The extra mile: The logistics sector has come a long way from warehousing and distribution

You know what they say about property investment; “location, location, location.” Well, here’s another mantra with an l-word; “logistics, logistics, logistics.” There is seemingly no end to investor interest in the real estate facilities needed for the efficient and time-sensitive storage and movement of goods between source and end-user and there are good reasons for that.

A lot of it has to do with e-commerce. Penetration rates for online retailing across Europe vary between market, depending on country, computer usage and culture, and a common factor is the requirement for state-of-the-art storage and distribution facilities and systems that are able to handle the flow of product from factory or field to retailer, and from retailer to customer and back. But the further common factor that excites most is that those online penetration rates are still rising and will continue to rise across a broader range of products — this is not a static market but almost a real estate investor’s dream come true. “Logistics is moving from being an ugly duckling to a beautiful swan,” says Dirk Sosef, vice president of research and strategy at Prologis.

“Logistics hasn’t always been so popular,” points out Phil Redding, CIO of UK-REIT SEGRO Plc. “We have been in this sector for nearly 100 years, so it is slightly surprising to us that it hasn’t been more popular. An easy way to see how big e-commerce or online retailing is in a country is to count how many Amazon sheds there are,” he adds. (Amazon shares, listed at $18 in May 1997, recently hit $1,000, a 55-times increase over 20 years.)

Personal connections 

“Logistics is more popular than ever,” says Rémy Vertupier, fund manager of AEW’s €1.7 billion LOGISTIS Fund, “because of the highly-positive supply/demand dynamics of the sector. Structural changes are having a major impact on supply-chain management around the globe and we can be reasonably very positive for the future of logistics as an asset class.

“There is also a ‘trend’ effect,” Vertupier continues. “Investment style can be affected by trends and the trend here is e-commerce. E-commerce gives every individual a personal connection with logistics. When you look at the portfolios of the large investors, they are underallocated to logistics. If you do some maths on the best possible allocation between office, retail, industrial and logistics, for an optimised portfolio you should have between 5 percent and 10 percent in logistics.”

“Logistics remains our top sector,” Simon Wallace, head of research, Europe, alternative and real assets, at Deutsche Asset Management, comments. “Compared to office or retail, logistics is expected to be the outperformer. If you go back three or maybe five years, there was always the perception that if you bought logistics you would do well.”

Redding agrees with the characteristics that continue to attract investors to logistics: the high income return, the relatively quick development periods, the long leases, relatively strong covenants. “They have all been around for quite a while. But the recent step change is the rise in demand caused by the explosive growth of online retail.

“There has not been a commensurate increase in supply, so what we are getting is almost ideal market conditions of robust, growing demand meeting fairly-constrained supply, and that is equalling rental growth,” Redding adds. “That rental growth in logistics is what is bringing a lot of new entrants into the sector.”

Will that growing popularity result in the bubble and crash that we have seen so often before? “We don’t see that there will be a sudden correction from current levels,” Redding says. “There is interest to invest at the current levels from a wide and diverse group of investors, so the pricing at those levels is very well supported.”

Questions and answers 

For José Pellicer, partner and head of research at Rockspring Property Investment Managers, demand for logistics is not the issue. “The demand is undisputed. The question is more who is driving the demand — investors or occupiers?” Pellicer suggests.

“Investors have this idea that the only driver of logistics demand is e-commerce. That’s not correct. The vast majority of logistics is old-fashioned trade. The key demand driver for logistics is still international trade, not just of consumption goods but also components and capital goods. And manufacturing. “Retailers are changing their supply chains to adapt to the rise of e-commerce and need facilities to handle fulfillment, urban distribution and returns. Supply adapts to demand very quickly in logistics — if there is money to be made, someone will jump in to grab that money,” Pellicer points out “Investors need to find out where demand is highest and supply most restricted. Investors can’t get enough of logistics but you have to discriminate; where there is demand and limited supply is where you will find rental growth. It is the supply question that needs to be asked.”

Year after year after year 

“No other sector can demonstrate occupier growth year-on-year over the past five years like the logistics sector,” says Ekaterina Avdonina, managing director of Delin Capital. “Every other year has been a record year for occupational take-up. Nothing like that has been seen in office or retail. The majority of institutional investors started looking at logistics because of the structural drivers rather than the economic drivers that were underpinning the growth.

