The Industrial Market – Now and in the future

Interview with LPC Industrial Director, Michael Raymond.

Henry: “What impact has the pandemic had on the industrial market, particularly for tenants?”

Michael: “Firstly, to give it some context, the industrial market over the last 3 years has been on a rapid growth path off the back of e-commerce, with limited supply, low vacancies, and an ongoing flight to quality. As a result, leases over that period have been in favour of landlords.  Given the strength of the market off the back of this unprecedented demand, we were also starting to see speculative development before the onset of COVID.

It’s well documented that the pandemic and enforced lockdowns lead to a marked increase in online transactions. Other sectors to “benefit” from COVID were the logistics, transportation, and the food sector all big users of industrial space. On the other hand, SMEs are the most likely to have had their businesses impacted, the “mums and dads” and local service industries – crash repairs, cabinet makers, mechanics, and the like. You would hope these businesses have sought and received rental assistance from their Landlords.”

Henry: “Overall, what has that meant for rents and incentives?”

Michael: “There have been some regions that have seen a stagnation or slight downward shift in rents, however the most noticeable shift has been an increase in incentives. They are certainly not at office or retail levels, but in some cases have started to shift from sub 10% to between 15 and 20%. The good quality stock has been the most resilient, such as prime warehouses over 5,000 square metres, where rents have largely remained stable, but incentives have increased slightly."

Henry: “What about on the smaller end of the market?”

Michael: “In some regions, we have seen secondary market rents come down marginally in addition to an increase in incentives. With a good portion of secondary space in private hands, owners are more concerned about keeping their buildings occupied and having cashflow, rather than just maintaining face rents.”

Henry: “How are warehouses evolving to meet new tenant demands? Has there been a seismic shift?”

Michael: “Real changes have been towards the larger end of the market, and while we haven’t seen a seismic change to the market, trends are accelerating and we’re now seeing pre-commitments to new purpose-built warehouses which are really quite revolutionary. Major distributors are not only considering warehouses by lettable area, but also by volume. With advancements in automation and robotics, plus the ability to rack products up to 9 metres high, volume has become a key metric.  For the major players, today’s warehouses are a sophisticated, technology-driven workplace. 

There are also locational changes due to e-commerce, and organisations are focussing on getting their distribution network right. The current state of play is to have large distribution centres away from the CBD where the land is less expensive. This is great for a central distribution hub where you can keep all of your stock for that particular region, however last-mile logistics have seen a need for smaller warehouses closer to the CBD. These warehouses are for high volume e-commerce items that purchasers want within 1-2 hours.”

Henry: “What’s the challenge for last-mile logistics?”

Michael: “Well, traditional inner-city industrial land where they want to be located, is facing residential and mixed-use encroachment to satisfy rising populations. Because of the scarcity of land, multi-level warehousing is being contemplated. To date, this is something that has only been seen in high-density areas such as Hong Kong and Singapore until very recently, but some of the more sophisticated industrial REITs are beginning to consider multi-level warehouses”

Henry: “What have been some of the changes to leases agreements as a result of the pandemic?”

Michael: “Overall, there is a better opportunity to negotiate and maximise incentives. Beyond that, tenant’s need far greater flexibility, and should be seeking to incorporate expansion and contraction rights into lease agreements, allowing them to add or reduce space depending on where the business is going. Ratchet clauses, which prevent rents from decreasing upon a market rent review, have been an important focus for landlords. In some cases, landlords have been accepting Cap and Collars though, which are a watered-down version."
 

Henry: “Where do you expect the market to be in 2021?”

Michael: “It would be great to have a crystal ball. It makes it tough when a large part is dependent on a vaccine. We are getting pretty close to 2021 though, so the first 6 months are likely to be a continuation of current market conditions. It will certainly be interesting as government initiatives begin to drop off, particularly for SMEs, which could see further pressure on rents and incentives. I would also anticipate that the growth we have seen over the past 6 months in e-commerce will continue – perhaps not at the same rate, but there will be growth.

We may also see some organisations consider a restructure of their operations, given the ongoing impacts on supply chains and potential disruptions. That could include increasing storage capacity for inventory, or onshoring manufacturing – particularly those that can automate their manufacturing process, but this will come at a significant capital investment.”

How can LPC help?

At LPC, we help tenants across Australia and New Zealand with their commercial real estate needs, including transaction advisory, portfolio management and project management.