Development Trends: Public investment in

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Canadian Developers Contemplate Catalysts and Obstructions

CANADIAN DEVELOPERS are generally less focused on interest rates and more concerned about tariffs than their peers elsewhere, a new survey of more than 400 global players with at least USD $200 million worth of projects in progress reveals. While in sync with the global view that public investment in infrastructure and tenants’ expectations are the two most influential forces driving development decisions, Canadians assign even more weight to these considerations than respondents from most other global regions. They also stand out for a higher propensity to use private equity to fund projects.

The bulk of the findings in the newly released Altus Group Global Property Development Trends Report are tied to opinions collected in early 2020 before COVID-19’s full hit landed in the world’s commercial real estate markets. Accordingly, Altus analysts conducted in-depth interviews with seven prominent senior executives, including two Canadians, in July 2020 to explore how that sudden impact may have heightened existing pressures or undermined the optimism expressed earlier in the year — then concluded that the development sector has not dramatically altered course, for now.

“It’s evident from the report that the global development sector is facing a complex set of challenges due to long-term market pressures, many of which are exacerbated by the pandemic and its evolving impacts,” says Scott Morey, Executive Director at Altus Group. “However, the industry is recognizing opportunities balanced with a cautious approach.”

Canada is in line to receive a large share of the investment represented in the report. Seventeen percent of respondents have projects underway or in the pipeline in this country, making it the second most active global region after the United States, where 31% of respondents are engaged. Survey participants also have projects, in descending percentages, in Australia, the United Kingdom, Germany, France, the United Arab Emirates, Singapore, Thailand, Vietnam, Columbia, Brazil, Hong Kong and Mexico.

Looking at the entire global picture, escalating project costs, environmental regulations and labour shortages in the construction trades are ranked the top three challenges that the industry faces. More than two-thirds of respondents acknowledge that the risk of economic downturn is colouring their decisions about new construction investment. Many are also looking to snag some potential bargains if or when the pandemic fallout continues.

“Macro uncertainty due to the pandemic has resulted in ‘lots of dry powder,’ or cash reserves, waiting on the sidelines. Developers expressed surprise that significant distressed asset opportunities have not yet emerged,” the report states. “They are focusing on continuously evaluating conditions, being prepared and waiting attentively for more opportunities to emerge.”

Meanwhile, the already significant sway of infrastructure investment is expected to become even more dominant as governments attempt to stimulate a resurgence of jobs and spending. Public transit projects, in particular, are deemed critical determinants in the pattern of and demand for surrounding urban development. Seventy-four percent of survey respondents ranked infrastructure as a major influence on development planning — a notably larger share than the 60% who flagged the global economic outlook as a factor.

Survey respondents would likewise welcome reduced development charges, a more straightforward approvals process, and public-private partnerships. These are identified as the top three actions governments could undertake to encourage private investment, with two of those measures also pertaining to concerns about construction project costs. Government investment in training and national immigration policies are also expected to factor in expanding and maintaining a required construction labour force.

“Uncertainty related to government action and inaction has amplified views both positively and negatively,” Altus analysts surmise. “While government has been integral to establishing a floor for economies, there are concerns about the various stimulus measures in place and uncertainty regarding what may happen when these measures end.”

REGIONAL PERSPECTIVES Drilling down to regional perspectives, Canadian developers are largely in sync with many global trends, but are outliers in a few others. Interest rates are less likely to be unnerving in Canada, where only 39% of respondents deemed them a significant influence on development planning decisions versus the global average of 51%. However, cross-border trade issues, which nearly 51% of Canadians called significant, raise major concerns for just 43% of the overall survey base.

Canadian respondents were somewhat less likely to give significant credence to the global economic outlook — 57.4% versus a global average of 60.2%. They were also less likely to see climate change as an influential factor — 54.1%

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DEMAND FOR LOGISTICS FACILITIES DRIVES CONSTRUCTION

Toronto continues to offer slim prospects for industrial space seekers — registering a mere 2% availability rate at the end of September — even though more than 2.7 million square feet of new supply came onto the market between July 1 and September 30. CBRE’s third quarter statistics also reveal reduced industrial availability over the course of summer 2020 in Vancouver, Edmonton, Winnipeg and Montreal.

Nationally, CBRE pegs the average availability rate at 3.5% across the 10 major markets it surveys, ranging from Toronto’s North American low of 2% to 9.7% in Calgary. Only Halifax and Ottawa recorded increases in availability, as more than 6.7 million square feet of industrial space was absorbed nationally during the third quarter.

Average net rents slipped marginally from $9.17 to $9.16 per square foot, but the average sales price climbed at a steeper angle, from $156.41 to $159.57 per square foot. Booming e-commerce trends underpin the robust numbers and are believed to be fueling new purpose-built construction as tenants foresee fewer releasing opportunities at turnover.

