Rising “grey” warehouse space: What it means for prime rents

The amount of grey warehousing space is on the up.

Up until recently, “grey” space (or available space unofficially marketed for either sublease or assignment), was mainly limited to smaller pallet storage space and occasionally, a full unit or warehouse.

However, in recent months, levels of grey space, comprised of whole or large parts of buildings, have been rising, to currently around 600,000 sqm in the UK and over 1 million sqm in Germany, according to JLL data.

For some clients, levels are so high that instead of marketing this space directly, they’re turning to third party agents for solutions to unload unused space either temporarily or permanently.

Does the increase in grey space mean a surplus of warehouse space? Yes and no. Certainly, for those clients holding this space through a lease or ownership, an excess of space exists. But for the wider market, higher levels of grey space do not necessarily mean an oversupply.

To understand grey space levels’ impact on market supply/demand balance and potential influence on prime rents, let’s look at the likely drivers contributing to the current rise in grey space.

1. Excess e-commerce fulfilment space

The war in Ukraine that impacted Europe due to its reliance on Russian gas, reversed the early stages of a post-pandemic economic recovery. The resulting, staggeringly high inflation rates (which rose to double digit levels in the UK and Germany) persisted longer than economists predicted, keeping private consumption at bay.

Having planned for steady growth in online sales, e-commerce retailers were left with excess warehouse space. Preparing for a post-pandemic return to in-store shopping, retailers found themselves in a similar position, after having also added new, or shored up, existing online channels during the pandemic. In both cases, commitments through either direct lease or 3PL contracts were made for often new best-in-class XL warehouses buildings, that are now available for either sublease or assignment. This defines a large proportion of grey space in the UK.

2. Restructuring or bankruptcy

Ongoing economic uncertainty is challenging several business sectors, leading to an uptick in restructurings and bankruptcies. In either case, such measures can make it necessary for companies to cancel a lease or 3PL contract. That potentially puts either smaller, pallet space warehouses or whole warehouses on the market for sublease or assignment. It’s grey space, ranging in age from older to best-in-class.

3. Net carbon zero targets

Under pressure from green legislation, many 3PLs have 2030 net zero carbon targets in place. To reach this objective, a full assessment by 3PLs of the warehouses they occupy is required, to determine how much capital expenditure is needed to upgrade buildings to meet energy efficiency and emissions standards. Here, older or bespoke warehouses that cannot be feasibly upgraded will need to be unloaded through subleasing or assignment.

4. Consolidation into a larger best-in-class warehouse

Lower consumption means lower inventory volumes for a growing number of 3PL clients. Facing a spike in global supply chain disruptions during the pandemic, retailers and manufacturers took on as much as five times historical inventory levels. A longer than anticipated drop in consumption has reversed this approach to inventory management for a growing number of retailers and select manufacturers, who are now reducing inventories.

Meanwhile, to control costs and streamline deliveries, there’s a preference among clients to have inventories closer to their end consumers. More warehouses are therefore needed near large population centres, factories, and major transport hubs. The current significant reduction in pallets stored and moved at such locations is compelling some 3PLs to consolidate pallets into one centralised larger warehouse, rather than pay for unused space dispersed across several warehouses. In this case, vacated warehouses that range in age and quality, are made available for sublease.

What’s the impact on prime rents?

Despite grey space becoming more noteworthy, especially in the UK and Germany, best-in-class share of total grey space remains low and buildings are scattered across different markets. And with often different lease terms and conditions, grey space tends to attract only a subset of all occupiers who are looking for more flexibility, lower or no fit out costs, and an exchange of atypical space and/or terms for lower rents.

In fact, total market vacancy rates are so low in Germany that the lower rents, more flexible lease terms, and interior fit outs including racking, afforded by grey space, are deals not to miss for occupiers with less requirements. For the same reason in the UK, a noted group of some occupiers are showing a preference for sublease space, exploring availability in this market before turning to the broader market.

Indeed, if increasing amounts of whole building grey space is brand new, BREEAM excellent space available for sublease, or assignment, at market rents and lease terms, as is the case in the UK, then this space is in direct competition with the broader prime market. Of course, if vacancy rates are very tight, as is the case in Germany’s top logistics markets, a supplement to a limited supply of best-in-class buildings should bring some market relief, especially with development pipelines declining.

For now, grey warehouse space, new or old, at market rents or below, on a standard or flexible lease, will not have a significant impact on prime rental levels. However, it is something to keep a watchful eye on.