Momentum for sheds gathers as supply dries up

19 July 2010

A number of recent high-profile fund launches and acquisitions point to a gathering institutional appetite for the European logistics sector.

At the beginning of June, Goodman, the Australian property group, unveiled a joint venture with US REIT CB Richard Ellis Realty Trust that will set up two investment vehicles to buy and develop warehouse schemes across the UK and Europe. The partners will invest in prelet schemes over three years. Eighty percent of the equity will be provided by CBRE Realty Trust. The UK vehicle will invest L4oorn (�486m) in UK assets while the European-focused vehicle invests �400m in Germany, France and Benelux.

In the same month, European Property Investors Special Opportunities (EPISO), an AEW Europe and Tristan Capital Partners jointly managed fund, bought five warehouses in Poland horn Panattoni Europe and Standard Life Investments for around �91m through EPI SO'S European Property Investors Special Opportunities fund.

Robert Dobrzycki, managing partner for central Europe at Panattoni Europe, says the deal signals increased interest from international real estate investment funds for the Polish industrial sector.

In the UK, Legal & General has been an active institutional buyer, backing three significant forward-funding transactions in the past six months -most recently a �£47m (â��57.1rn) forward-funding of a 470,000 sq ft (43,700 m) regional distribution centre at Andover Airfield, which Goodman prelet to the Co-operative Group.

Charlie Walker, L&G's senior property fund manager, says that the difficult macroeconomic environment has meant that Ks firm has faced little competition even though it was able to strike strong covenant prelet deals. But, he notes, that has all changed recently because the number of potential buyers has risen.

Walker expects the sharp correction in yields for prime UK industrial in recent months to be followed in the coming months by a softening. The market has had a bounce and is likely to fall back and go through a difficult patch, with yields drifting out a little again," he says.

The upturn in investor appetite points to the European industrial sector's growing weight as an institutional asset class, a trend that has continued during the downturn. The sector now accounts for about 8% of the European property investment market, compared with 6% in 2006, according to CB Richard Ellis.

The global economic crisis has dented its overall progress - the retail sector hit a record high during the first quarter of 42% -but has at the same time consolidated its reputation as a relatively steady if unspectacular port of call for investors.

Richard Holberton, head of research at CB Richard Ellis, says: "Prime yields in the sector across the EU-15 group have fallen by 16 basis points over the past year, compared with 48bps in the office sector."

There is at last downward pressure on prime yields in most European markets after a period, from mid to late 2007, of continuous widening - ranging from about 75 basis points in Germany to about aoo basis points in London, Paris, Madrid, Barcelona and central and eastern Europe. With the exception of London's evergreen Heathrow market, prime yields in the key western European markets are now grouped between 7.25% and 8%, with the main CEE markets offering yield premium of at least 75 basis points.

CBRE reports that several markets, notably London, Paris, Madrid, Barcelona, Stockholm and Brussels, have all seen yields fall from their most recent peak. The Rotterdam, Milan, German and the CEE markets have so far not seen any evidence of downward movement, although CBRE says "there is clearly pressure in this direction".

King Sturge's European Markets Review May 2010 backs that view. The authors conclude that "the outlook appears to indicate that yields have bottomed out in most markets. A growing number of centres could now begin to see some inward movement as the year progresses, dependent on macroeconomic conditions and improving activity in respective investment markets."

However, there are wide disparities between locations and sub-sectors. Over the past five years, France and the UK have accounted for nearly 60% of investment in the sector compared with an all-sector figure of 45%.

The UK in particular has been the focus of the recent strengthening in investment volumes, and accounted for more than half of last year�s total. Only 10% of industrial/ logistics investment over the past five years has taken place in Germany, compared with 19% for the broader market.

The target: prime stock in core locations Investors have focused on prime stock with good covenants in the core distribution locations across western Europe. "Yield compression is happening but purely for good locations with good specifications and good-quality covenants," says Danny Peeters, chief executive, Europe, of Australian property trust Goodman. "Plenty of investors are looking to buy prime product but the challenge is securing it. For secondary stock, yields continue to move out everywhere."

Mike Hughes, head of specialist European logistics developer Helios Europe, agrees:"There have been some high-profile deals done this year but the general transaction level is way down and will remain down. Yields have shifted on prime to close to the boom times but secondary stock yields remain in the frozen wastelands."

The questions are: what happens to the swathes of obsolete secondary stock, and what is the immediate future for less established markets such as those in Eastern Europe?

There is also little sign of institutions regaining their appetite for funding speculative developments. James Markby, EMEA director logistics at CB Richard Ellis, says; â��It is clear that a lot more institutions are allocating money for European logistics and there is a tone of cautious optimism. Most of the large developers have restructured in the downturn and so there has not been the flood of developer distress that one might have expected, but still there is no appetite to resume spec development. People want to see evidence of upward momentum and are seeing that there could be opportunities, but in 2011 â�" 12â��.

With almost no speculative development during the past two years, the purpose-built facilities that occupiers are crying out for are being steadily sucked up and the market has been almost entirely Dominated by build-to-suit- Modern, flexible and large-scale distribution centres that major logistics groups increasingly seek, to enable the efficient throughput of goods, remain scarce in many countries, including the key markets of Germany, France and the Netherlands.

That is making some brave souls think that speculative building might not be such a foolhardy idea. Helios Europe's Hughes has secured backing from British Airways Pension Fund and the West Midlands Pension Fund for a �1bn European logistics development program. The finance will be used to develop a 13m sq ft (1.2m m��) European pipeline and for new purchasing opportunities. He says he is mulling speculative development opportunities.

There has been no new development for two years and the existing quality stock has been soaked up," says Hughes. "In our core locations, such as Austria and France, we would speculatively develop now in conjunction with a prelet."

Goodman's Peeters is similarly taking a cautious look at the possibility. 'We have a very limited interest in speculative development. We have procured good quality Iand and then worked to have building permits in place to ensure a lead time of within six months. On the back of a prelet of 40,ooo m�� or more we might do a Iittle speculative development."

These tentative signs of a more bullish attitude towards securing funding for new development is mirrored by a gathering confidence that there are markets offering cast-iron opportunities to snap up a bargain. Helios Europe's Hughes says: 'In the Nordic region we see huge potential. There are under-the-radar locations where the fundamentals are still there and offer great prospects. For those who put the time and energy into the Balkans, there are considerable sums to be made there too."

CBRE's latest market forecast tips four countries as the best locations for investors: the Czech Republic, Sweden, the Netherlands and the UK offer the most favourable prospects. All are at least neutral in terms of yield relativity, liquidity and expected GDP growth. (source:EuroProperty, 19.07.2010)