Investor demand in Sydney for industrial assets remain steady

Investor demand for industrial assets remains steady, with strong interest from off shore investors in long WALE, larger scale assets in Sydney’s Western corridor compressing yields sharply, according to Colliers International's latest market report.

Private and owner occupier tenants continue to remain dominant in the city fringe and South Sydney, however their strategies for acquisition differ.

Investment sales in tighter markets tend to be for smaller assets

Owner occupancy is becoming a significant driver of investment activity in all sub markets.

Historically, owner occupancy was largely concentrated in the smaller, 1,000sqm strata market, however large scale retailers are now acquiring industrial facilities over 15,000sqm in the western market.

Consequently, land is becoming hotly contested amongst investors and owner occupiers, with serviced land supply across industrial precincts in tight supply.

"We are anticipating further owner occupier activity in the larger industrial markets in the medium term," the report states.

New South Wales Government data indicates that there is less than twenty years of zoned industrial land, at present absorption rates.

Serviced land, which is connected to utilities, is even scarcer, with only three years supply available.

"Further land release, is constrained by the natural geographic barriers surrounding Sydney. Given the tight levels of land supply we anticipate competition for new land releases and land values to rise across all Sydney industrial markets in the medium term.

Looking ahead, rental growth is anticipated to remain steady as demand levels from the logistics sector, a key driver of demand for larger assets stabilises. Construction services are providing positive momentum, thanks to historical highs in residential construction," the report advised.

From an investment perspective, the hunt for higher yields is anticipated to push some investors into secondary assets. Yield spreads between the prime and secondary markets in the lead up to the GFC fell to 50 basis points, presently they are 120 basis points which points to investors overvaluing risk in the secondary markets.

With competition for industrial assets still high amongst investors, secondary assets will be a key part of future strategies, particularly for assets with development upside and proximity to high quality infrastructure links.

Sydney has the largest infrastructure pipeline of any state in Australia. According to the government’s own forecasts, there will be an estimated $39 billion in transport infrastructure spending in NSW over the next four years.

Sydney’s western industrial precinct continues to strong investment conditions with strong interest from off shore investors – Singapore, HK, Japan, Kwap from Malaysia, Mitsui. US investor Blackstone has broken the previous investment record held by Ascendas, after acquiring $1.3 billion of Goodman industrial assets across the East Coast, in two tranches. This sale will provide Goodman with strong financial support to fund future land acquisitions and developments globally.

Domestically, REITs such as Charter Hall and Mirvac, as well as fund management group AMP are actively pursuing industrial opportunities. In June, AMP acquired JP Morgan’s industrial portfolio worth over $250 million, on a portfolio weighted average yield of 6.5 per cent.

"Prime initial yields in the west compressed by a further 15 basis points from June to September on the back of strong investment volumes. With prime yields compressing to 10 year highs, we anticipate that the spread between prime and secondary industrial assets will tighten from its current margin of 120 basis points over the coming twelve months as investors look for higher performing returns, with development or repositioning upside.

Land acquisition opportunities are becoming tightly contested, with owner occupiers actively competing with established developers for opportunities. Landlords are also looking at speculative opportunities with Goodman building a 22,000sqm facility in Oakdale Central, and Mirvac developing 19,000sqm in Wallgrove Road, Eastern Creek. Developers are speculatively developing due to tight vacancy rates in the Western market, and limited opportunities for tenants in the 10,000sqm plus market," the report stated.

Tenant demographics are becoming more diversified in the western market, with 40 per cent of tenants being from storage, transport and logistics businesses, however the strong performance of retail discretionary spending by consumers is driving demand from retailers looking for storage and distribution facilities.

Tenant activity from corporates has been consistently strong, with tenants such as White Wires, Blackmores, Tyre Max and Pet Barn moving into the west. Incentives are bene ting from this strong demand, falling slightly to 15 per cent, however rental pricing is still a signi cant driver of tenant demand, with Blue Star print group moving from Rydalmere due to lower rents.

