The logistics sector is growing rapidly across Europe. Annual investment volumes more than tripled between 2009 and 2016, according to CBRE figures, and lenders’ weighting to the sector is also expanding.
Europe’s strong export markets and high levels of consumer spending continue to spur demand for warehouse space across the continent.
The market is evolving, fuelled by a boom in e-commerce prompting the need for modern warehouse premises and ‘last-mile’ delivery hubs in towns and cities. The global proportion of retail sales done online is expected to reach 14 percent by 2020, from less than 9 percent currently, Euromonitor research shows.
“We’re at the early stage of an exponential curve as more people are moving their retail habits online. The implication of massive growth is higher occupier demand for sheds in all the major markets, now beginning to drive rental growth in places where land is constrained,” says Jack Cox, head of EMEA industrial and logistics capital markets at CBRE.
The sector’s strong occupational demand is a major pull factor for investors and lenders. Take-up of 5,000 square metre-plus warehouses was up 22 percent in H1 2017, according to BNP Paribas Real Estate. Investors are attracted to the spreads on offer relative to other asset classes.
While prices have risen substantially due to an inflow of capital, yield compression is nowhere near as acute as it has been in the investment-grade bond market, or in other prime property sectors.
“There is a wall of equity out there that needs to be allocated and a fair amount has landed in the logistics sector. Investors like what they find, thanks to steady cashflows available through assets with strong covenants on long leases,” explains Rory Buck, senior director of investments at industrial and logistics-focused fund manager Gramercy Europe.
High-net-worth investors, family offices, REITs and large institutions are targeting defensive assets, which include logistics. European industrial and logistics investment increased by 10 percent in H1, according to BNP Paribas Real Estate. Offices declined by 10 percent and retail by 7 percent.
“Logistics is the only asset class with positive market dynamics right now,” argues Buck.
The search for large-scale opportunities to deploy capital has led Asian institutional investors to European logistics, with major platform deals in the past 12 months, including Blackstone selling its pan-European Logicor platform to China Investment Corporation for €12.25 billion in June and Singapore’s GLP buying Gazeley for $2.8 billion in October.
This does not always translate into financing mandates for European lending teams. The Logicor deal is understood to have been financed by two Chinese banks, although a range of banks including Morgan Stanley and pbb Deutsche Pfandbriefbank were involved in a €1.4 billion refinancing of P3 last October, ahead of a sale.
Financiers are drawn to logistics by the same principals as investors. “As a balance-sheet lender, we like the long-term profile of the asset class, which is growing, supported by macro trends,” says Michael Kröger, head of international real estate finance at Helaba.
With European turnover around €40 billion in the 12 months to June 2017 by CBRE’s calculations, the scope to provide finance, typically post-closing, is substantial. For stabilised portfolios, there is ample liquidity on competitive terms, although investors and developers do tend to do repeat business with relationship lenders.
The message projected by each of the dozen or so lenders Gramercy has engaged with as potential funders for its latest logistics fund aimed at Germany, France, the Netherlands and Spain, is that logistics has always been or has now become a strategic area of growth for the bank, says Buck.
“Their high-level pitch is that they’re looking for modern, generic buildings in locations close to urban conurbations, with high tenant retention, minimal capex and easily forecastable cash flows,” he explains.
As assets are increasingly built to suit individual occupiers’ needs, lenders must consider the potential for re-letting the building in the event of the loss of a tenant. Lenders usually look for weighted average lease terms longer than in the office sector, at five to 10 years.
“The structuring of the loan is very much about the more important role cashflow plays than in other asset classes, because the intrinsic value of a single logistics building is usually very limited – basically you’re talking about a steel shell. The real value lies in installations, location, accessibility and how many assets there are in a portfolio; we always look for a collection of buildings,” says Kröger.
Loan-to-value and debt yield in logistics lending is usually conservative, at 50 percent to 65 percent and 7 percent to 10 percent, respectively, as the bespoke nature of many properties makes them vulnerable to changes in demand. Logistics property values have risen quickly, and so loan pricing is elevated, at around 200 basis points in the German market. Banks gradually returning to the sector are focusing on the best covenants, although some alternative lenders argue that they are comfortable financing a range of tenants. “It takes property knowledge to finance a small company that manufactures widgets on a three-year lease, for example,” says Bryan McDonnell, head of European real estate finance at PGIM Real Estate Finance.
“Banks do not necessarily view logistics as being safer than offices, like we do. We’ve been focusing on the sector for several years and have seen offices crushed in a downturn as jobs go,” McDonnell adds.
In the past, lenders have found it difficult to issue big tickets, with only 12 individual buildings trading more than €100 million across Europe last year, according to JLL.
“This cycle has seen a real shift towards portfolios, partly driven by the scale of footloose allocators of capital looking for the most attractive returns on a global basis,” says Gramercy’s Buck. Last-mile delivery hubs tend to be developed as a network and therefore trade in portfolios.
The largest portfolios are typically financed with whole loans by investment banks, which are subsequently distributed, or via corporate facilities. Morgan Stanley’s €600 million element of last October’s P3 refinancing is an example.
Nonetheless, logistics is increasingly seen as a mainstream asset class for banks. Logistics was highlighted as a top opportunity by a quarter of lenders surveyed by Cushman & Wakefield in its 2017 EMEA Lending Trends report. “Lenders expect to see the greatest growth in new lending towards residential and student accommodation, followed by logistics. This focus reflects the near-term expectations of greater growth and returns,” wrote James Spencer-Jones, head of EMEA debt and structured Finance at Cushman & Wakefield.
While “there’s no such thing as a sexy shed; it just works”, admits one logistics company CEO. The market is thriving and more lenders are tapping in to the financing opportunity created by a wave of ecommerce-fuelled investment.
Where are the opportunities?
Investors and lenders are seeing logistics opportunities in various parts of Europe. Western Europe is more developed in terms of infrastructure, while e-commerce is driving demand for new units. In Central and Eastern Europe, a lack of existing stock is the main driver of demand.
The UK is furthest along in the market cycle, with the highest e-commerce penetration rate and a strict planning regime meaning demand continues to outstrip supply. “Investors look for regional distribution hubs in the West Midlands and last-mile logistics hubs on the fringes of the largest conurbations such as London, Birmingham, Manchester and Leeds,” says Rui Nobre, managing director of UK fund Griffen Capital.
In continental Europe, there is very little vacancy. Germany claims Europe’s lowest cap rates, with core investors seeking certainty in a market underpinned by strong economic conditions and growing consumption.
The Netherlands, where supply is low and take-up is rising quickly, is a particularly strong location given the importance of the port of Rotterdam. PGIM Real Estate Finance has been active in the market, recently closing a 10-year financing of 18 light industrial assets.
The central and eastern European markets, meanwhile, are attracting the likes of M7 Real Estate, in part through higher yields and lower operational costs for tenants. “We are less bullish on CEE owing to lower barriers of entry in terms of further development,” says Bryan McDonnell, head of European real estate finance at PGIM Real Estate Finance.