It has been my life’s work to understand and evaluate risk and to stay abreast of trends affecting various sectors of the alternative investment marketplace. As the pandemic has worn on, investment capital has sought safety and income, which has contributed to increased demand for industrial properties and programs. Increasing ecommerce, already a growing trend prior to Covid, is adding to sector growth. However, all industrial transactions are not created equal. One has to be cognizant of property pricing and unique risk factors that can impact investors’ potential returns. Key factors to consider include:
- Potential Inflated Pricing. Examples include a) a new, vacant industrial property priced almost identically to fully leased properties in the same area, ignoring leasing risk. Leasing risk is not just the amount of time the space remains un-leased but also includes leasing commissions, any tenant improvements, real estate taxes and insurance, and any mortgage holding costs associated with the property, b) Properties with shorter term lease expirations being priced similarly to fully leased, longer term lease properties. In these cases, pricing and risk are impacted by more than just the going in purchase price.
- State of Brick and Mortar Retail Sector. Brick and mortar retail was trending down before Covid and has continued to suffer greatly, with more retail bankruptcies expected. Most of these stores, both big and small, have been using logistic centers and warehouses. The growth in ecommerce can help offset some of these losses, but there will likely not be a one-to-one trade off.
- Changing Rental Structures and Impact on Industrial. Historically brick and mortar retail rents were significantly higher than industrial, so nearby industrial was used to allow retailers to have a smaller individual footprint, and perhaps more stores. Ecommerce focus has been on fewer stores and more economical industrial space. Brick and mortar rent rates have been declining, closing the gap in cost compared to industrial. This could give retailers a better opportunity to compete more effectively.
- Changing Tenant Needs Within the Industrial Space. Ecommerce tends to use industrial space differently, so demand will vary between types of industrial space (fulfillment centers, logistics hubs, etc). The demand for newer industrial properly outfitted is higher, and is a factor in why there is so much mispricing in the sector (i.e.: a traditional distribution center being priced similarly to state of the art center).
- Demand for Cold Storage. Demand for cold storage was growing prior to Covid, and that trend will likely continue. Added short term demand may come from Covid vaccines, that shouldn’t be counted on long term.
- International Trade and US Politics. If the new administration embraces a policy that is more favorable to free trade with China, it may have a negative impact on US industrial space and there would likely be some change in geographically important markets (i.e.: coastal shipping markets).
Conclusion: The outlook for industrial properties overall looks bright. But as the US and global economies continue to change it will be important to continue to evaluate both the asset class and property acquisition strategies using a critical eye toward reasonable pricing and risk profile.
Source: Real Assets Adviser Newsline 12/3/20
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