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SUMMIT ISSUE 06
REFORGING THE
SUPPLY CHAIN
By David Egan, Senior Vice President, Stockbridge
76
AFIRE SPRING 2021
Delivering on the service CERTAIN SMALLER MARKETS BECOME JUST AS
STRATEGIC AS LARGE
promises of the on-demand The revenues of online retailers
are highly dependent on their
Typically, these markets such
as Pittsburgh, Detroit, and
economy requires the kind ability to deliver, far more
so than their ability to sell.
others have been designated as
secondary or even tertiary and
of reimagined supply chain Nearly all US consumers have
the ability to shop online, but
have been viewed by investors
as somewhat risky. However,
that will support industrial if an item cannot be delivered
quickly, a consumer is more
many of these markets have
characteristics that make them
real estate growth for years likely to buy from a competitor
or a physical store. As service
important in the modern supply
chain dynamics:
to come.
requirements have dropped
from weeks to days, the need • Large industrial labor pools
to position inventory in a much at relatively low cost
wider set of markets proximate
• Access to key transportation
to end consumers has also
infrastructure
increased. This has had a
measurable impact on leasing • Populations of more than
In the aftermath of iconic toy retailer Toys “R” Us’ 2017 activity in secondary markets. 1 million people
bankruptcy filing, the toy suppliers that had previously distributed
heavily through the now-shuttered retailer were faced with new All markets feature population • Growth in key
distribution complexities. Previously, these suppliers relied on clusters that need to be serviced, demographics; young and
a relatively small footprint of stocked warehouse buildings to but the focus throughout this affluent populations
replenish merchandise that would ultimately populate Toys “R” cycle has been disproportionately
Us shelves in fairly predictable volumes. Now they would have aimed at the largest markets. Over the past decade, industrial
to rely on new distribution channels to fill the Toys “R” Us void, More recently, logistics users space demand in these markets
largely turning to Amazon and other “e-tailers” that depended on of all types have broadened has outpaced completions by
fast, on-demand service in just about every location with virtually their focus to a network design more than 35 million SF/3.25
unlimited choices (including the choice to return orders with few that aggressively expands million SM and rents have
exceptions). The net effect required a reimagination of the toy into a wider configuration of increased by 40%, according to
companies’ supply chains. Inevitably, they would need to ensure strategic markets with the goal CoStar. Due the steady leasing
merchandise was stocked amply in more warehouse locations, of reaching as many consumers that has persistently outpaced
closer to end consumers and often strategically positioned near the in as short a period as possible. construction in these markets,
distributors’ own supply chain networks. vacancy rates have declined
to about 5%, which slightly
As the COVID-19 pandemic Among the wide-ranging supply outpaces the overall industrial
continues to support major chain changes are three notable national average.
e-commerce growth acceleration, trends impacting real estate
this type of restructuring is now demand: These strategic industrial markets
reverberating to just about any are also offering investors
business that relies on the supply • The growing importance compelling opportunities, as the
chain to operate: retail, logistics, of industrial real estate ten-year US economic expansion
manufacturing, trucking and proximity to the end has lowered yields and reduced
transportation, grocery, and consumer available supply and land sites
on and on. The only way to for new development in primary
• The changing point of industrial hubs.
deliver on ambitious service
production and increase of
promises of the on-demand
inventories in the system
economy is through a complete
reconfiguration of the supply • The pressures of growing
chain, much like the foundation returns and need for better
of the industrial boom of the reverse logistics
past decade. As we see it,
the net effect will be not only
major ongoing demand for
industrial real estate, but also
far more breadth of demand
across industrial property types
and locations.
77
SUMMIT ISSUE 06
DEMAND BROADENS ACROSS SMALLER AND
DENSER BUILDING FOOTPRINTS
Demand for well-located, According to CoStar, light-
industrial properties account
Apart from demand for
light industrial, demand for
small, light-industrial
for 9 billion SF/836 million proximity to population-dense
SM—or roughly half of the locations has supported a new
total US industrial stock. The wave of industrial building types
properties—less than vacancy rate for this segment
has declined by 50% over the
and functions—from multi-
story warehouses to robotics
120,000 SF/11,148 SM— past decade to its present rate of
4.5%. Consequently, their rents
solutions for order fulfillment—
all of which are likely to see
continues to surge, largely have climbed at the same rate to
an average of US$8.24 per SF.
increased investment should
they continue proving their
driven by local economic ability to increase throughput
Despite the strong demand and efficiencies.
fundamentals, new development
activity, urban population in this segment has been
extremely limited, with
growth, and same-day completions accounting for
just 1% of total light-industrial
delivery expectations of warehouse inventory since
1990.1 This dearth is attributable
consumers. to challenges in developing
smaller parcels in densely
populated areas, including
competition with other uses and
high land values.
