Power a concern for logistics as more availability issues loom

Logistics real estate is increasingly affected by the need for greater sustainability, but the pressure to raise the ESG standards on assets is coming from all directions.

“We’ve definitely seen a marked change, said Savills’ European industrial and logistics research analyst Andrew Blennerhassett at Real Asset Media’s event European Outlook 2023 – Focus on Logistics, staged recently at the London office of law firm TaylorWessing.

“There’s definitely significantly more interest in ESG-rated assets because occupiers want them and because investors want them in terms of their own ESG credentials.”

TaylorWessing Partner Christopher Turley agreed that “sustainability and corporate responsibility, are touching everything on the investment side,” whether raising funds, as institutional investors, and, increasingly, private investors. “They’ll be asking about sustainability criteria. If you work back from that, in order to attract or be most attractive you need to have sustainability at the forefront.” And he added: “It needs to be real, It can’t be a token gesture.”

Andrew Creighton, Head of Investment Management, Europe, Cromwell Property Group, said that the point has been reached where ESG is “absolutely central” to everybody’s investment strategies.

“In our world of investment management, when you’re looking at RFPs [request for proposal] to win new business, you cannot proceed to the next stage if you do not have a full and proper response to the various questions that are related to sustainability. You’ll get knocked out of any any opportunity. So I think that is that is absolutely critical.

Procuring green energy is now a basic requirement too. Creighton said that his company has blanket requirements across all logistics unit managed on behalf of clients that they have photovoltaic panels.

“Tenants have been pretty uninterested in talking to us about it, but now, funnily enough, they are more than interested and are knocking on our door.”

Will Prewer, capital markets UK, Ireland & EMEA for DHL Supply Chain, said one of the key factors for him is the ability to be gasless. Ground source heat-pumps are part of this ability. “Depending on the size, structure and volume of building, they’re a big power user, so you’ve got a situation where the power requirements for any estate, building, whatever, are going to be going up, not down.”

While buildings will be greener where power grids are under strain continuity and consistency of power can be a problem.

Photovoltaic panels can be part of the solution. “But in some geographies you therefore need a battery storage solution because you only have light for so much of the day. If you have a grey day in the UK you don’t generate that much power.”

Netherlands-based VerusSol founder and CEO Joost Leendertse concurred that securing power resilience is going to be key to being “green” and achieving ESG credentials, particularly where you can’t produce power yourself. “We are going to electrify more and more and I think we will be have to double the amount of electrification and it all needs to be green energy.”

There are limitations depending on location too, Prewer pointed out. “The availability of green power in some geographies just isn’t there yet which is again the reason for trying to create resilience. So it’s a cycle.”

Although all property stakeholders have accepted the need to adopt ESG principles, from a regulatory point of view there is “a looming deadline” said Blennerhassett, after which some assets may be deemed no longer fit for use.

“What we will potentially see is either that those deadlines will have to be pushed back while a substantial amount of stock is going to have to be retrofitted.”

There are several implications of this. The already limited supply in the market is going to be even more limited which “will have a substantial effect in terms of values and rents that those assets can achieve.”

Furthermore, retrofitting may not be straightforward. One looming problem is the shortage of labour with the specialist skills required for this sort of work. “Those occupiers and asset owners that haven’t looked to retrofit may find that they’re struggling to find the resources they need to actually get their assets up to that level.”

Affordability of logistics space helps steady occupier demand

Given the current economic headwinds that are challenging real estate markets in Europe, all segments of property could perhaps be expected to be similarly adversely affected from both the investment and occupier aspects.

Logistics, however, is “one of the few property segments in which the occupational market is still relatively quite strong,” as Hines head of European logistics, senior managing director Logan Smith pointed out at Real Asset Media’s event European Outlook 2023 – Focus on Logistics, staged recently at the London office of law firm TaylorWessing.

“Obviously, things are softer for logistics: Every single asset class on planet Earth has repriced over the last three to six months and logistics is no exception,” Smith said. “But, when you look at what’s happening, it’s still driven by occupiers who need space.”

The extent of logistics’ robustness is in sharp contrast to other market segments but there are some paradoxical characteristics of the current market.

“I’m a little shocked in a sense that we’ve seen the market rental growth that we have over the past couple of years,” Smith said. “And, a couple of markets where we are seeing the weakest absorption, such as Paris, are in fact the ones where you’ve seen the highest level of growth.”

Financing logistics assets is also less straightforward than previously

“Everyone’s debt is more expensive, in logistics as it is everywhere else in the world. And it’s more difficult to underwrite exit cap rates. But there’s still a lot of capital that’s interested in logistics and, of all of the sectors within commercial real estate, we still have relatively strong tenant demand, and there is still a lot of equity to go.”

Cromwell Property Group head of investment management, Europe, Andrew Creighton shared the sentiment. “There’s a huge amount of capital trying to get into real estate generally, and the favoured asset class remains logistics.”

However, Creighton said that it is necessary to premise the statement in terms of private equity money trying to get into the marketplace. “They’re building up their reserves, and of course, generally that source of equity normally staples debt on to what they’re trying to do. Obviously that’s been challenged in the last six months.”

One key attraction of the logistics assets is that rents are still affordable for occupiers.

“When you look at the percentage of occupational cost which goes towards rent, it is still very limited. Labour is the number one [cost], and that is very stressed at the moment, then you’ve got energy costs, then you’ve got inflation, but as a percentage, rent is tiny and still very affordable.”

Will Prewer of DHL Supply Chain capital markets UK, Ireland and EMEA said that there are many drivers still finding their equilibrium in terms of rebalancing nearshoring and there has been a shift  towards using third party logistics companies.

“A few people are pausing just to see what the outlook is. We’re not the only people who are experiencing increased cost of debt, but fundamentally there is still a robust pipeline for us.”

Price can be an issue as Taylor Wessing partner Christopher Turley pointed out. “We haven’t yet reached the agreement between seller expectations and buyer expectations and we remain in this period of too late to sell, too early to buy. We are starting to see that narrowing though.”