While COVID-19 posed great threats to all business in all sectors, it garnered particular fear in the industrial and logistics real estate sector, and for good reason. As news circulated about the surge in Wuhan, China, a known manufacturing hub that is one cog in a much greater machine, reasons for concern seemed to multiply. Despair seemed cyclical — supply-chain disruptions diminished company revenue which, paired with the reduction in consumer spending, diminished the need for supply. For a moment, the demand for warehouses and distribution centers seemed to be on an inevitable decline.
But time has revealed a truer story, and the outlook of the industrial and logistics industry is showing nearly unparalleled resistance. To understand, and to trust, the unwavering demand for distribution spaces amid a global recession, it’s imperative to consider the new drivers of demand in the COVID-19 economy, and to observe the shifts in supply-chain strategies that will make warehouse properties some of the best performing property types moving forward.
The Demand Triad
In CBRE’s Midyear Review on the Global Real Estate Market Outlook, the demand in the industrial and logistics sector has three main sources. First, and perhaps most impactful, is the e-commerce boom. An extension of an already growing trend, virtual shopping and online sales have had a huge impact on the makeup of the industrial sector since the COVID-19 pandemic. Everything from food and clothes to home decor is being bought online, requiring distribution facilities in much greater numbers. In 2019, e-commerce made up 17% of total retail sales in the 10 countries with the highest retail output — a figure that’s expected to rise to 21% by 2021.
Another prediction is the increase of “safety inventory.” Through the pandemic, backlogged demand and purchase surges have changed the mindset of retailers and manufacturers. Many business owners are choosing to increase their stock in storage, in order to be adequately prepared for similarly unpredictable buyer behavior. A strategy that’s currently widely adopted, an increase in safety inventory will also drive demand for warehouse space.
The final source of increased demand is the ensuing adaptations to supply-chain strategy. As most supply chains today operate on multi-tiered set ups, where one warehouse feeds to another, the impact of COVID-19 caused bottleneck effects in many places, and the inefficiencies of the multi-channel approach were exposed. It’s to be expected that retailers shift their strategy, taking an omnichannel approach to distribution as has been done in the past.
Demand in Different Places
In the process of expanding their e-commerce distribution networks, retailers are likely to diversify their demand in terms of location. Disruptions caused by the pandemic, and the pre-existing trade tariffs between China and the U.S., are driving interest away from China and into the industrial markets of Asia, Europe, Mexico, and locally in the U.S. More and more retailers are adding manufacturing facilities outside of China, in addition to their operations already in place, to decrease the chance of future bottleneck effects. With the emphasis on ensuring supply-chain resilience, the industrial market will be favorably decentralized.
During the recession, industrial markets near populated areas will continue to pose low risk. Instead, secondary and tertiary suburban markets — areas more dependent on localized economics — will reflect the inevitable downturn taking place in the market. But due to the holistic market outlook, there’s no reason to assume such a softening to have permanence, and these areas could provide investors high-yield opportunities in the long run.
Demand will also manifest differently across industries serviced. Naturally, e-commerce occupiers will source some of the most predictable and unshakeable demand. But another growing industry is grocery, food and beverage. Food is one kind of good that is increasingly purchased online, fueling the need for grocery retailers to have new storage strategies. CRBE names medical, data providers, and national third-party logistics providers as other low-risk occupiers.
Lastly, demand will also differ across property type, with big-box space expected to be the safest bet. Larger blocks of space are preferred by retailers in the U.S. If demand for final-mile warehouses and distribution centers — where goods remain before they’re distributed to their final customer destination — increases as predicted, there might be steady demand for redevelopment projects in the coming years.
“Supply chain” is a term the coronavirus pandemic brings to mind, along with a certain kind of panic. But the surge in e-commerce, the need for safety inventory, and the exposed inefficiencies of the current multi-channel, centralized system is nothing but promising for the logistics and industrial sector. With every reason to expect a steady increase in demand for warehouses and distribution centers, this space in the real estate market will continue to show resilience as the economic effects of the pandemic continue to play out. For investors hoping to counter the weaknesses of other sectors, industrial real estate is an informed place to look.
Zain Jaffer is founder and CEO of investment firm Zain Ventures.
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