2020 exposed vulnerabilities in global supply chains due to widespread disruptions from the pandemic and from geopolitical rifts like Brexit and the U.S. China trade war.
Historically, several businesses across multiple sectors in Canada and the United States have procured raw materials and inventory from China and other Asian countries at a bargain due to their low-cost manufacturing capabilities. Over time, this has led to concentrated supply chains with a focus on cost savings over downside protection. Volume stability allowed companies to focus on highly process-oriented supply chain systems which were capable of delivering a high level of service while lowering costs at the accepted quality. The drawback of these systems was that a disruption like a pandemic could easily throw these systems off and create logistical bottlenecks.
In a survey by McKinsey on global manufacturing and supply chain, 33% of companies in North America reported material and other supply chain shortages. A disruption of this magnitude rendered even the best forecasting models and business analysis metrics meaningless. Consequently, in the second and third quarter, we observed many large-cap companies forgo guidance due to extreme uncertainty. Businesses started purchasing inventory in bulk in anticipation of future supply shortages, and this increased the demand for storage space and warehousing.
A swift transition to virtual workspaces and online environments generated strong tailwinds for the e-commerce industry. According to a report from CBRE , e-commerce sales grew by 44% in the second quarter of 2020. Online sales accelerated on a quarter-over-quarter basis due to strong tailwinds including government paychecks and IoT infrastructure and innovation which allowed customers to transition to e-commerce platforms conveniently. These factors all led to a boost in demand for last-mile delivery as well as warehousing and distribution services.
Small businesses have been strongly impacted by this volatile demand environment forcing many companies to purchase inventory in bulk. Many such businesses neither have adequate capacity to store this inventory nor sophisticated tools to manage inventory. This has driven up the demand for third-party storage and provided an opportunity for independent third-party logistics companies and warehousing businesses to step in. Additionally, consumers were willing to pay a higher premium for shorter delivery times in 2020. Consequently, companies had an incentive to outsource logistics and distribution to protect their customer base and could do so while passing costs down to their customers.
Another factor that contributed to the strong demand for warehousing in 2020 was the temporary disruption in industrial and warehouse construction. Limited availability of warehouse space and a temporary slowdown in new construction led to a spike in warehouses and industrial facility prices due to high transaction demand. This effect was aggravated by larger companies that bid up prices by acquiring fulfillment centers to meet additional demand and capitalize on the e-commerce boom. These factors generated strong tailwinds for existing players in the space, and further strengthened the importance of distribution and warehousing companies. Overall major shifts in the macroenvironment, coupled with abrupt changes in consumer behavior and preferences provided the perfect opportunity for distribution, logistics, and warehousing companies.
Real Estate Trends and Outlook
Industrial real estate was one of the best performing sectors in 2020 driven by the e-commerce boom. According to CBRE’s real estate outlook report, $1 billion of e-commerce sales generate an incremental 1.25 million sq. ft. of warehouse demand. In 2021, the net absorption is expected to reach 250 million sq. ft., higher than the 5-year average of 211 million sq. ft. This will further boost demand for new industrial and commercial construction. In addition, due to a shift to e-commerce models, many retail facilities are expected to be converted to industrial facilities, however, constraints faced by such projects in residential areas will prevent an oversupply.
New industrial construction completions are expected to increase by 30% year over year in 2021, in line with demand growth. It is expected that these new facilities will have new design features such as higher ceilings and multiple mezzanine floors aimed to accommodate e-commerce fulfillment requirements and additional capacity for inventory management. Newer buildings are also expected to have a strong focus on sustainability with features like electric charging units for trucks, recycling capabilities, and energy conservation systems.
Macroeconomic Outlook
While it appears that we are at the end of the tunnel following global vaccination programs, the road to recovery is long. Several variables like exchange rates, available cargo capacity, and commodity prices will continue to pose complex challenges for supply chains and logistics over the next year. Consequently, demand for third-party specialized services will continue to grow.
A large portion of this demand will come from smaller players and independent privately-owned companies which have been asymmetrically impacted by the pandemic and cannot invest heavily in expansion. As global manufacturing demand recovers, lag times due to oil well production delays can lead to higher oil prices. This can affect margins for freight forwarders and trucking companies. Distributors and logistics companies with exposure to cyclical industry verticals such as mining and energy will perform well and see higher deal activity over the next five years as both Canada and the U.S. benefit from government spending on infrastructure.
Going forward, players in this industry will maintain a strong focus on building new baseline models that take a granular approach to macroeconomics aimed at reducing forecasting errors. In addition, the movement towards automation and flexible supply chain models with a higher focus on tail risks is expected to remain a key theme.
Key Trends Going Forward
Globalization to Regionalization
Recency bias from the pandemic and a major shift in the global geopolitical landscape will push companies to source from regional suppliers located closer to operational facilities. In addition, companies will seek to eliminate single-source dependencies and to establish a flexible and adaptable supply chain thereby relying on multiple distribution channels which may be geographically spread out.
Expansion of Scope
Warehousing and logistics companies have surely enjoyed an opportunistic period allowing them to increase their customer base, however, in order to maintain this customer base, companies must find ways to add value after things start returning to normality. Players in the industry must use their surplus cash and reinvest in disruptive trends including cybersecurity mechanisms for warehousing, pay per mile insurance solutions, and AI-driven inventory tracking.
Automation and Robotics
As machine learning and automation continue to advance, companies will continue to invest heavily in robotics and automated last-mile delivery systems. These systems will not only increase efficiency and reduce delivery times but also allow companies to cut costs by reducing headcount. Over the next decade, advances in robotics can replace human functions including picking, packing, truck loading, and sorting. Some experts have suggested a future logistics and warehousing model where 80% of tasks are performed by robots while 20% of the decision-making is done by humans who manage system failures.
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