Pretty vacant

As the credit crunch finally starts to sink its teeth into the warehousing market and vacancy rates soar, developers may be regretting their earlier optimism. Where is the demand for newly developed warehouses going to come from?

Zuzanna Wiak, Gergo Racz, Nathan North

It is the Polish logistics industry that is currently exhibiting the greatest demand for warehouse space, with companies in the sector accounting for 39 pct of the leasing market in 2008 – 1.59 mln sqm in total. In comparison, the corresponding figure in 2007 was 38 pct with a combined area of 1.41 mln sqm. Cushman & Wakefield puts retailers (12 pct) in second place in 2008 – the same as in 2007 – with the ‘food’ category coming third at 6 pct (3 pct less than in 2007). Electrical retailers suffered a fall in demand, dropping from 11 pct in 2007 to 4 pct in 2008, while those in the ‘books and paper’ sector rose from 2 pct in 2007 to 5 pct in 2008, and light industry also increased its tenancy by 3 pct from 4 pct. In all, the total available warehouse space in late 2008 amounted to 5.1 mln sqm, which was 34 pct greater than in 2007. The general state of affairs would, therefore, seem to be quite satisfactory, although there is one small problem: in Q4 2008 no new projects were started by developers, with the only activity being the finishing work on projects that had already been started.

Too much too soon

Although the warehousing industry has been inrude health for sometime, it is now encountering problems with increasing frequency. In 2008, operators leased out more warehouse space than was required at the time, earmarking it for future contracts. They were not expecting the industry to suffer from the crisis and did not expect contracts not to be signed. Tom Lisowski, CB Richard Ellis’s director, comments that: “The health of all operators on the logistics real estate market, both developers and tenants, is somewhat poorer than it once was. On the one hand, this cramps the expansion plans of owners, while on the other it leads to a more accurate verification of the financial health of potential tenants. We are also observing that specific groups of tenants now have to cope with excessive space, which they eventually offer to subtenants. It is this space that represents substantial competition to newly completed facilities.”

Widespread anxiety is now growing over whether warehousing developers will cause turmoil in the leasing market, in an effort to put an end, as quickly as possible, to losses generated by unsigned contracts. Robert Dobrzycki, managing partner for Central and Eastern Europe at Panattoni Europe, estimates that the vacant space leased by logistics companies for future contracts currently amounts to around 100,000 sqm. He adds that: “In locations where warehouse supplies are high, rents will be expected to fall within 6 to 9 months.”

A diverse approach to leasing warehousing space can also be seen with the tenants of different industries. Such conglomerates as Jeronimo Martins (the owner of the Biedronka chain of food stores) leases warehousing no further than 100 km from their nearest retail outlets, while others – such as the French Leroy Merlin group – prefer to have one warehouse serving the entire country. Each region of Poland tends to be occupied by different groups of tenants.

In the view of Robert Dobrzycki of Panattoni Europe: “You could justifiably claim that Silesia is the heart of Polish logistics services, however Łódź, Wrocław and Poznań are other regions in which logistics companies eagerly lease warehousing space. While the location of warehouse space is of less significance where the food and clothing industries are concerned, production companies are also keen to lease space in Silesia.”

Are you local?

Krzysztof Jaśkiewicz, the leasing manager of industrial developer Pinnacle, thinks that the greatest problems will be faced by companies in the household appliances and automobile industries and also large international manufacturers. According to him: “Many companies are postponing decisions to start new logistics-warehousing projects partly because of the uncertainty over the euro exchange rate. It may be that later in the first quarter of the year the sales and finance performance results will reveal to what extent the economic slowdown has really affected their operations.” 
At the moment, Pinnacle has around 100,000 sqm of vacant warehousing space in its logistics parks in Poznań and Mszczonów.

