Amazon’s crushing impact on brick-and-mortar retail can be measured in many ways, but one of the most dramatic examples of e-commerce consequences is the contrast between the strong demand for warehouse space versus the glut of ground floor retail square footage on many major shopping corridors across the country.
According to CBRE, the average national rent for warehouse and distribution space has been growing at a 6 percent to 8 percent pace for several years, and advanced 6.4 percent year-over-year, which is two percentage points above the average annual growth rate since 2012. Net asking rents for industrial and logistics space increased 0.4 percent in the second quarter of 2019 compared to the same 2018 period to $7.50 a square foot, the highest level since CBRE began tracking the metric in 1989.
“That’s really significant growth,” said David Egan, CBRE’s global head of industrial and logistics research. “It’s unprecedented.
“If you look at the fundamentals of this type of industrial space, you’ll see that rents are still growing at an incredible pace,” Egan said. “Vacancy rates are very low, and while there’s new construction, there’s not enough. Investors that are acquiring warehouses look at them and say, ‘This is a good place to put our capital.’ As a result, lots of money is going there. Yet, despite the low vacancy rates and high rents, we’re not seeing the industrial supply grow.”
Blackstone Group LP’s recent agreement to acquire 179 million square feet of urban logistics properties, including warehouses used by Amazon and other retailers, for $18.7 billion from GLP Pte of Singapore, the second-biggest owner of U.S. logistics real estate, is an example of the strong valuation for industrial property.
Another big deal was last week’s Prologis announcement that it has signed an agreement to acquire the real estate assets of Industrial Property Trust Inc. for $3.99 billion, including the assumption and repayment of debt. The 37.5 million-square-foot portfolio consists of 238 properties and expands Prologis’ position in Southern California, the San Francisco Bay Area, Chicago, Atlanta, Dallas, Seattle and New Jersey.
Further bolstering the importance of industrial was the recent news that Walmart is restructuring its supply chain team as it doubles down on providing an omnichannel experience for consumers. The retail giant is integrating its team and bringing functions such as distribution, transportation and fulfillment under the leadership of Greg Smith, executive vice president of supply chain, as it invests in automation to improve efficiency.
Demand continues to outpace a four-year surge in warehouse development. In the second quarter of 2019, the sector had a historically low vacancy rate of 4.3 percent, while the under-construction pipeline grew 3.6 percent quarter-over-quarter to 293.2 million square feet. New supply delivered in the 2019 second quarter declined 1.9 percent versus the year-ago quarter to 41.4 million square feet, and dropped 20 percent year-over-year, according to CBRE Econometric Advisors.
CBRE ranked the regions building the most warehouse square footage, with the Inland Empire in first place with 23.4 million square feet, a 9.4 percent annual rent growth rate and 3.2 percent vacancy rate; Atlanta, 16.1 million square feet, 7.9 percent annual rent increase; Dallas/Ft. Worth, 15.2 million square feet, 3.2 percent increase in rent; PA/I-87/81 Corridor, 12.1 million, 4.9 percent; Chicago, 7.7 million, 2.9 percent, and New York/New Jersey, 7 million, 4.9 percent.
“E-commerce has driven a lot of changes in supply chains, which have fundamentally changed as consumers changed,” Egan said. “Stores have changed to the point where they’re ending up with more inventory. We’re living in a more on-demand world. We buy stuff and expect it to show up pretty quickly. A lot is driven by technology. There’s more inventory living inside the system, and that increasingly tends to be in warehouses, rather than stores. There’s the need to have inventory situated [in closer proximity to consumers] in more and more locations across the country.”
Egan added that “there’s pressure to figure out how the last mile will be serviced.”
“These are interesting and disruptive times for the real estate logistics business,” said Ben Conwell, senior managing director and project leader of the e-commerce fulfillment advisory group at Cushman & Wakefield. “The online world continues to be one of the drivers that has so disrupted the retail world. The whole nature of direct-to-consumer fulfillment is such a remarkable proposition compared with store replenishment. When we order individual skus for a retailer, that’s built on a distribution network of moving pallets” while fulfillment for an e-tailer involves picking and packing individual items.
