The Industrial and logistics market has been the top-performing sector in UK real estate over the past couple of years. An increase in e-commerce accelerated by Covid with an increasing demand for shorter delivery cycles has increased the need for smart technology and the use of automation. At the peak, in the first half of 2022, occupier demand for modern logistics space had never been higher with the pandemic highlighting the critical importance of resilient supply chains. With the backdrop of a faltering economy over the past 9 months however, we caught up with Partner, Rob Champion, to find out his thoughts on the outlook for the industrial and logistics market and whether he thinks demand is set to continue despite the current economic challenges.
“We entered 2023 under the cloud of a moderate recession with high inflation and rising interest rates, all of which have inevitably put downward pressure on growth. Faltering consumer demand resulting from inflationary pressures and geopolitical uncertainties impacts order volumes and business confidence which, in turn, affects plans for expansion and to upgrade premises.
“The market faces many challenges, logistics management is about providing the right product in the right place at the right time, and this is even more pertinent today when the customer delivery expectation is hours rather than days. Operational businesses are faced with high energy prices which are impacting transportation and occupational costs and now anticipate further overhead burden with the prospect of higher business rates following the April 2023 revaluation.
“On top of the higher cost environment, environmental, social and governance (ESG) agendas are increasingly influencing decision-making as sustainability becomes more critical both for occupiers and investors. There is the risk that older assets may become stranded or will require significant capital expenditure to keep them operational. The tightening regulations on Energy Performance Certificates (EPCs) will drive the need for upgrades on certain buildings over the next few years and beyond. The Government’s energy white paper set a minimum EPC rating requirement of C by 2027, with a B rating required by 2030 when CO2 emissions need to be reduced by 50% meaning that making both transportation and buildings resilient has now become a key priority.
“Quite rightly businesses are starting to grasp and react to the implications of the climate crisis, and this is also influenced by emerging regulations and policy including targets related to renewable energy, energy efficiency, green buildings and biodiversity enhancement. The industrial and logistics sector has been at the forefront of this for some time - the concept of green buildings and improving energy efficiency is something that the major developers have been committed to for well over a decade. Energy efficiency is now considered a priority and premises offering the greatest potential cost savings coupled with those that adopt new standards and regulations are proving to be more popular. Occupiers are increasingly demanding sustainable buildings and investors want to understand the energy and environmental credentials as part of their due diligence.
“Key influencing factors for locational decision making for occupiers are access to labour and, increasingly across the board, access to power. These attributes, alongside the obvious location close to key transport links, can limit operators’ options for relocation. The need to have the right building in the right place with the right features is dictating a drive towards more human-centred design as businesses recognise the need to factor in health and well-being to attract and retain a workforce. Developers are responding to this too through the delivery of industrial and logistics parks which have people at the forefront of the design of both the buildings and the surrounding environment. Enhanced green spaces are now embraced given their benefit not only to improved biodiversity but also to those employees working on the parks.
“The market has come a long way in the last 3 years and whilst we have seen a recent dip in market activity over the past 9 months as a direct result of higher interest rates and general economic turbulence, most of us in the market would agree and accept that the dizzy heights of record high land values and low yields in the first half of 2022 was an unsustainable bubble and we have been experiencing an inevitable adjustment.
“Despite the higher cost environment within which occupiers are operating, demand is continuing and whilst the surge in take-up by retailers directly has perhaps waned from its peak in 21/22, the appetite from 3rd Party Logistics providers (3PLs) has continued. The other driver of demand is manufacturing which itself has grown particularly following Brexit where businesses have either sought to bring certain elements of their production process closer to the consumer (a process referred to as ‘near shoring’) or have benefited from a rise in orders due to buying decisions being influenced by global supply chain inefficiencies or uncertainty, triggered by events such as the Suez Canal blockage in 2021.
“Industrial and logistics remain a key asset class within UK commercial real estate with supply chains being a crucial cog within the wider economy. Smart technology and smarter decision-making based on supply chain data are among the most significant logistics trends and these added to greater sustainability, will continue to be the central theme to maintaining a competitive edge for the effective storage and distribution of products. Provision of space that not only meets occupiers’ operational needs but also supports their broader goals for efficiency, health and safety and employee retention is a key factor and developers of these future buildings are reacting to this through the delivery of best-in-class products and are themselves working hard to drive down carbon emissions through the construction process as well.
“Whilst the recent, unexpected, crisis within the banking sector has prolonged the sense of ‘wait and see’ adopted by most institutional investors since the start of Q3 2022, there is very much a sense of an underlying intention to re-enter the market imminently, particularly from those who are less influenced by the need for debt. Investor confidence, yield stability and a continuation of market demand will underpin developers’ appetite to bring sites forward. This will be further influenced by evidence of construction cost inflation appearing to level off. A significant constraint on development however is planning where an inefficient and under-resourced system is holding back growth; the intended amendment of the National Planning Policy Framework (NPPF) by central government has applied the brakes to an already glacial system which is severely hampering both residential and commercial delivery and will add further supply pressures.
“Notwithstanding the challenges, the fundamentals of the occupational market remain robust with constrained supply across almost all size ranges and continuing demand resulting in further upward pressure on rents. Various external factors are having an inevitable impact on the quantum of demand and our expectation is that rental growth rates will slow but overall, we anticipate greater market stability leading to increased activity in the 2nd half of 2023 and into 2024.
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