BRICK BY BRICK: Industrial Market Needs Time for Full Recovery

In 2000 the industrial real estate market can be expected to recover only slightly from the depressed state in which it has been since August 1998. Some pickup in demand is taking place, but just as in the post-Soviet era before the 1998 crisis, development in the industrial field lags behind the office market. In the manufacturing area, a greater interest in local production continues to be constrained by reluctance to make long-term investments.

Last year, the industrial market mirrored the office market. There were very few expansions or new tenants, and most activity was confined to tenants' negotiating better terms with current landlords or taking advantage of lower prices to acquire better space without increasing rental costs. Throughout the year tenants continued to make cost and flexibility their priorities in selecting a warehousing solution. As a result, third-party warehousing services providers generally continued to thrive, while speculative projects developing warehouse space for lease had little or no success.

Historically, third-party warehousers had been the solution of choice for fast-moving consumer goods producers because of the flexibility, logistics and customs expertise they offer. Before the 1998 crisis, the trend was moving away from such providers.

The crisis reversed this trend. The focus of tenants again became flexibility, and professional warehousers dramatically reduced prices in order to survive. As a result, plans to rent or build warehouses for long-term use were put on hold, and contracts with service providers were renewed at far lower costs to the tenant. This year will not bring any major changes to this market. Demand should increase gradually provided the economic recovery continues and political stability increases consumer confidence. Only 5,000 square meters to 15,000 square meters of new space should come onto the market. In response, prices will increase slightly.

In 1999, demand for long-term lease or purchase of international standard warehouse space was weak. Only a handful of transactions took place, totaling about 20,000 square meters. The lack of demand reflected users' priorities of flexibility and minimal cost described above. Quality facilities remained empty despite realistic pricing by good landlords.

More development of new warehouse space will only occur in response to a marked increase in demand. Such an increase will take place when users again feel comfortable enough about their long-term sales projections to tie down warehouse space for three years or more. Until that time, most users will continue to rely upon third-party service providers.

In some sectors, the construction of new factories or acquisition and renovation of existing facilities continued apace in 1999. The food, auto and tobacco industries have all seen major projects started before the crisis pushed through to completion and planned projects developed. Such projects have involved about $1 billion in plant, facilities and equipment investment since August 1998.

There has continued to be an almost complete lack of speculative development or even permit fast-tracking to meet the needs of manufacturers. Only one significant project has created the legal, regulatory and organizational infrastructure to facilitate rapid delivery of manufacturing facilities.

No significant improvements in this area are expected in 2000.

Overall, the industrial market remains undeveloped, lagging behind the office, retail and residential sectors. Major development can be expected only when there is perceived to be longer-term economic and political stability in Russia.

Darrell Stanaford is a managing partner at the Western Group*ONCOR International office in Moscow.