Is the Supply Chain Disruption a CRE Problem?

Supply chain shortages dramatically affect American commercial real estate, particularly the multi-family residential and industrial sectors. In the latter, the demand for space, fueled by the increase in e-commerce retail buying, is at an all-time high. To cope with this, box chain stores such as Amazon, Costco, and Walmart have taken the step to own, rather than rent, their warehouse space. However, with materials idling on cargo ships in the ocean, the ability to scale up to meet demand is proving difficult.

“Many clients who are looking to develop, they’re not able to get steel to construct their buildings right now through 2022,” Jason Tolliver, an executive managing director at CRE firm Cushman & Wakefield who leads the company’s logistics and industrial investor business in the Americas told the Wall Street Journal.

Cushman & Wakefield said they monitored the national vacancy rate for industrial real estate to be at 4.1%, the lowest since 1995. The lack of space has sparked an increase in demand, with CBRE reporting a 10.4% year-over-year increase in rental prices in Q3 2021, which has resulted in a record high of $8.92 a square foot.

 

Retailers are now major players in industrial real estate

Compounding this is the increase in shipping costs, which results in high prices on the shelves. As companies attempt to alleviate the pressure by buying industrial space to offset supply chain bottlenecks, they are becoming property owners at an alarming rate. The 25 largest U.S. retailers acquired about 38 million rentable square feet in new industrial space in 2020, doubling the previous year’s total CRE data provider Co-Star Group Inc reported, the highest total for a decade.

Unsurprisingly Amazon tops the charts as the largest corporate owner of U.S. industrial real estate space with 78 buildings, spanning 83.6 million square feet according to the data and research firm Real Capital Analytics.

“These properties are essential to getting the goods that you need into the country and flowing through the supply chain to the consumer,” Juan Arias, a senior consultant at CoStar, told the Wall Street Journal.

 

A look at the long-term effects on CRE of supply chain issues

The irony of the supply chain issues is that many e-commerce retailers are flush with cash and are keen to invest it in real estate to be more self-sufficient as big-tech firms have done with office space. However, the lag in having access to building supplies is holding up the show. Ultimately, though, Moody’s Analytics predicts that industrial real estate and large multi-unit real estate will benefit from supply chain issues. Firstly, it will drive up the price of existing CRE, which is good for owners and developers. Secondly, it will force a certain amount of reshoring as retailers look to manufacture products in the U.S. to circumnavigate spiraling shipping and transportation costs. This will lead to the creation of more manufacturing plants, further increasing demand for industrial real estate as former large retail centers and repurposed and new facilities are built.

 

How shipping costs affect rents

A recent CBRE report from its Supply Chain Advisory group broke down the numbers of shipping’s effect on rent, noting that transportation costs are rising faster than industrial rents. Transportation costs can account for 50 to 70 percent of a U.S. company’s total logistics spend compared to fixed facility costs, including rents, which comprise about 3 to 6 percent.

“We hear from occupier clients willing to pay that rent, willing to pay even higher rent because they need to be in those markets. They need to be close to the ports and need to be near major population markets to cut down on transportation costs,” James Breeze, Global Head of Industrial and Logistics Research CBRE, said.

Joe Dunlap, managing director of CBRE, also chimed in on the issue, noting that there have been increases in ocean freight rates of 250% or more compared with the prior year. Ground transportation cost is up by 40% to 50%, and air freight by around 15%. All of that directly affects the price of real estate. Specifically, he states that an 8% to 10% increase in real-estate costs is required in response to a 1% increase in transportation expenses.

 

Fulfillment centers are being built closer to larger markets

To make supply chains less dependent on logistics, fulfillment centers are now being built closer to population centers. Walmart developed a leading B2C model where 90 percent of Americans live within 10 miles of a physical Walmart store allowing Walmart to use a buy online pick up at the store model, cutting down on transportation costs. Amazon, however, uses e-commerce warehouses to deliver directly to the consumer, locating its most recent distribution centers close to major markets, as was recently the case with the purchase of a property in one of Pittsburgh’s formerly most bustling retail centers.

 

Supply chain issues will have a much harder impact on multi-family real estate

With residential apartment buildings, logistics issues are even more pressing with finishes such as cabinets and flooring delaying construction projects, stressing budgets, and holding costs. Unlike e-commerce or cash-rich tech companies, residential developers rely on completing projects to turn a profit. Compounding the issue has been the lack of housing inventory and the greater need for apartments as office employees switch to remote working.

“None of these projects are being planned with huge cushions. The viability of these projects is resting on a fairly thin margin, to begin with,” reintelligent.com reported Christopher Ptomey, executive director of the Urban Land Institute’s Terwilliger Center for Housing, telling CoStar in an interview about the materials shortage’s impact on apartments.

 

Conclusion

While supply chain issues could spark a homegrown manufacturing and industrial development wave in the U.S. in the long run, there are pressing issues to overcome in the short term. With industrial real estate space at a premium, e-commerce sites can use vacant malls as distribution centers or pick-up locations. But, for multi-family developments, where margins are tight, delays of many months could prove a serious financial handicap for developers, which will have to be accounted for by price increases.

January 4, 2022

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