Chinese Tenants And Lack Of Supply: Why Industrial’s Party Is Set To Continue

It’s become an annual event, as much a part of the turn of the year as Auld Lang Syne at disappointing New Year’s Eve parties — asking whether the boom in industrial and logistics property is sustainable. 

“I think we’re still going to be talking about a supply and demand imbalance in 2023,” GLP Development Director Adrienne Howells said.

The growth of the industrial and logistics sector is set to continue in 2022, those in the sector told Bisnow ahead of the Industrial and Logistics Transformation event on 3 March. Only this year, it will be less about rising asset values, and more about rising rents.

Few are predicting prices to drop, given the weight of capital targeting the sector. But the 40% increase measured by the CBRE Monthly Index in 2021 is unlikely to repeat itself.

The factors pushing up demand and pushing down supply are likely to mean rents continue to spike, especially in assets close to the UK’s biggest cities. 

Howells pointed out industrial and logistics vacancy rates are about 3% in the UK, and the brokers she works with estimate this vacancy rate would have to rise to about 12% before rents in the UK fall.

“And we’re a long way from that,” she said. 

Typically, when rents and prices in a real estate sector are rising, everyone piles in and develops too much, causing oversupply and a crash. But the UK’s planning policy works against this time-honoured trend happening again in logistics. 

“UK planning policy has underestimated industrial demand for a decade, and it’s going to rise by 29% in the coming years,” she said. “That really hinders the ability of new development to come forward at a quicker pace and creates a pinch point.”

Rising construction costs and labour prices further exacerbate this effect, she said. 

On the demand side, new sources are appearing with a regularity that gives developers and owners great comfort. GLP said that about a fifth of its lettings in the UK last year and 10% in Europe were to Chinese firms. The companies that took space at its schemes ranged from giant names like JD.com to the less well known, like  AOSOM, Aukeys or Zongteng Group. The link is that they are mostly e-commerce brands or logistics providers to such companies.

“They want to grow in the UK and use it as a springboard into Europe,” Howells said.

Even among domestic or European occupiers, “the depth of demand is incredible,” Segro Chief Financial Officer Soumen Das said. He pointed to lettings the company had undertaken to super-fast delivery firms and media content creators as examples of new kinds of occupiers looking for space in urban logistics and industrial locations, on top of typical e-commerce or manufacturing tenants. 

To demonstrate the resiliency of the sector, he contrasts the current situation to that experienced in the retail sector when it was in its pomp. 

“Shopping centres were like a type of Ponzi scheme,” he said. “You had an ever-smaller number of tenants that were able to pay high rents, so you had less and less diversity. We’re not seeing that happening in industrial today.”

Both Howells and Das pointed to the fact that for logistics occupiers, particularly larger firms, rent makes up a small proportion of their total costs, sometimes as little as 6% or 7%, with labour and transportation taking the lion’s share. For this reason, while a 20% uplift in rents might sound high, it is small in relation to overall cost base.

There are likely to be changes in what occupiers want in 2022, something the sector ignores at its peril.

“The investment market is pushing occupiers towards longer leases,” Wincanton Group Property Director Doug Thornton said. “What they really want is flexibility, and I can see growth for those owners who are able to offer that.”

The fact that labour for occupiers is in such short supply and is so expensive could change what occupiers want from their property and even where that property is located.

“Occupiers are looking a lot more closely at where the labour supply is located,” Clearbell Capital Senior Partner Manish Chande said. While the traditional industrial heartlands of the golden triangle in the Midlands, plus London and the north west, are not under significant threat, he said, the need to go where labour can be sourced potentially opens up new locations.

“We are also seeing industrial occupiers looking at things like sustainability and wellness, in order to attract those workers that they need,” Chande said. “It used to be that occupiers would take any old shed and it didn’t matter what it was like. Those days are gone.”

Das said this expectation of rental growth was underpinning the prices being paid for industrial assets. In 2020, Segro bought an asset in the Docklands area of London at a  2.75% yield, the kind of cap rate normally seen on Bond Street. But the rate at which rents at the scheme have grown mean the yield on the asset is now 5.5%. If it wanted to sell it would make a big profit. 

“I don’t think you can expect 30% year-on-year price growth to happen again,” he said. “But in every sale, there are 30-40 parties bidding on it, and about two-thirds of the funds being raised right now have an allocation to industrial. That weight of money has completely changed since 2020. It has just kept going.”