“There remains a lack of readily available top-tier logistics facilities across Canada,” CBRE analysts observe.

“Investors, tenants and developers recognize that e-commerce and logistics demand are here to stay and they’re making big forward-looking industrial commitments,” concurs Paul Morassutti, CBRE’s Vice Chair.

The 10.4 million square feet of space now under construction in Toronto is expected to make a relatively small dent in demand, and lease out well ahead of completion. Q3 2020 was the 14th consecutive quarter that average net rents increased, edging up this time by $0.05 to reach $9.76 per square foot. Year-over-year, the average net rent rose by about $1 per square foot, largely due to more pronounced spikes in the fourth quarter of 2019 and first quarter of 2020.

Beyond Toronto, Montreal and Vancouver also record industrial availability rates of less than 3%. Vancouver added 803,000 square feet of new supply during the third quarter, but still saw a 10 basis point drop in the availability rate, taking it down to 2.8%.

Average net rent dipped in Vancouver down $0.07 per square foot to rest at $13.52. Approximately 4.3 million square feet of new space is currently under construction.

Montreal’s industrial availability rate now sits at 2.5% after a further 10 basis point slide during the summer. On the flip side, average market rent has increased by more than 27% since 2018.

The most recent quarter saw a $0.05 increase, pushing Montreal’s average net rent up to $7.19 per square foot. More than 792,000 square feet of space was absorbed in the same period. About 241,000 square feet of newly completed industrial space came onto the market and 1.4 million square feet is currently under construction.

“Given the recent demand for industrial product, developers have become more confident in the city’s warehouse and distribution market, resulting in an uptick in the number of projects currently in the planning stages of development,” CBRE analysts report.

“The Canadian industrial market hasn’t missed a beat,” Morassutti reflects. “In fact, it has unprecedented momentum and is truly the rock star of the commercial real estate world right now.”

Canadian developers have more experience using private equity to fund new projects, with 34.4% reporting they have done so on multiple occasions compared to the global average of 25.3%. An equal number of Canadian respondents have relied on private equity or private debt to fund one project — 27.9% — while 21.3% report using private debt for more than one project. That, too, is higher than the global average of 17.6%.

Meanwhile, the risk of an economic downturn is more likely to weigh in Canadian decision-making about new construction investment (73.8%) versus some of their global peers. Notably, only 56.1% of respondents from the U.K. voiced the same hesitation, while 68.1% of respondents did across the entire survey base.

In contrast, Canadian participants exhibited less consternation about choice of asset type, with only 39.3% reporting that a downturn could affect the decision, compared to 68.3% of respondents in the U.K. and 59.3% in the U.S.

A somewhat higher percentage of Canadians deemed escalating project costs and environmental regulations to be key challenges. They were less concerned about labour shortages in the construction trades, with 57.4% deeming it a major challenge compared to the global average of 65.%. That stands out even more in contrast with Australia, where 66.7% of respondents called trades shortages an impediment, and the U.K., where 70.7% of respondents voiced concern.

APPLYING NEW TOOLS When it comes to adopting strategies and practices to address business challenges, Canadians are among the most proactive adherents of sustainable development, staff training and upskilling, and digital transformation of back offices. They outdistance their U.S. neighbours in the uptake of advanced construction practices — at 42.6% versus 31.9% — but trail the pace set in Asia, Latin America, Australia and the United Kingdom.

While ahead of most other global regions on the sustainable development front, the 49.2% of surveyed Canadian developers who are delivering sustainable projects still lag Australia’s 57% quotient. Nevertheless, Altus analysts speculate COVID-19 will push up that tally everywhere in the years to come.

“Interestingly, the lens on what ‘environmental’ means has shifted focus,” the report muses. “The top priority and focus is human health and customer well-being. Sustainable real estate development is now seen as an opportunity.”

Canadians developers surpass the global adoption rate for eight of 11 identified construction and project management technologies including: smart buildings; construction site robotics; building information modelling (BIM); process automation; virtual reality; drones; geospatial; and connected job sites. Thus far, though, all are a long way from the market standard with no more than 39% of Canadian respondents having implemented any of them.

Canadian developers fall behind the global average in adopting the two least common technologies: 3D printing and 5G. Just 11.5% of Canadian respondents have adopted 3D printing compared to the global average of 18.4%; 3.4% of Canadians have implemented 5G versus 5.1 per cent of total respondents.

Canadian uptake of prefabrication is slightly below the global average — reported at 28.3% versus 31.2% across all respondents — and well behind the U.S. adoption rate of 41.6%. zz The complete findings of the Global Property Development Trends Report can be found at www.altusgroup.com/featured-insights/globalproperty-development-trends-report-2020.