The headache suffered by warehouse developers operating in Poland may be cured by the demand from Polish businesses which have not, until now, been over-eager to lease class ‘A’ warehouse space, and more often occupy poor quality space accessed by small operators. Currently, local companies can opt for a long-term lease from a large developer, quite apart from the policy of head offices situated in countries where the global financial crisis is being most painfully felt. Such a decision may prove to be a sensible one, especially regarding the financial aspect. Robert Dobrzycki feels that: “Demand on the warehouse market will largely be shaped by local companies and international producers which will be shifting their activities to Poland, as in the case of Dell. The largest group of tenants has, until now, been comprised of trade-related firms, but it seems very likely in the current climate that this market will begin to lose a lot in value.”

Supply worries

Poor demand results in low supply and this can be seen with the decision of Panattoni Europe, considered as a market leader in the Polish warehouse market, to develop around 50 pct less space than last year. Cushman & Wakefield claims that in Q4 2008 developers did not start any new projects, and only continued with those already under construction. This is why the space currently being built has fallen by 120,000 sqm compared with that planned for Q4 2008, amounting to 1.12 mln sqm. An increasing number of developers are experiencing difficulties financing new warehouse projects, and this is the reason why they are waiting for new investors.

Krzysztof Jaśkiewicz of Pinnacle has this to say on the matter: “With the current market situation in mind, as well as the problems with financing new projects, an increasing number of developers are thinking instead in terms of warehouses in the ‘built-to-suit’ formula and are starting projects only when tenancy contracts have been signed. There will be less space on the market ‘ready for immediate occupation’, which might substantially restrict tenants in choosing the type of space they require, although it does create opportunities for developers that hold unoccupied space.” Built-to-suit warehouses are being ordered by companies which require a great deal of storage or production space, of around 8,000 sqm or more.

With regard to rents, the experts are predicting that the financial crisis might result in a drop in rental rates, which today stand at between EUR 6.4 and 3 per sqm – but the decrease may only be by a fraction or so due to the insufficient levels of supply pre-existing in the market.

So, when will the warehousing market start to pick up? The people I spoke to felt that the time when the Polish market will really start to wobble is still in the future and that the first signs of better times to come are likely to be no earlier than the second half of 2010.

South of the border

And what of the situation over the border in the Czech Republic? Last year, the vacancy rate for modern Czech warehousing soared by more than 6 pct y-o-y to a level above 15 pct, as the market was unable to absorb all the new space that came onto the market. However, there seems little chance of demand picking up this year. Jones Lang LaSalle is predicting a decrease in the number of leasing deals in 2009, and that net absorption in 2009 will slow down rapidly in the Prague area, down from the 420,000 sqm recorded in 2008 to around 360,000 sqm. The agency also expects completions of around 180,000 sqm in 2009 – a significant decrease from the 250,000 sqm of completed modern warehousing last year in Prague – with most of the new stock being already under construction.

Vacancy to fallÉ ever-so-slightly

The likelihood is that around 600,000 sqm of planned projects across the country will be affected by the economic situation, with many of these developments postponed due to lack of finance and a slowdown in demand – and it is also likely that practically all speculative projects will be cancelled. As Miroslav Kotek, an analyst in the industrial department of Jones Lang LaSalle in Prague, explains: “Last year the industrial market has shown continued development of buildings for lease on a speculative basis. However, the situation on the market has changed dramatically over the last four months. Due to the current economic crisis, the majority of the speculative projects have been aborted. In the near future we only expect to see the completion of buildings that are currently under construction.” This should result in a fall in the vacancy rate as tenants move instead into existing facilities, but in the context of poor demand this will only translate into a slight reduction.

As for the strategies for attracting and retaining tenants, according to Miroslav Kotek, the tools are more or less standard, with pricing being the main instrument: “Today we are at the bottom rent level. Developers are also trying to persuade clients with larger-than-before rent free periods, fit-out or moving costs contributions. Due to the high vacancy rate and strong competition, developers are putting a considerable effort into this activity,” says Mr Kotek.

