CIBCEQUITY RESEARCH
June 5, 2022 Industry Update
Industrial REITs: What’s Next
An Overview Of Factors Shaping Demand
Our Conclusion
Industrial REITs have benefited from new and expanded sources of demand
during the pandemic, but we view growth in the sector as underpinned by
long-term, structural drivers, most of which were in play pre-pandemic. We
view the lack of supply, in particular, as continuing to be a big driver of strong
rent growth. The fundamentally stronger position of the subsector today vs.
during the Global Financial Crisis (GFC), vis--vis much lower vacancy and
higher rents, shelters industrial REITs from the full impact of a significant
economic slowdown.
Key Points
Broad-based Demand With Some Leaders: Third-party logistics (3PL) and
e-commerce have been leading leasing activity, particularly over the course
of the pandemic, though other categories have also experienced strong Y/Y
growth. In Q1/22, Construction and the Food & Beverage sector showed an
increase in leasing activity of 32% and 23%, respectively, while Traditional
Retailers have experienced a 38% increase in leasing volumes over the last
three years. The share of 3PL is expected to grow from 26% in 2020 to 35%
in 2022 as more organizations outsource logistics.
E-commerce Tailwind Not Abating: E-commerce uptake, including online
sales of brick-and-mortar retailers, witnessed a sharp spike during the
pandemic, growing from ~11% of total retail sales in the U.S. to 15% at the
peak. While this spike in consumption of goods from online channels
reflected the unprecedented events of the pandemic (i.e., lockdowns) and is
unlikely to grow at the same rate, we expect E-commerce to continue to
grow its share, supporting demand for industrial space. eMarketer expects
Canadian E-commerce sales to make up 17% of retail sales by 2025 (vs.
13% currently), and 24% of U.S. retail sales (vs. 15% currently). CBRE
estimates that ~330MM sq. ft. of additional space in the U.S. would be
needed by 2025.
Recession - Things Look Different: Since industrial continued to thrive
during the pandemic, it might be tempting to turn to the GFC instead to
assess the impact of a slowdown in consumption. Vacancy increased
~250bps and rents declined ~5%, however, the sector is on a different
footing today. Vacancy is ~400bps lower than pre-GFC and ~70% of the
42MM sq. ft. under development is pre-leased, i.e., pent-up demand is
strong. The sub-sector would not be completely immune from a prolonged
recession, but we view it as relatively more resilient.
Valuation: Granite, Dream Industrial and Summit are trading ~700bps below
long-term P/NAV averages and at implied cap rates that are 40bps - 65bps
above IFRS cap rates. On a five-year basis, industrial REITs are trading
~1,300bps below the average P/NAV reflecting, in our view, expectations of
higher rates, not unlike the rest of the sector