Rental growth performance is strong, with net effective rents up by 3 per cent year on year, higher than their 10 year average growth rate of 2.3 per cent. We are forecasting industrial effective rents to rise in the next twelve months by between 3-5 per cent, due to asset and land scarcity, and rising demand from tenants with exposure to discretionary retail.

According to the government’s own forecasts, there will be an estimated $39 billion in transport infrastructure spending in NSW over the next four years.

Sharp rises in capital values, over a relatively short term, may encourage some owners to realise gains.

Recent sales evidence in the northern market shows that capital value uplift of 20 to 30 per can occur on the back of strong investor demand, and diminishing supply levels.

An example of this was 20 Whiting Street in Artarmon transacted for $2.2 million in December 2014, was recently sold for $2.8 million, an increase of 21 per cent in eighteen months. The vendors of a 9,000sqm asset at 28 Rodborough Road French’s Forest realised a 25 per cent rise in capital values since acquiring their asset for $15 million in December 2014, and selling it recently $20 million.

This exceptional rise in values is all the more extraordinary given that prior to 2014, capital values in the north had seen little or no growth. Such robust capital growth is attracting private and institutional investment interest from off shore investors.

Owner occupiers, are also prevalent, particularly in the construction, food retail and technology sectors.

Leasing activity in the secondary market is also showing positive signs, a key driver of which has been demolition clauses which are typically more common in prime markets.

Weight of capital, whilst an early driver of improving investment levels, has now been matched by strong rental performance with prime net effective rents growing by 21 per cent in the last twelve months, secondary net effective rents have risen by 10 per cent during the same period.

Prime incentives remain steady at an average of 16 per cent, with secondary incentives lower at 14 per cent. The disparity, which is unique to the northern market, is being driven by demolition clauses in prime assets, due to the new masterplan that is encouraging rezoning industrial zones to residential use.

The shrinking pool of available assets in the South Sydney market is creating opportunities and challenges for investors, tenants and landlords. Since 2012, an estimated 29 per cent of the Southern industrial market has been withdrawn for rezoning to residential development, and the acquisition of land for WestConnex and Sydney Metro.

For tenants, this means that there are fewer available assets leading many of them to look for owner occupancy opportunities, however vacant possession are rarely available. Tighter space availability is leading to buildings using investment style methods such as expressions of interest, to lease their space.

This has significant benefits for landlords, reducing their incentives and increasing their face rents but entering a competitive bid process.

One recent leasing deal saw three parties competitively bid for an industrial facility, with the winning party accepting terms five per cent above the initial face rental o er, with no incentives. We anticipate that tight vacancy will lead to more of these EOI style leasing campaigns in the short to medium term.

For investors, holding assets close to public transport amenity and within the B6 planning overlays, converting their industrial assets to office use is becoming a popular strategy to reposition older assets, and attract higher rents.

Alexandria has been at the epicentre of this redevelopment trend, appealing to tenants from the technology and creative industries, attracted to the industrial feel of the area, and blank canvas creative opportunities large floorplate former industrial assets offer. From a rental perspective, pricing for an industrial facility in this area is typically $150-250 per square meter on a net face basis, however after a simple office conversion these rents escalate to between $350-425/sqm.

In the strata unit market, popular amongst owner occupiers, recent off the plan developments have seen significant increases in their capital value rising by over 30 per cent in the past eighteen months.

Recent investment sales in the South have been scarce, however cap rate compression continues to remain a feature as fewer assets are contested by a still rising number of investors.

"Looking ahead, the rapid pace of change in the South Sydney market will drive changes to the mix of assets, tenants and owners. Vertical industrial facilities such as those seen in other land constrained markets in the UK, and Asia, will become a feature of this market as developers look to cater to goods and service delivery to adjacent growing residential areas and city centres," the report states.