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As stores from California to New York shut to slow the spread of the novel coronavirus,Amazon.com Inc.’s massive fulfillment centers are a hive of activity. Demand for household staples has been so frenzied that the e-commerce giant istemporarily limiting shipments of nonessential items to its facilities. It also wants tohire 100,000 workers to improve operations—at a time when millions of people in other industries are likely to lose their jobs. The moves have underscored the value of a type of building that real estate investors were already snapping up: warehouses.
Last year,Blackstone Group Inc. bought more than $25 billion worth of industrial properties, which includewarehouses and logistics facilities, according to Real Capital Analytics. The private equity firm now owns more of this space in the U.S. than any group except real estate investment trustPrologis Inc., which has also been getting bigger through acquisitions. The two companies have about a billion square feet between them, more than their next 10 largest competitors combined, according toCBRE Group Inc.
In a world where online sellers are poised to accelerate their gain in market share, some see Blackstone, Prologis and other landlords benefiting from one of the few bright spots in a bleak investing landscape. “There’s no doubt that growing e-commerce sales is a secular tailwind that will persist no matter the economic environment, especially now that it’s impossible to buy something in a physical store,” says Eric Frankel, a senior analyst at Green Street Advisors. “That’s the main bullish thesis of why industrial is going to be OK.” But the depth of the recession the U.S. is facing puts investments in even the most essential businesses under a cloud.
Well before the coronavirus, real estate investors were drawn to the fundamentals of warehouses—and were paying high prices for them. The supply of space close to cities that’s needed for last-mile delivery was particularly tight, and vacancy rates across the industry have hovered below 5%. That’s allowed landlords to pass along regular rent increases to tenants, helping to boost the value of these properties by 34% in the three years that ended Feb. 29, according to Green Street.
Even with robust demand from the likes of Amazon, those valuations are now in question. The need for warehouses closely tracks economic activity. (To underscore the point, Prologis has boasted that 2.5% of global gross domestic product passes through its distribution centers.) A worldwide slowdown will remove some, if not all, of landlords’ pricing power. Net operating income for the sector dipped during the previous recession.
E-commerce is also only a fraction of warehouse demand. Much of the space is used by industries that are going to struggle through the downturn—from auto manufacturing to the oil and gas sector. While the need for space will probably hold up better than in the last recession, “there are things you just don’t think about that are going to be impacted,” says Frankel.
Already, some tenants have started to ask to delay rent payments because of the pandemic, says Jeff Cannon, an executive managing director in Southern California for real estate brokerage Savills. But the economic fallout hasn’t yet translated to lower lease rates for his clients, he says. “The disconnect is that the tenant wants relief, but the marketplace is still tight as a drum in terms of supply.”
So far, investors have shown less concern about debt underpinning industrial real estate than they have for, say, loans on retail space. Prologis and most of the other publicly traded REITs that own warehouses aren’t too leveraged, which should allow them to get through a rough period, according to Frankel. “It’s still essentially the safest commercial property type to invest in,” says James Breeze, CBRE’s global head of industrial and logistics research.
A drop in warehouse values may even entice some players to further consolidate the industry, says Lindsay Dutch, an analyst at Bloomberg Intelligence. “Prologis just bought two companies, one of which was pretty big, so I think they might need a bit of a time gap before they took on something else,” she adds. Blackstone, however, “definitely would have the flexibility.” Prologis declined to comment on potential acquisitions. A Blackstone spokeswoman says that industrial real estate remains its highest-conviction investment theme.
For the landlords that make it through the coming economic doom, there could be even greater spoils. Past shocks to supply chains, like the earthquake and tsunami that battered Japan in 2011, convinced many companies that they should keep more inventory on hand to avoid running out of key parts, says Chris Caton, senior vice president of global strategy and analytics at Prologis. “That is going to be a defining characteristic of the industry over the coming years,” he says. More inventory, of course, means more demand for a place to put it.
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