By Sergio Ornelas, Editor MEXICONOW
Because if you earn a salary in Mexico, chances are that a portion of your retirement savings is already invested in this sector; or if you are a foreign businessman or institutional investor you certainly want to evaluate the new low-risk, high-yield real estate investment opportunities in Mexico.
And if you simply think that industrial real estate is a boring subject, think again because those roofs that shelter manufacturing and logistics operations are not mere piles of steel, brick and mortar. They are a dynamic and fundamental factor of each business, just as your home is in your life. And they can predict the future, too.
Alas there is limited information in the media about real estate, particularly the industrial type. In this article, we will attempt to partially remedy that by reviewing the exciting dynamics of this sector and its outlook for 2014.
For our discussion, we will define the universe of industrial buildings as “THE MARKET”. This includes all leased and owned facilities zoned and used for manufacturing, assembly, logistics, R&D, engineering and business process (“Call centers”, “Back-office”) operations.
The buildings may be old (Type “C”), new and efficient (Type “A”) or in between (Type “B”), and they may be located in an industrial park or on “stand-alone” sites. Although most buildings are occupied, THE MARKET also includes those buildings that are vacant.
THE MARKET is a great tool to forecast the economic wellbeing of a country, a region or a particular city. In an economic upswing, lease contracts and construction permits are known well in advance of the arrival of equipment or the actual creation of jobs.
By the same token, in a downswing, total or partial attrition of the use of a facility in THE MARKET is generally known in advance of workers lay-offs and actual vacancy, this is possible by the lack of a timely renewal of a lease contract or the placement of the property in a “for-lease or for-sale” condition in the marketplace.
Mexico is one of the few emerging economies with a world-class industrial real estate sector. By virtue of its proximity to the United States, the caliber of international users (tenants and owners) and the highly competitive environment, THE MARKET boasts top, quality players across its value chain.
The industrial parks, the developers, the general contractors, the real estate brokers, the financial institutions, the capital investors and the professional service providers are truly among the best of the world.
This is why THE MARKET represents one of the most important competitive advantages Mexico has to attract foreign direct investment (FDI) and technology.
THE MARKET in 2013
At the end of 2013, THE MARKET had approximately 648 million square feet of roofed space (60.2 million square meters) throughout Mexico. This represents an increase of 2.4% over 2012. The annual growth rates were 2.2% and 1.8% in 2012 and 2011, respectively.
Unlike the general economy in Mexico, which struggled to grow at a disappointing 1.3% in 2013, THE MARKET had a very good year. For example, in terms of new construction, THE MARKET added about 15 million square feet of space on the heels of the auto industry in the Bajio region, distribution facilities in Mexico City, plastic molders in Monterrey and, after almost four years in hibernation, diverse users in the border cities.
In spite of subdue macro economic conditions in Mexico and the lethargic demand for Mexico’s exports in the United States during 2013, the main performance indicators for the major metro area sub-markets in Mexico evidence a healthy MARKET on the rise. Please see Exhibit #1 for “Gross Absorption” and Exhibit #2 for “Vacancy Rates” in the main selected sub-markets in Mexico for the period of 2008-2013.
After taking a sabbatical year in 2012, Monterrey is back with four million plus gross absorption in 2013. Large projects by Ryder, Ternium, Whirlpool, Nifco, Caterpillar, Lego and about 50 others revived this sub-market nicely. Most developers are in the hunt and with optimistic outlooks are building inventory or speculative space that slightly increased the vacancy rate at the end of the year to 9.8%.
Ciudad Juarez, the third top sub-market in Mexico is enjoying a frank recovery with gross absorption at 2.8 million square feet and over 30 transactions including those of Honeywell, Tatung, TPI Composites, Continental and Yazaki. Crime has receded significantly in Juarez and companies are taking advantage of the highly competitive wages and logistics costs at the”Borderplex”. Industrial buildings’ rents are also very competitive since there are still about 9.5 million square feet available as reflected by the vacancy rate of 15.6%.
The Tijuana Metro Area’s slow recovery has brought this sub-market to its lowest vacancy rate since 2007, which has steadily declined from the peak of 17.5% in 2009 to 11.9% last year. The gross absorption of 2.1 million square feet in 2013 marks the second year in a row at this level, signaling a much better outlook in the mid-term as the battered California economy continues to recover. Tijuana had multiple transactions of small facilities but there were a few large buildings constructed such as the ones for Hyundai and Angiotech.
With a very low total vacancy rate of 4.6% and less than 2% for “A” type buildings, Guadalajara is a very attractive location for new developments. The area has the highest educational level in Mexico, and was able to attract the likes of India’s Tata Consulting Group, IBM and Pisa Labs among 30 transactions in 2013 totaling over 2.3 million square feet.
Amongst the largest sub-markets, Reynosa has had the slowest recovery, but still managed to post 1.4 million square feet in gross absorption in about 25 transactions including those of Corning, Cequent and various logistics tenants.