Conwell said it’s easy for people to focus on Amazon, but large retailers such as Walmart and Target require enormous, highly automated distribution centers, too. Cushman divides properties into three types: those with 500,000 to 1 million square feet and located outside major urban areas; 200,000- to 400,000-square-foot fulfillment centers deep inside urban areas, and small last mile facilities, such as the one Amazon operates in Long Island City, N.Y. “There’s record demand for space for all three types of properties,” he said.
Egan isn’t convinced that using stores as fulfillment centers works. “There’s a lot of discussion about trying to get customers to pick orders up from stores, but by and large, if a consumer has made the decision to buy something online, they’ve made the decision not to go to the store.”
A consumer-facing store crossed with a back-of-the-house fulfillment center is a hard feat to pull off, Egan said. Retailers such as Walmart pressed into service a network of more than 5,500 locations that double as order-packing hubs.
“Trying to make a hybrid is difficult,” Egan said. “The store footprint is geared for discovery. That doesn’t work so well when you need to pick a digital item efficiently. The inventory is held differently, and for good reason. The store needs to be managed a different way. The big retailers with a lot of locations can make it work, in a sense. The locations are great, but the way the store is laid out is different. It’s a challenge to use an active, open retail environment as a fulfillment facility.”
Conwell agreed. “We see a tremendous investment by retailers in technology to make buy online, pick up in store seem seamless,” he said. “Statistically, we’re a long way from performing BOPIS with any success. It’s very expensive and high risk, but physical retailers will continue to invest to make the BOPIS experience more successful. The last stretch [of delivery] is the most expensive for an online order. If a consumer picks up in store, it saves the retailer a large amount. BOPIS has shaken up the paradigm of what portion inside that box is dedicated to selling space and what is back-of-the-house and logistics.
“There is a relationship between warehouses and retail rents,” Egan continued. “The retail market is stronger than conventional wisdom would suggest. It’s still growing and healthy. One way you can see the impact [of e-commerce] is the decrease in retail jobs and increase in warehouse jobs. The two offset each other perfectly.”
Retail employment continued its downward trend in June with the loss of 6,000 jobs. Since reaching a peak in January 2017, industry employment has declined by 167,000 or 1 percent, according to the U.S. Bureau of Labor and Statistics. Transportation and warehousing added 24,000 jobs in June. The sector has added an average of 9,000 jobs a month since January.
Garrick Brown, vice president, head of retail research at Cushman & Wakefield Americas, said major retailers and surface providers “are in a mad arms race to identify new technologies to drive out costs and increase speed. When we hear that clients are piloting technology for small robotic units that will deliver to homes, it’s not all ‘Lost in Space.’ In the next few years, that will become more common. As delivery technologies outside the warehouse improve and robotics continue to advance inside warehouses, increased efficiency will have some effect on the demand for warehouse space. But with e-commerce relentlessly growing market share and the number of units sold, we think demand for warehouses will continue.”
Conwell noted that e-commerce fulfillment centers not only require expensive robotics and other technology, they’re significantly larger than traditional retail replenishment distribution centers. “It takes from approximately 1.2 to 1.5 times the warehouse space to support the same amount of sales for e-commerce as it does a retail replenishment facility,” he said. “The same amount of sales that would require, say, 1 square foot of space for a physical retailer requires up to 1.5 square feet for an online player. There’s the added complexity of fulfilling ‘eaches’ online out of a facility versus pallets in and pallets or racks out, so another dimension is purely the demand for more space.
“Technology will continue to drive fulfillment centers to be taller to create more cubic space, but whether it’s square footage of floor space or pricier, taller buildings, these new-gen facilities aren’t our fathers’ warehouses,” Conwell added.