The times they are a’changing

Looking to the future, Mr Kotek is expecting a very similar structure of tenants this year, but manufacturing companies – especially automotive suppliers – will not be occupying as much space as in previous years. “For example, glass producers and textile companies will probably not be represented so strongly among the tenants, since these are among the main sectors affected by the financial crisis.” He also believes that the nature of transactions is likely to change: “Future deals will be rather smaller than in the past, averaging about 2,000-3,000 sqm. And the negotiations may generally either take longer or will need to be agreed some time in advance if landlords require pre-leases prior to construction work starting.”

A period of concentration and centralization of tenants’ logistics operations into the larger centres in prime locations is also highly probable. As a consequence of this, developers in the near future will be focused only on such locations, with the exception of built-to-suit projects, which should become more common. However, according to Mr Kotek, the market will inevitably undergo some extensive changes due to the crisis: “Some developers will face severe difficulties if the market situation does not improve throughout the course of this year,” he claims.

Over in Hungary, the industrial market fared comparatively well in 2008, with take-up hitting a record level and surpassing the 2007 total by 45 pct – according to figures released by real estate consultants DTZ. Currently, the greater Budapest area, which remains the focal region of the industrial real estate segment in Hungary, has a stock of 1.4 mln sqm, over 200,000 sqm of which was added to the total last year.

Bargains galore

However, vacancy increased in the closing months of last year with CB Richard Ellis recording a 6 pct increase to 16.4 pct. “Already, the economic recession striking Hungary is making its effects felt in the demand for industrial real estate,” CBRE’s senior market researcher Gábor Borbély claims. 
In order to cope with the situation, developers and operators are making efforts to cling on to their clients by offering discounts, leading to expectations that the EUR 3.25-EUR 5.5 per sqm price range registered in Q4 2008 could diminish further. Because of these discounts and tenants’ willingness to take advantage of market developments that give them new-found leverage, CBRE is confident that the market will be able to absorb the massive supply generated in 2008.

On the other hand, due to the nature of the Hungarian market, basically that it is relatively small, vacancy figures can prove misleading – according to Tamás Beck, associate director in 
charge of industrial sales and leasing at Colliers 
Hungary. Changes affecting a single bigger player on the market could have a profound effect. “It is important to note that approximately one third of the roughly 17 pct vacancy rate in the logistics sector is covered by the Rynart portfolio,” cautions
Mr Beck, recollecting the folding of the major warehousing firm earlier in 2008.

Survival of the fittest

As for the future outlook, the situation is anything but good, and especially not in the short term. “In the next two or three years, the fall in retail 
demand will inevitably cause substantial 
difficulties for industrial real estate,” believes Csaba Széll, general director of the Europolis asset management and property development firm. “If for nothing else than its geographic location, Hungary has major potential in the longer run of 5-10 years, giving companies that have a grounded, long-term strategy an eventual advantage,” believes Mr Széll.

As is the case throughout Hungarian industry, the age of speculative investment has also come to a sudden end in the logistics sector. CBRE has been informed of projects with a combined area of 185,000 sqm are 
being suspended. “We have reason to assume that most of these ventures will not be 
realized at all,” feels Mr Borbély. 
   However, he is also of the opinion that since a warehouse can be erected and put into operation much faster than office buildings, the sector could respond to eventual changes in demand with much more flexibility, adding new stock to the market over a fairly brief time-span of six to eight months.

On the other hand, losing some business because of the slump in retail could also lead to a different outcome. While some companies are legitimately concerned regarding the future of the Hungarian market, others that have thus far dithered over their entry into the CEE region see the crisis as an opportunity.

“We are seeing heightened interest from 
Western firms,” says László Kemenes, vice 
president and market officer of ProLogis in 
Hungary. “As players in western markets are now focused exclusively on reducing their 
expenses, they see relocating parts of their 
operations to the CEE region – where costs are still comparatively cheaper – as a genuine 
competitive advantage,” claims Mr Kemenes.