The large Mexico City Metro Area posted the best performance of all the sub-markets for a third year in a row. With another year above 10 million square feet of gross absorption, the region’s main problem is to keep up with demand as evidenced by its declining vacancy rate, now at 5.2% in spite of substantial new construction. Various corridors are undersupplied and it is increasingly difficult to find land suitable for development.
This sub-market, which represents over 25% of THE MARKET, is literally undergoing a real estate “revolution” as wholesalers and retailers in the Mexico City Metro Area continue to pursue the financial benefits of efficient Class “A” buildings and third party logistics (3PL) services.
Practically all of the sub-markets in Mexico are on the rise. Please see Exhibit #3 of the “Mexico industrial property clock” provided by Jones Lang LaSalle, which shows that, for the first time in many years, there are no sub-markets in the “Falling market” phase. In fact, Guanajuato, San Luis Potosi, Puebla, Queretaro, Aguascalientes, Saltillo and Mexicali are doing quite well.
For a summary of the main projects and transactions in THE MARKET by region in 2013 please glance overExhibit #4.
As demand increases prices follow suit. There is a definite, albeit slight, upward tendency in prices for new construction and leases for “A” buildings across most sub-markets.
Land prices have shown the highest increases particularly in the busy Mexico City Metro Area, the Bajio region and Monterrey.
Lease prices for “C” and “B” type buildings continue to be flat, particularly where they are most available such as in most of the border sub-markets. Please see Exhibit #5 which illustrates the general, average price trends in THE MARKET.
Even though industry has been present in Mexico since the 1930’s, we can trace the birth of THE MARKET back to 1964, when the first maquiladoras and industrial parks began in the border cities.
It was then, that the wave of construction of build-to-suit, Class “A”, light manufacturing facilities started by Mexican regional developers. But what really distinguished the leases to foreign firms operating as maquiladoras from other industrial and distribution facilities being built in Mexico City, Guadalajara and Monterrey at that time were the financial terms.
Indeed, the pioneer developers were able to structure the leases with the maquiladora (A Mexican subsidiary of a U.S. corporation) to include: A long-term lease commitment, rents denominated and payable in U.S. dollars and a guarantee from the U.S. parent corporation in case of rental payments default by the maquiladora . This was the only way the early developers were able to obtain loans from U.S. banks.
This lease structure, which is still in vogue pretty much today, provided the financial foundation without which THE MARKET would not have flourished as it did in terms of speed of demand, quality of facilities and geographical expansion.
In fact, as we shall review later, this basic lease structure is the single and most fundamental reason why THE MARKET has been able to excite and attract international capitals.
Please see the 50-year Time-line for THE MARKET in Exhibit #6. Notice the growing years during the 70’s and 80’s boosted by the auto and electronics industries. After the Iranian recession and the devaluation of the peso by President Lopez Portillo, the industry enjoyed a “Boom decade” which was further fueled by the creation of NAFTA.
By the early 90’s, Mexico’s success in industrial real estate was well known globally and more players joined in led by international brokerage groups and GE Capital. A few years later, other investors followed including U.S. Real Estate Investment Trusts (REITs), insurance groups, pension funds and other capital and equity investors.
At the turn of the century, the large foreign investors started to increase their positions in THE MARKET by acquiring property from the Mexican developers and forming strategic alliances with them for further growth. During these years, THE MARKET witnessed the associations of FINSA with AIG and GE; Prudential with Amistad and O’Donell; AMB and Prologis with G-Accion; Calpers with Vesta and Kimco with American Industries among the most notorious ones.
Throughout this time, the consolidation of properties gravitated rapidly into the hands of the large players, setting the stage for the latest and most dynamic chapter in THE MARKET with the formation of the “FIBRAS” in 2011 on the eve of THE MARKET’s 50th anniversary.
Equity Capital Markets
Currently, there are three equity capital structures supporting THE MARKET:
1) “Common Stock” of a publicly traded company specialized in real estate. This is the traditional equity position in a firm as a stockholder.
The first incursion in the Mexican stock exchange by a domestic real estate firm was in the late 90’s by G-Accion. This firm was certainly ahead of the times and opted to delist from the stock exchange, partly because of a lack of sufficient active trading, and a tender offer by the global player AMB Property Corporation in 2004.
But now that Mexico’s financial markets have a better understanding of THE MARKET, in mid-2012, Vesta, a 14 year-old industrial developer successfully launched a US$250 Million initial public offering (IPO).
2)“Structured Equity Securities” were created in Mexico as a new financial asset class known as “Certificados de Capital de Desarrollo” or simply “CKDs”. Their main purpose is to finance private equity funds that invest in real estate or infrastructure projects in Mexico.
The intention of the regulators in Mexico was that the principal source of capital for the CKDs would come from the Mexican Pension Funds known as AFORES, which are the most important institutional investors in Mexico.
The AFORES have funded industrial and distribution space developers in THE MARKET through CKDs including: Prudential’s US$240 Million in late 2010, and since: IGS’ US$85 Million, FINSA’s US$215 Million, and Prologis’ US$257 Million among others.
