Thursday 29th Sep 2016 - Logistics Manager

Small is beautiful

Investors are willing to fund ever smaller D&B warehouses but should occupiers be celebrating? Liza Helps investigates.

Eighteen months ago occupiers could not get funding to develop build-to-suit warehouses under 100,000 sq ft now there is a plethora of such facilities being built all around the country but should occupiers be celebrating?

The simple answer is: it depends. With ever tightening supply occupiers don’t have much choice when it comes to securing facilities. Indeed CBRE’s latest research notes that 71 per cent of all new building take up in the first three quarters of 2013 was design and build. The long term average is 42 per cent.

Paul Farrow of CBRE says: “The tide is now turning with vacancy rates across all size ranges at an all-time low, particularly in the core markets. Consequently occupiers are increasingly turning to design and build development to secure space.”

In its latest industrial and logistics report BNP Paribas Real Estate noted that there was a between 57.5 per cent rise in D&B development in the third quarter of 2013 when compared to the previous year.

Investment incentive

Rent levels and incentives have hardened making investing in logistics facilities extremely attractive to funds. Indeed such is the strength of demand and shortage of stock that for the first time in many years funds investing in logistics and industrial facilities are seeing returns outstripping the IPD property benchmark.

Industrial and logistics property has consistently outperformed the IPD benchmark, and the improved debt market and reallocation of portfolios away from gilts and equities has led to further focus on the asset class. According to CBRE, over £1.03 billion of capital was invested in such UK property in the first half of 2013.

Richard Moffitt of CBRE says: “We have witnessed a resurgence in buyers eyeing quality UK industrial and logistics property this year, driven by compelling evidence of the sector’s performance relative to other asset classes. Occupier markets continue to thrive, and the resulting lack of prime stock has led to a surge in design and build activity in the best markets.”

Pundits are bullish. Gerald Eve’s latest Prime Logistics report says: “At the end of Q3, we recorded a 10.5 per cent availability rate for all qualities of space, and, an incredibly low 1.6 per cent availability rate for new or refurbished space. These low availability rates have left occupiers with very little choice of built stock and have put landlords in very strong negotiating positions.

“Incentive packages continue to be squeezed, and in certain core markets in the Midlands, we have recorded growth in prime rents during Q3. Following some localised increases at the start of 2013, UK industrial prime rents are beginning to regain some of the ground lost since 2007 and are showing signs of sustained growth.”

It is not surprising then that Gerald Eve has forecast 8.2 per cent total return for distribution warehouses for 2013 and 9.7 per cent for 2014. The positive effect yield movements are expected to have on capital values in 2014 will help boost overall returns and we expect rental growth to reach 2.5 per cent per year by the end of 2017.

Simon Lloyd of DTZ is more cautious: “As far as the prospect of rental growth goes in next few years, we are predicting 1.5 per cent per annum.”

Why should any of this be good for occupiers?  Lloyd continues: “With rental growth income from investment growing, the investment itself becomes a more attractive investment. Because the investment is worth more money it can accommodate the higher costs of developing smaller buildings and still get the required return of investment. This also means it can flex the lease terms and still get those returns it requires.”

Occupiers looking for a bulk standard traditional warehouse in a prime location can get those building on exceedingly good lease terms. Hi-Logistics has just secured a five year lease on a 165,200 sq ft build-to-suit warehouse with Prologis at its Prologis Ryton development in the West Midlands.

However, notes Nick Waddington of BNP Paribas real Estate: “That is a standard institutional building which just happens to fit. I don’t think could prove a bespoke D&B opportunity on a short term lease – it just would not be attractive to investors who would be worried about being able to re-let the facility when the lease came to an end.”

Parcel power

Parcel operators are increasingly opting for the build-to-suit route as their facilities are exceedingly bespoke with low density land hungry facilities requiring cross fed cross dock depots with large circulation yards – not exactly traditional.

How are they securing funding Shaun Galvin of sbh, which is advising DPD GeoPost on its £75 million depot investment programme, says: “In return for the right building in the right place, GeoPost have been prepared to take a 20 year lease term certain at a rent to reflect the extra-over land take and enhanced specification required. We have not come across any issues with the selected developers’ funding of those units delivered and/or in the pipeline to date, presumably because of the quality of the tenant entity and length of lease.”

Parcel hubs have provoked a great deal of interest in the investment market despite not being traditional.  Galvin says: “There has been a noticeable shift in the level of interest in this type of facility, probably because the market has finally woken up to what the occupiers now want/need to service the e-commerce sectors and what they are prepared to offer in return i.e. a long term lease. This type of parcels facility is now seen as an important part of the future face of distribution, alongside other noticeable developments such as the supermarket dark store/home delivery hubs and pure cross dock facilities for the transfer/breakdown/consolidation of inbound and outbound freight.

“DPD see this type of facility as essential/strategic to the efficient operation of their business alongside the expensive sortation kit that they contain and as such they are keen to secure such facilities on long term leases in the right locations serving their target markets.”

Flexibility and compromise is thus the key. Occupiers looking to small bespoke facilities will have to be prepared to pay higher rents and accept longer leases while those happy to take more traditional properties in prime locations on a more make do and mend basis are more likely to secure comparatively better deals.