COVID-19 is impacting life in many unexpected ways, but it’s been a boon for U.S. online grocery sales.
“The interesting thing is COVID broke down the psychological barrier that had prevented many shoppers from buying groceries online, and in a post-COVID world this could transfer to cold storage demand,” notes Chicago-based Peter Kroner, research manager for industrial capital markets with real estate services firm JLL who recently helped his grandmother buy her groceries online for the first time.
With consumers now comfortable having groceries delivered direct to consumer (D2C) or buying online, pickup in store (BOPIS), disruption of the U.S. food industry is expected to stick. Kroner notes that three major U.S. retail grocery chains have already announced plans to launch free delivery of online sales by year-end. In addition, a Brick Meets Click/Shopper Kit survey found that 46 percent of shoppers plan to continue purchasing goods online, including groceries, post-COVID-19.
As a result, real estate services firm CBRE estimates an additional 75 million sq. ft. to 100 million sq. ft. of cold storage space will be needed to serve the increase in online consumer food sales. “I think given the fundamentals and secular shifts at play, cold storage will experience steady growth over this period, as well as long term,” says Chicago-based Matthew Walaszek, CBRE associate director of industrial and logistics research.
Walaszek notes that highly populated regions, including Los Angeles, Chicago, New York/New Jersey, Atlanta and Dallas/Fort Worth, as well as smaller markets in the Southeast that have been experiencing huge population gains, like Nashville, Tenn., Raleigh-Durham and Charlotte, N.C., will experience the most demand for cold storage.
While economic conditions don’t dramatically impact the demand for cold storage space either way, CBRE reasons that with drops in restaurant sales, a shift to grocery sales has occurred that has forced distributors to adjust supply chains and is likely to give grocery sales a disproportionate boost in 2020.
Still, the acceleration of online grocery sales is too new a phenomenon to predict right now how much cold storage will be needed to meet demand long term, notes Kroner. E-commerce sales grew from 5.8 percent of total retail sales in 2013 to 11.2 percent in 2019, according to the Bureau of Labor Statistics. Online grocery sales, which currently only represent 0.3 percent of all U.S. grocery retail sales, could potentially see similar results over the next five years, he says.
“COVID is going to accelerate grocery retail demand,” Kroner stresses, but adds that the industrial supply chain is undergoing an evolution from the old model of distribution centers dealing in pallets and cases for store inventory to a more complex, consumer-oriented system located in the center of retail stores to serve customers who only require one or two items.
In the future, Kroner expects to see “unique and interesting,” last-mile cold storage solutions emerge. These might include repositioning obsolete warehouses through the additional of “boxes within boxes,” where walk-in freezer/cooler units accommodate last-mile order fulfillment and using currently designated retail spaces to accommodate cold and freezer storage walk-ins designed for final mile order delivery in dense urban corridors. Kroner also foresees grocers carving out additional space in retail stores to enlarge backroom operations, creating two separate functions: one for bulk goods used to stock shelves and the other for fulfilling online orders.
Walaszek suggests that repositioning old warehouses as cold storage is too costly, and, therefore, he expects that modern cold storage facilities will be constructed vertically in urban locations to limit building footprints. These facilities might resemble the few fully automated buildings that already exist, which are about 14 stories tall, with clear heights of over 100 feet and which use advanced conveyance and stacking technology to load and store frozen food pallets.
“These facilities will likely employ more robotic technology than we see today, and these spaces will be kept dark since there won’t be workers inside, which keeps electricity usage in check,” Walaszek adds.
He also expects that retail grocers will use backrooms as e-commerce distribution centers. “I do think the retail footprint will be re-imagined, and part of that may very well include a logistics component.”
The CBRE report on COVID-19’s disruption of the food industry predicts that as online orders rise, there will be a blending of retail and industrial space, as well as a greater need for infill temperature-controlled facilities in proximity to consumers. Space requirements will vary among food retailers, but additional modern space will likely be needed since the average age of cold storage warehouses in the U.S. is currently 34 years.
The cost of building cold storage facilities, at $250 per sq. ft. to $350 per sq. ft., is significant compared to other industrial uses, so those types of facilities have traditionally been build-to-suits for major operators like Americold, Preferred Freezer Services and United States Cold Storage, according to JLL research.
This sector has been dominated by large cold storage owners because real estate investors have to pay such a high price per sq. ft. to acquire newer, class-A buildings. To mitigate risk and provide steady cash flow to buy down their basis, they must locate opportunities with 15 years or more of lease term.
But strong appetite for yield in the industrial sector has been driving up investor interest in cold storage assets. While the majority of cold storage construction will continue to be build-to-suit for the foreseeable future, Walaszek says that some opportunistic developers may partner with investors to do spec projects. Major institutional and private investors, including Blackstone, New Market Capital and Bay Grove Capital—owner of Lineage Logistics—are already entering this sector.
The value metric of cold storage warehouses is based on the number of pallet positions per cubic feet, which is why new cold storage buildings are constructed with clear heights far exceeding other warehouse properties. Rents, on the other hand, may be nearly double those for regular warehouse space.
For investors, opportunities to acquire suitable assets (those with lease terms of 15 years or more) are very limited, so they should consider sale/leaseback deals, Walaszek notes. Modernizing existing cold storage facilities is another major opportunity area, as nearly 48 percent of the nation’s 3.8 billion sq. ft. of cold storage space was built prior of 1980.
Lastly, “Perhaps the biggest opportunity is in multi-tenant infill, which would tap into the trend of D2C food delivery, as grocers and food retailers race to serve urban customers with condensed delivery times. Space will be needed—this hasn’t been done to scale and can be prohibitively costly, but this particular model, if perfected, has massive upside potential.”
Walaszek suggests that this investment area should be particularly attractive to institutional investors as “the upside from higher rents and longer leases far outweighs the risk that comes with owning refrigerated assets.”