CKDs are often times criticized because of the level of bureaucratic protection and shelling from the AFORES regulators, which limit the investment flexibility of THE MARKET’s developers.
3) “Real Estate Investment Trusts” or REITs as they are referred to in the U.S. were created in Mexico as “Fideicomisos de Infraestructura y Bienes Raices” known simply as “FIBRAS”. Their purpose is evidently to invest in real estate projects and infrastructure.
FIBRAS represent a more flexible and agile investment for individuals because of their liquidity in the Mexican stock exchange and the fact that they must distribute 95% of their income to certificate holders. This is an ideal investment option for the individual investor who can in fact be a co-landlord with rental income from sophisticated properties, such as the ones in THE MARKET.
Because their portfolios include mostly leased properties with long-term contracts denominated in dollars, the FIBRAS have really caught the excitement of investors, including the AFORES, foreign institutional investors and individual domestic and foreign investors.
Compared to the CKDs which represent longer term, speculative investments, the FIBRAS offer immediate cash returns in the form of dividends and less risk.
Mexico’s first FIBRA, fittingly named “FIBRA UNO” (Ticker: FUNO11), was launched in early 2011 by Grupo E raising about US$280 Million, soon to be followed by a second primary offer in the amount of US$650 Million in March 2012. FIBRA UNO was originally diversified but it has significantly increased its position in THE MARKET by recently acquiring among others the portfolios of FINSA (5.6 million square feet) and Grupo Garza Ponce (3.7 million square feet).
In December 2012, FIBRA Macquarie (Ticker: FIBRAMQ12) placed its IPO for US$1.15 Billion which were immediately invested to acquire approximately 27 million square feet of industrial and distribution space from CPA and GE-Intramerica.
Terrafina (Ticker: TERRA13), created by Prudential, launched its IPO in March, 2013 raising US$665 million; its initial portfolio was sourced from Prudential Real Estate Investors Latin America’s closed-end funds. Just seven months after its IPO, Terrafina bought the Kimco/American Industries portfolio.
At the end of 2013, there were seven active FIBRAS in the Mexican Stock Exchange. Besides the three mentioned above which are specialized in the industrial and distribution real estate markets, there are also FIBRA Hotel, FIBRASHOP (Shopping Centers), FIBRAINN (Hotels) and DAHNOS (Commercial, office). Financial and investment information about the FIBRAS may be found at the Mexican Stock website ( www.bmv.mx) or through a U.S. or Mexican stock brokerage firm.
Prologis, the world’s largest industrial and logistics developer and a leader in THE MARKET in Mexico, is seeking to become the eighth FIBRA in Mexico. In late 2013, FIBRA Prologis Property Mexico was preparing to issue its first certificates, but it had not listed the certificates yet at the time of this writing.
Please see Exhibit #7 which shows the main investment industrial and distribution real estate ownership portfolios currently in THE MARKET. Notice that Prologis, Terrafina and Macquarie are listed in a “technical tie” at slightly over 30 million square feet each, and they are the undisputed leaders at the start of 2014.
Worth noting as well is the fact that the process of consolidation has left only eight developers above five million square feet, and which collectively own about 25% of the total inventory of THE MARKET.
The FIBRAS have grown by acquiring property and recycling ownership, very little growth has been organic in nature. But the high level of activity has increased property values back to pre-recession levels.
About half of the equity in the FIBRAS belongs to the Mexican AFORES, the other half is in the hands of international institutional investors, who as of recent have place greater values on industrial real estate over the commercial, office and housing real estate sectors.
Both parties have deep pockets. The AFORES for example, manage close to US$150 billion, out of which the law allows them to invest 20% in CKD’s and FIBRAS. This is about US$30 billion and they still have over 80% of those funds available.
It is extremely interesting to observe how THE MARKET’s main equity holders have changed through its 50 years of history: It went from domestic owners in the first decades, to the balance sheets of international investors in the mid 90’s, and as of recent, s big portion, is in the retirement savings accounts of millions of Mexican workers.
The Outlook for 2014
There will certainly be more FIBRAS’ listings in 2014. Perhaps about ten in all real estate sectors and maybe two or three specialized in industrial real estate.
Expect 2014 to be an excellent year for THE MARKET, not because of the FIBRA fever but mainly because the Mexican economy will perform a lot better than it did in 2013. Our forecast is for a GDP growth of about 4% for the general economy of Mexico and about 3% for THE MARKET, along with reduced vacancies across all sub-markets.
This optimistic outlook is based on three major trends: First, the U.S. economy will perform a lot better than it did in 2013 driving demand for Mexican exports higher as manufacturing in Mexico expands. Secondly, the federal government has to make up for the funds that were held up in 2013 and that it will necessarily deploy during 2014, especially since it will have additional income as a result of the tax reform.
And lastly, the energy reform will increase FDI which will bring new tenants to THE MARKET and a boost to the general economy.
But the future is discontinuous, non-linear. THE MARKET players need to have the courage and vision to stay within the fundamentals of the sector, utilizing the new financial tools with organized and productive strategies that lead to wealth creation and competitiveness.