Up-and-away industrial rents

- Advertisement -
- Advertisement -

Around the world, rising interest rates, high inflation and geo-political risks are backdropping a more challenging and volatile business environment.

Bayleys’ global real estate partner Knight Frank says in its latest The State of Logistics: Asia-Pacific Focus Report 2023, the logistics sector’s strong fundamentals will ensure its resilience in the face of these challenges despite an easing of “just-in-case” inventory management strategies that emerged during the pandemic, and lower online transaction volumes.

When supply-chains were fractured, there was frenetic competition for institutional-grade logistics assets as larger occupiers acquired more space than normal in anticipation of more consumer demand for products which in turn, drove rental growth to record levels.

Vacancy remains tight and rents keep rising

In the New Zealand context, Bayleys’ head of insights, data and consulting, Chris Farhi says coming into 2023, there was a prevailing sense that the pressure might be coming off industrial rents and that demand for warehousing space could be pegged back, but this is yet to transpire.

“Because of the general slowdown in the economy and the fact that by the end of last year, commentators were widely tipping that New Zealand was heading into a technical recession given GDP indicators, those at the coal-face of the industrial market were anticipating rental rates to stabilise,” says Farhi.

“Additionally, we thought that with supply chain dynamics settling down, and the ‘just-in-case’ inventory stockpiling that we’d seen in the market for a couple of years likely to tap off, some of the pressures on warehousing could start to resolve.

“However, vacancy levels are still exceedingly tight with pent-up demand for space and this has driven industrial rents to unprecedented levels”.

Farhi says any new supply to the market has pushed average rental rates up as landlords look to offset escalating construction, and financing costs and with higher yields putting downwards pressure on valuations.

“The development feasibility matrix has been crushed from all angles and industrial occupiers looking to rent brand new stock could be taken aback at the going rate – particularly if their existing lease had not been reset to the market for some time or they were looking to upgrade to state-of-the-art premises with optimal sustainability and amenity credentials.

“Developers are more cautious in the current environment and are carefully weighing potential returns against heightened risks.”

Waitlists for space

Bayleys’ national director industrial, Scott Campbell says benchmark rents have been persistently growing for industrial stock across most of the major centres.

He says landlords have the advantage in the current market and this is not likely to change given the unrelenting squeeze on space and exacerbated by a decrease in the number of industrial building consents issued for new stock.

“As long as high inflation exists and interest rates keep rising, rents will rise, so tenants have to accept rental escalation because there’s actually very little they can do to stem the tide given the main common ground between property owners and occupiers is one party owns the space, and the other party needs space.

“Bayleys’ tangible point of difference in the market is the amount of deal flow through our leasing network and the fingers we have on the market pulse which shows not just how quickly stock is being absorbed, but reveals a line of tenants waiting in the wings.

“We’re looking at how rental rates are tracking and monitoring transaction times, and frankly the speed at which properties are leasing is astounding – particularly when compared to other sectors like office, for example, where despite reasonable demand, the timeframes for leasing tend to be more drawn-out.

“We’re talking weeks not months for industrial space, with multiple viewings, and many agents reporting that they are effectively running waitlists for space.”

Campbell says while construction costs may have stopped rising at the levels seen in the last couple of years, they’re still elevated.

Wage costs are still increasing and the cost of debt remains high so developers are understandably hesitant to progress new projects, despite low nationwide vacancy levels.

“Realistically, land costs would have to drop to make the development equation stack up for a developer in the current climate.

“Recently completed new-builds in the major centres are commanding premium rents that are significantly higher than existing rents, and occupiers may have to start looking for space outside of their core area to get cost efficiencies from more affordable space.

“We also note a differential in rental rates between prime and secondary stock of around 10-15 percent, and with occupier sentiment placing increased emphasis on sustainability credentials for operational efficiencies and other ESG-driven initiatives like staff well-being, landlords are accepting that they will have to refurbish secondary-grade facilities to mesh with occupier strategies.”

Savvy budgeting required

Campbell says occupiers that are renewing leases are all facing rent hikes and must do diligent forward budgeting to reflect these escalations and establish where the likely new lease term range may be as inevitably, it will surpass the levels that might be forecast through generic budgeting analysis.

“All leases today are being structured to factor in rental increases whether via annual fixed increases, benchmarked to CPI or market or a combinations of these rental growth mechanisms, with landlords being far more astute about market rent reviews and with no need for tenant incentives given the demand-
supply dynamics.

“For new leases, occupiers should expect 3-4 percent annual growth over the term of the lease and those seeking new premises should have a clear exit strategy, brace themselves for competition and be prepared to commit quickly.

“While we haven’t seen evidence of rental auctions, this has merit for landlords as naturally they are looking to extract as much rental as they can for a property while effectively balancing risk through longer lease terms.

“We did see a ‘best-foot-forward’ deadline leasing campaign for a property last year and it remains to be seen whether supply stresses will see this emerge as a market trend.”

Capacity for rental growth remains

“In some instances, occupiers are prepared to lock in a lease for a site with scale, then sublease components until they grow into the space if their lease agreement allows this,” says Campbell.

“Businesses that are anticipating growth are proactively building future capacity into their hunt for space and in that regard, there’s a distinct advantage in leasing space from a landlord with a broad portfolio given they have ability to move occupiers around to right-size space.”

Campbell says while it’s not what occupiers want to hear, rents are unlikely to drop. “They may plateau but we can’t find a good supporting reason for rents to go down.

“However, as the world resets and supply chain logistics have more certainty around them, some normalcy should return to inventory held by some businesses so those occupiers that no longer need to hold high levels of stock may start shedding some space which could take some pressure off available supply.”

Read More: Making an office fit-for-purpose

- Advertisement -

Related Articles