The improving economic outlook has had a significant impact on occupier demand in the distribution warehouse sector.
Total take-up for 2013 of warehouses over 100,000 sq ft amounted to 20.2 million sq ft, some 2% above the 10 year average of 19.8 million sq ft. In recent years retailers and particularly food retailers have dominated occupier demand but 2013 has seen a wider variety of occupier activity.
As competition for e-tailing has strengthened, so demand from parcel companies and third party logistics has increased, as they rapidly develop their networks. Growth in parcel delivery centred across urban conurbations is breathing new life into multi-let industrial estates.
Supermarkets continue to improve their e-fulfilment networks. As the need for quicker delivery times increases, competition for urban logistics – smaller distribution hubs near cities – is likely to intensify. Food retailers are also adapting their strategies.
A surge in the automotive export market has increased demand for space from third-party distributors and parts manufacturers particularly around Birmingham, Liverpool and the North East. With the lack of bespoke supply, the challenge for the property sector is to respond to the increase in demand. Activity has increased with the preference for the automotive industry to keep suppliers close at hand, “just in time deliveries” and the improvement in manufacturing generally.
Increased demand and requirements in the market are outstripping availability of quality space. Design and build construction continues to dominate new supply as occupiers have increasingly specialised requirements and viability and financing remain concerns.
However, improvements in occupier and investment markets will slowly increase the appetite for speculative development. This resumed on a small scale during 2013. Developers and investors are venturing further up the risk curve and a number of cash-positive funds have returned to the market. Standing investments are harder to find and so there is more money available for development.
The volume of construction orders for factories and warehouses at Q4. 2013 was at the highest level since 2008, 9% up on the previous quarter and almost double that of a year earlier. For prime buildings in the best locations, landlords are holding out for improved terms, including reduced incentives, longer leases and good covenants.
Improving occupier confidence and positive sentiment around e-tailing has resulted in strong investor appetite for UK distribution property. Industrial property is looking an increasingly attractive asset class, providing high income returns and comparatively mild fluctuations in rental growth.
Demand from income buyers who require long leases and investment grade covenants remains incredibly strong. Most institutional investors as well as private overseas and sovereign wealth funds have well publicised requirements for this type of stock and yields of sub 5% are achievable assuming the appropriate covenant, lease length and fixed increases.
Equally, due to the hardening of yields in the South East and improving national occupational picture, demand for quality regional distribution units let on medium-term leases has considerably improved over the past six months. As the availability of units in many locations is falling, investors’ perceptions of risk are improving and therefore yields have hardened. For good quality units let on medium term leases yields are breaking the 6% mark.
The increased interest in the sector, together with the weight of capital and improving occupational picture is creating a speculative funding market for top locations with good interest from institutional investors. Investment volumes in the UK in 2013 amounted to £2.9bn, which compares to £1.8bn in 2012 and a five-year average of £1.9bn. Whereas overseas investment amounted to 40% over the previous two years, UK institutions and property companies doubled their spend in 2013 compared to 2012.
Distribution warehouse capital values have been rising since May last year, resulting in an increase of 7.2% for 2013 and a total return of 15.1%. This compares to all property total returns at 10.7%. With the regional markets now attracting strong sentiment we have upgraded our outlook for investment performance.
We expect total returns of 18.2% in 2014, driven by further downward yield movement and higher rental growth, although this is forecast to moderate to 11.7% in 2015.
Danny Cramman, head of Industrial Agency, GVA, Newcastle