up of logistics space (approximately 36.2m sq ft in 2016), the growth of online shopping, and the continued ‘amazonification’ of our lives means that vacancy levels are likely to remain low and rents are likely to be pushed upwards further and faster. Demand for ownership of logistics assets by occupiers has increased because of accounting changes which alter how lease obligations are expressed on the balance sheet and by their desire for control over their occupational needs.
How is the ‘last-mile’ challenge addressed?
The problem of delivering goods quickly, effectively, and in large number from where they are stored to the consumer’s front door is the challenge faced by the tenants, and indirectly the owners, of logistic space. This ‘last mile’ challenge is one retailers are increasingly focussed on as they look to cut costs aggressively and remain profitable by reducing the amount of retail space they occupy, replacing it with less expensive logistics space. The idea of a literal ‘last mile’ problem is a misnomer however as distances between logistics assets and the consumers they serve differ enormously and have grown over time.
With this in mind, it is important to remember how varied logistics assets can be. There was near unanimous agreement that there is no sweet spot in terms of the size of a logistic asset. Instead, an asset’s suitability completely depends upon a tenant’s needs and these needs are constantly evolving as supply chains are disrupted, delivery methods change, and as online shopping continues to grow and develop.
What are some of the biggest factors driving change in the logistics sector?
The growth of online shopping has caused demand for logistic assets to grow, but there are also less obvious factors that are at work in the sector. Improvements in technology and processes that facilitate returns capability change habits and encourage more people to shop online in a similar manner to how they would in store. For example, approximately 78% of all dresses ordered online are now returned.
Mergers between the likes of Argos and Sainsbury’s increase the number and range of goods that can be delivered directly to the consumer’s door from logistics assets. In addition, the historically low interest rate environment and the reduced volatility of rental income for logistic assets (typically let on longer leases when compared to other types of commercial property) mean that logistics remains an attractive sector for investors. However, it is a mixed picture as prime yields have now dropped as low as 5% and are closer to 4.75% in London causing investors to question if we have reached the peak of the cycle. Investors also compare the relative value of bond yields as opposed to directly investing in logistics assets let out by the same bond issuer.
How difficult is it to finance logistics assets?
Obtaining development finance for logistic assets remains challenging. It was mentioned that the type of logistics asset is important in securing this finance. Lenders prefer funding bigger logistic assets pre-let on long leases with good covenants as opposed to smaller logistic assets often closer to city centres, and this preference is reflected in the relative costs of debt for each. While lending for development purposes has continued to retrench since the last crisis of 2007/2008, alternative lenders remain an important source of development finance across all commercial property asset classes.
What about the logistics sector in continental Europe?
There is an increasing focus for some on continental Europe as the UK looks ‘too hot’ with too much money changing hands in the logistics sector. While Europe lags behind the UK in terms of its IT use and online shopping platforms, credit card usage is growing which means the potential for demand for logistics space is encouraging. In addition, vacancy rates in the logistics space have reduced considerably and rental growth has been seen. Once again, location remains key and there is significance variation in the scope and attractiveness of logistics assets from one country to another within Europe itself.
Trying to predict the future of the logistics sector is always likely to be difficult. What is clear is that given the current and growing demand for logistics assets, restrictions upon the supply-side, and the opportunity for synergies between companies with already well-developed communication networks, those already in the logistics sector have reason to be bullish. In fact, around the table it was even suggested that Brexit could be a positive; related delays and disruption in supply chains may mean that goods need to be stored for longer and in greater number. In this context, the future looks bright for those in the logistics sector who remain vigilant and are adaptable enough to benefit from the constantly evolving way in which we all shop and consume.
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