The warehousing sector is facing a squeeze on returns as rising competition for operational assets and sharp increases in land prices push down yield-to-cost ratios, even as warehouse rents rise at a slower pace.
Yield-to-cost, a key measure of returns in real estate, is calculated by dividing the net operating income generated by an asset by the total original investment. For operational warehouses, the ratio has declined to 6.5-7% from 8.5-9% a couple of years ago, as more institutional investors chase a limited pool of ready, income-generating assets, industry experts said.
Recent transactions indicate the extent of the compression. Singapore-based Mapletree Logistics Trust bought a warehouse near Bhiwandi earlier this year from Morgan Stanley for Rs 389 crore, at a yield of 6.9%. Bids for assets of Welspun One, which is liquidating its first fund, have come in at around 7%, sources said.
Canadian investor Brookfield, meanwhile, is buying into assets of ESR India at a yield of around 7.4%, as it expands its presence in the warehousing segment. The transactions reflect the increasing competition among global investors for established assets with existing tenants and cash flows.
“If there were four to five investors earlier, today there are eight to ten people eying the same asset,” said a senior executive at a Singapore-based investment firm.
Development Costs Surge
The pressure is not limited to operational assets. Yield-to-cost for warehouses under development has fallen to around 9-9.5% from 11.5-12% earlier, and is lower in some cases, as land prices have risen sharply while rentals have increased at a slower pace.
Land typically accounts for 60-70% of the total cost of a warehousing project. While land prices have risen around 20-30% annually in recent years, warehouse rents have increased only 4-5%, industry experts said. This widening gap has squeezed developer margins and reduced the returns available from new projects.
“This widening gap has depressed yield-to-cost ratios, signalling a clear need for upward rental corrections to restore market equilibrium,” said Chandranath Dey, operations head (India), business development, industrial consulting and integrated logistics, JLL.
India’s warehouse rentals remain among the lowest in the Asia-Pacific region and Southeast Asia, according to JLL, leaving limited room for developers to offset rising land costs through rental growth.
Long-Term Leases
The compression in yields is also changing the way developers approach new projects. Instead of acquiring land outright, some are increasingly looking at long-term land leases of 30-40 years to reduce upfront capital expenditure and share operational risks with landowners, Dey said.
“More the time taken to develop, lower the IRR,” said Chanakya Chakravarti, senior investment advisor and former head of indirect strategies for APAC and country MD for India at Ivanhoe Cambridge, a unit of CDPQ. Acquiring land in semi-urban and rural areas can be time-consuming because of title issues, local disputes and litigation, he added.
The warehousing sector has nevertheless continued to attract institutional capital. Mapletree Investments, CapitaLand and Morgan Stanley Real Estate Investing have been active in the segment, while Brookfield is entering through the acquisition of ESR India’s warehousing platform. Blackstone-promoted Horizon Industrial Parks, which recently listed, is also looking to double its footprint to 100 million sq ft through development and acquisitions.
Developers, however, say lower yields do not necessarily make an asset unattractive if occupancy, tenant demand and rental escalations support sustainable cash flows.
“What is important for us is the ability of the asset to generate sustainable cash flows through strong tenant demand, occupancy and rental escalations,” Naidu Amrutesh Reddy, director, NDR InvIT, said.