EXHIBIT 1: LIGHT INDUSTRIAL SUPPLY WELL BEHIND BULK
Source: CBRE Research
78AFIRE SPRING 2021
RISING INVENTORIES INCREASE SPACE DEMANDS
One of the less reported impacts These adjustments to business This extra inventory inevitably
of the pandemic has been the supply chains will increase the sits in warehouses waiting to
need for businesses around the demand for warehouse space in be pulled into retail or business
world to quickly assess and all markets. After a slight blip supply chains. The impact of
adjust the amount and source in early 2020, the growth of US this additional inventory is
of inventory in their systems. business inventories has resumed massive. According to CBRE
The crisis has underscored the as economic activity has picked Research, a 5% increase in
fragility of just-in-time (JIT) up, fueled partly by wholesalers business inventories requires an
production networks, which and retailers adding stock to additional 400 million to 500
historically have involved very store materials and products million SF of warehouse space.
intricate global supply chains closer to manufacturing centers To put this in perspective, the
in which goods often go back and consumers. The need for US market is currently 5.5%
and forth across international additional “safety stock” has vacant, which equates to 800
borders many times using many grown over the past year as million SF/74.3 million SM, so
different transportation modes. suppliers and retailers protect the increase in space required
These JIT systems were stressed against the unknown future of would cut the overall vacancy
to the breaking point in the early the pandemic. rate in half.
days of the pandemic, which
led to disruptions ranging from The demand generated by
household staples to critical the rise of inventories has the
medical supplies. A 2020 survey potential to reach all markets.
by the Institute for Supply Most likely, users will seek
Management found that nearly options on the coasts near
75% of business respondents seaports, but with vacancies at
have experienced supply chain historical lows in all seaport
disruptions and more than 80% locations, the demand will likely
believe they will in the future. 2 flow inland to a wide variety of
As a result, many businesses are locations connected to ports by
planning major restructuring of rail or road.
their supply chain processes.
EXHIBIT 2: OCCUPIED STOCK AND US INVENTORIES CLOSELY RELATED
Source: St. Louis Federal Reserve; CBRE Research
79An effective reverse logistics supply chain requires approximately 15% to 20% more space than a traditional outbound supply chain.
AFIRE SPRING 2021
HOW TO HANDLE RETURNS? REVERSE LOGISTICS.
Along with the exponential While the measurable costs Given both the urgent need for a better returns network, and the
growth of e-commerce, to to a liberal returns policy are insufficient in-house process employed, many retailers outsource
remain competitive, online significant, the major challenge their returns management to third-party logistics (3PL) providers
retailers must meet consumer that can make or break an in order to free up space for forward logistics. This has created
demand for free returns, along effective reverse logistics a significant amount of opportunity for the 3PL industry, which,
with a simple return process. strategy is controlling for time according to CBRE, has grown in terms of square footage by
Demand for returns can reach as and product value depreciation. approximately 31% since 2015. Large 3PLs that offer reverse
high as 30% of total e-commerce By some estimates, fashion logistics services include XPO Logistics, Ryder, and NFI. The types
sales—a massive amount in a apparel depreciates by 20% to of products being returned drive specific real estate requirements
rapidly growing sector. 50% of its value within three and space criteria. Typically, second-generation space is preferred
months3, creating urgency over modern, Class A space. Lower ceiling heights are more
Efficient return strategies to get inventory back into appropriate, because the activities within the space are high-touch
are increasingly important circulation and ready for resale. with slower processing, and the odd configuration of pallet loads
for retailers, and the tried- Depreciation levels vary by makes them difficult to safely stack or store in high racks. But,
and-true model of in-store product type, with electronics given the time-sensitive nature of processing returns, quality
returns remains the best, most losing between 4% and 8% of locations both in high density markets and submarkets proximate
cost-effective way to handle their value per month. to major highways (returns are almost exclusively moved by trucks)
returned merchandise. This is paramount.
creates an obvious challenge An effective reverse logistics
for online retailers because supply chain requires
an online order can rarely be approximately 15% to 20%
returned in a brick-and-mortar more space than a traditional
environment. As such, shipped outbound supply chain.4
returns include significant However, in many cases, returns
shipping and handling costs, are handled on an ad-hoc basis
along with challenges in when time permits, and often
processing times, liquidation literally in the corner of an
recovery, and manual processes outbound fulfillment center.
that can result in more than This type of disorganized
US$50 billion in profit loss and approach only adds time and
more than 10 billion needless cost to the process and increases
shipments and touches. the risk of product depreciation.
EXHIBIT 3: RETURNS ARE A LARGE PROPORTION OF ABOUT THE AUTHOR
E-COMMERCE SALES
David Egan is Senior Vice President at Stockbridge, a real estate
Source: Internet Retailer; CBRE Research
investment management firm with approximately US$20 billion of
real estate assets under management across the risk spectrum on
behalf of US and non-US institutional investors.
NOTES
1
CBRE Research, Q4 2020, cbre.us
2
I nstitute for Supply Chain Management Coronavirus Impact on Supply Chain,
March 2020, ismworld.org
3
irstin Linnenkoper, “Saving billions by making smart re-commerce decisions,”
K
Recycling International, 19 May 2020, recyclinginternational.com/business/saving-
billions-by-making-smart-re-commerce-decisions/30460/
4
optoro.com
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