What’s Driving Record Industrial Real Estate Demand
A boom in e-commerce and shifting population densities as well increasing transportation costs are making industrial real estate a “can’t miss.”
As a result, several years of online sales growth were condensed into 2020 alone, causing industrial leasing to surge globally as logistics became essential for retailers. Changes in population densities, shifting consumer expectations, and increasing transportation costs all played a role in this rise in industrial property demand. But it’s the need for speed that will shatter industrial CRE pricing.
2020 – A Banner Year for Industrial
Throughout Asia Pacific, strong leasing and tight market conditions translated into double-digit increases in rental rates. Tenant demand was also strong across Europe with impressive year-over-year gains in leasing activity in both Eastern Europe (+28 percent) and Western Europe (+10 percent). Meanwhile, activity in the Americas reached a new all-time high with more than 680 million square feet (msf) of new leasing.
The U.S. industrial market finished the year remarkably strong with 90 msf of net occupancy growth, the strongest single quarter on record. More than half of U.S. markets recorded year-over-year leasing gains, with Southern California’s Inland Empire, Phoenix, Las Vegas, and Salt Lake City posting the strongest occupancy growth in the West, while the Pennsylvania I-81 and I-78 distribution corridor, Philadelphia, and New Jersey were the strongest markets in the East. In fact, 2020 was a record-breaking year for the Pennsylvania corridor — with overall net occupancy growth of 23.5 msf, 40 percent more than the market’s previous record and two times the preceding three-year average. In the South, Atlanta, Dallas, and Houston bustled with activity (collectively growing by more than 60 msf), while Chicago, Indianapolis, Kansas City, St. Louis, and Cincinnati sat atop the leaderboard in the Midwest.
The U.S. industrial market finished the year remarkably strong with 90 msf of net occupancy growth, the strongest single quarter on record. Follow the People
Changes in population densities have always been an important driver for commercial real estate demand, perhaps even more so in an online world where orders are individually picked, packed, and shipped to a doorstep. As millennials age, they are increasingly moving to more suburban locations where a lower cost of living makes it easier to purchase a home. Looking ahead, some of the metros expected to see the strongest domestic net migration gains over the next decade include Phoenix, Dallas, Miami, Houston, Las Vegas, Atlanta, Orlando, Tampa, Austin, and Seattle. The projected inflow of people to these cities will support demand for industrial real estate within them, and within the markets that support the delivery of goods with distribution hubs.
In the years ahead, e-commerce leasing activity and development will be concentrated on regional distribution centers that allow retailers to position inventory much closer to end-consumers, on return centers that help manage reverse logistics costs and recirculate returned inventory faster, and on urban locations that allow for rapid order fulfillment.
The Last Link is the Costliest
Last mile, final touch, and last link are just a few of the many terms used to refer to the final part of an e-commerce supply chain. The last link is the costliest part of the supply chain — often accounting for more than half of total supply chain costs — which explains why it will remain a key focus for occupiers. Attempting to control delivery costs while simultaneously ensuring speed and predictability is a tall task.
Changes in population densities have always been an important driver for commercial real estate demand, perhaps even more so in an online world. The last link is also one of the most important steps in delivery, as it is the point of contact with consumers whose expectations on service, flexibility, reliable delivery times, and speed are rising in tandem with the surge in online shopping. Compounding the challenge for retailers to rise to consumer expectations are higher transportation costs caused by increasing driver wages, fuel costs, and the number of vans needed for daily deliveries. Partial van loading, inefficient delivery routes, and separate returns trips are also contributing factors.
A general rule of thumb for last link facilities is to be within a 30-minute drive to a major city center and as close as possible to the first delivery point. Not every city, however, will require an urban-sited warehouse in the future. Deliveries in smaller cities and towns can often be effectively served from regional fulfillment centers where storing, picking, sorting, and shipping take place under one roof. Whether or not a last link is necessary must be determined on an individual market and property basis, but the growing number of retailers that must rely on proximity to consumers will shatter the logistics land price ceiling.
The Need for Speed Will Shatter Pricing
In the case of the last link, inefficiencies and costs converge around transportation, especially in dense urban areas. Although real estate is a small part of overall supply chain costs (typically 3–5 percent), it can make a big impact on controlling costs elsewhere. The trade-off of spending more on real estate costs through multiple warehouses or distribution centers can be an effective way to reduce transport distances, thereby reducing transportation costs.
The last link is the costliest part of the supply chain — often accounting for more than half of total supply chain costs. Investors and developers are primed to deliver more logistics space but are often challenged by a lack of rent pricing comparables to adequately underwrite the purchase of an expensive industrial-zoned site close to cities. At the same time, demand from retailers and 3PLs for just such locations is increasing. Eventually, more developers and investors will accept the risk to speculatively purchase these sites at prices that, until now, were only affordable for developers of other asset classes. Strong rental growth potential for last link depots puts logistics in the same revenue ballpark as traditional urban land uses. In fact, it is likely we are now at the beginning of that wave and news of record logistics land prices and rents will become a regular occurrence.
What’s on the Horizon for Industrial CRE?
According to Cushman & Wakefield’s North American Industrial Forecast, industrial asking rents are expected to reach a new nominal high of USD $6.97 per square foot by year-end 2022, and the growth will be broad-based across many markets in all regions. For the eighth consecutive year, net absorption in the U.S. will exceed 200 msf in 2021; we anticipate this streak will extend through 2022, further illustrating that industrial real estate is about as close to a “can’t miss” as it gets in the years ahead.
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