“The defensive character of logistics has been known about for a long time,” Avdonina points out. “Most of the return is derived from income and for fixed-income investors buying logistics has been a great diversifier. Logistics has very little volatility, 90 percent of the return derives from income, and that makes a really good story.”

“The retail market is going through a seismic change and technology is at the forefront of that,” says Andrew Jones, CEO of UK-REIT LondonMetric Property Plc. “How we shop and interact is evolving, and logistics is a large part of the change. Every retailer has a slightly different strategy for dealing with this. Some retailers cover a country or region with one large warehouse. Others adopt a hub-and-spoke model, with the hub located strategically and the spokes placed around the major urban conurbations. And someone like Amazon will do everything, the full spectrum.”

“The last mile is very important,” says Jones. “Making very bold delivery promises is what will allow retailers to build their brand with their end-customers.”

Dmitry Kostygin, chairman of Russian e-commerce retailer Ulmart, has a different perspective. “Logistics is a never-ending story of evolution,” he explains. “There is always change and room for improvement.” Kostygin, for example, sees scope for a new type of real estate for online retail in Russia: distribution or fulfillment centres that are accessible to customers, look slightly better outside than just a shed and with some parking, a sort of warehouse club.

“Our investment team has been active in the market and is positive about logistics,” says Greg Mansell, head of research at AXA Investment Managers – Real Assets. “Logistics is popular from an investor’s point of view because demand is outstripping supply. Performance in the medium term is expected to be stronger than that of offices and retail as well. Agreed, yields have come down quite a bit, to below 6.5 percent on average across Europe. That’s down a long way from where we were four or five years ago, and the spread between logistics and offices has also come in.

“But I don’t think that investors are getting ahead of themselves,” says Mansell. “It’s more to do with the lack of supply. Investors are looking for assets and there aren’t that many out there.” Limited availability of good logistics product and high investor demand is pushing prices up.

Where could it all go wrong? “It could go wrong if there was excess supply,” says Pellicer. “If developers and investors start building like crazy, occupiers will have choices and rents could fall.”

Someone else’s problem

Nothing has changed in logistics and yet everything has changed. The sector has morphed from the once-unloved and low-tech but tolerated warehousing and distribution sector into the fancied and highly-desirable high-tech supply-chain facilitator that it is today — whether classic retail from factory or farm to shop shelf or whichever-way-you-want omnichannel retail from distribution facility to consumer.

It is arguable that logistics has gone the extra mile and usurped retail as the second commercial real estate sector after offices. No real estate owner wants voids or vacancies but in the current environment it’s likely that they would rather have an empty shed than an empty shop as it’s more likely to re-lease quickly. Depending on “location, location, location.”

Fortunately, the vexed question of how much longer retailers can continue to bear the rising costs of the rapid online deliveries and generous and penalty-free returns policies that consumers have come to expect is not one that investors in and owners of logistics facilities will have to concern themselves with too much.

3D printing? No worries 

Fears that the wider adoption of 3D printing could have adverse consequences for operators and owners of logistics facilities have been debunked by senior executives of leading developers and investors. Hamid Moghadam, CEO of Prologis, told delegates to this year’s INREV annual conference in Berlin that “the material that goes into a 3D printer has to get there somehow. I think we’re good.”

Ian Worboys, CEO of P3 Logistic Parks, the former PointPark Properties that is now owned by GIC, made the same point another way in an interview during last year’s Expo Real event in Munich: “If every household has a 3D printer,” he said, “it [and all the parts that go into it] will have to come through a warehouse. Things are not printed out of thin air. If you have a 3D printer, you will have to put in the basic materials. These materials will all have to go through a warehouse.

“At the moment, it’s all a bit science fiction and maybe in 20 years’ time you won’t be buying anything, everything will go through the 3D machine,” Worboys adds. “But you will still need the basics for the machine to make it work. There will be a pretty big supply chain around that.”

Richard Fleming

r.fleming@irei.com is editor of Institutional Real Estate Europe. He is based in Kimberley, United Kingdom.

For further information please contact:

Delin Capital Asset Management
Ekaterina Avdonina
+44 (0)207 487 1220
investments@dc-am.co.uk

FTI Consulting on behalf of Delin Capital Asset Management
Dido Laurimore / Richard Gotla
+44 (0)20 3727 1000
dido.laurimore@fticonsulting.com