Huge warehouse projects have helped certain contractors post big margins. So what are the secrets to this sub-sector and how much potential does it offer?
Online shopping has driven the biggest shake-up to the UK’s high streets for a generation.
Internet sales as a percentage of total retail transactions in the UK hit a fresh high of 19.9 per cent in November 2017, according to the Office for National Statistics.
One of the most tangible effects this has had is an increase in the number of distribution centres being built to meet the demands of online shoppers, as well as existing warehouses being converted to this end.
According to a UK Warehousing Association report produced alongside Savills in 2015, high street retail, food retail and third-party logistics occupied more than 215m sq ft of UK warehouse space – more than half of the estimated 420m sq ft total.
Concurrently, as the digital world has spread into every aspect of daily life, the need to build large data centres on an industrial scale to support this new infrastructure has ratcheted up too.
The result? A massive increase in the demand for large sheds used primarily as data and distribution centres, a surge that has helped one contractor in this year’s CN100 record margins in excess of 6 per cent.
Who’s winning all the work?
Winvic is a multidisciplinary main contractor, but since 2014 it has completed more than £460m of contracts delivering warehouse and distribution centre projects. The firm bills itself as a shed specialist and has done work for the likes of Amazon, John Lewis and Waitrose.
Winvic’s most recent accounts posted turnover of £462m with a pre-tax profit of £28.5m, giving it a healthy margin of 6.2 per cent for the year.
It is far from the only CN100 contractor to have identified the opportunities in this sector.
Such is the demand it has discovered in this market, that ISG has been moved to change its focus as a result.
“We use BIM to model these buildings to ensure they are getting all the space they need [for] services spaces, movement spaces, robotics spaces. There’s a lot that goes into them”
Kevin Dengate, ISG
Traditionally known as a fit-out contractor, ISG has been building data centres for more than 15 years. And as the likes of Amazon and eBay have transformed the high street, the contractor’s retail clients have been placing more and more orders for distribution centres in response to the rise in e-commerce.
Its client base left the firm well placed to take advantage of this rapidly growing workstream and adapt to the changing sector. On top of that, ISG had a competitive edge as demand also grew for data centres among its retail clients, having been an early entrant to that market.
As a result, just over 50 per cent of the contractor’s turnover now comes from shed sector. Over the last five years, the company has delivered £2.3bn of warehouse projects across the world, with much of it coming from continental Europe.
“We’ve been able to develop a very positive skillset to exploit this area of really solid growth,” says ISG managing director for retail business Kevin Dengate. “We’ve seen an increase in the last couple of years [but] we’ve been looking at this at ISG in the last three years, that’s when it’s really started to gain some real traction.”
This shift in the contractor’s workload has gone largely under the radar because many of its blue-chip and technology clients do not want to draw attention to their projects.
Shifting demands and developer profiles
Data centres have traditionally been considered more sophisticated projects than distribution centres, but the gap between the two has started to narrow.
“They are big sheds but the movement of goods and the robotics that goes into them is very important,” Mr Dengate says, adding that clients now want more than “a standard box” as a result.
“We use BIM to model these buildings to ensure they are getting all the space they need [for] services spaces, movement spaces, robotics spaces. There’s a lot that goes into them.”
The scale and complexity of these projects bring numerous challenges.
Because the sheds typically cover hundreds of thousands of square feet, even minor adjustments such as slightly raising the roof height can cost “an absolute fortune”, Mr Dengate explains.
What’s more, distribution centre floors have to be completed to “an incredibly high level of accuracy” due to the bespoke forklifts and automated machines that move goods around – even a small degree of unevenness can cause problems.
Compounding this need for precision builds, there is a growing demand for warehouses that are also flexible and able to be easily repurposed. This specification is described as “particularly [key] if it’s a speculative build” by Savills director for building and project consultancy Will Cooper.
“The bigger ones are being built specifically for an occupier. [But] some of the smaller stuff, up to 400,000 sq ft: a lot of those are being built speculatively and then the occupiers come along,” Mr Cooper adds.
waitrose distribution centre
Clugston is another contractor that has sought to capitalise on growing demand for warehouses. The increase in speculative builds has taken its chief engineer Ray Postolowsky by surprise, given the uncertainty created by Brexit and the cautious approach consequently taken by many investors.
“Following the [2008 financial] crash, what happened then was speculative warehouse and distribution completely disappeared. People just forgot about it,” Mr Postolowsky says. “In the last year or two, it’s re-awoken and there’s quite a bit of speculative work being done all over the country. With the uncertainty of Brexit, I’m surprised that it’s as strong as it is.”
Mr Cooper suggests the reason for the strong pipeline of work and increase in speculative builds is that companies can no longer afford to wait and see how political ties between the UK and EU develop.
“People have said,‘We need to do something now. We can’t put it off any longer’,” he says. “They have outgrown their existing facility, or the lease is coming to an end, so they’re having to get on with it.”
Mr Cooper adds that all of Savills’ clients in this space are “extremely active [and], from an investment perspective, it’s a very attractive sector. The funds are very keen to put money into it”.
Margins to match the growth?
While funds may be openly keen to invest in these developments, both Clugston and ISG would not be drawn on the margins they make from their respective warehouse projects.
However, the healthy 6.2 per cent margin Winvic posted in its most recent accounts, while not entirely due to its warehouse projects, nevertheless suggests the self-styled shed specialist has carved out a profitable niche.
Clugston’s Mr Postolowsky does point out, however, that the nature of this work means firms don’t end up with a long supply chain comprising many different subcontractors. Instead, the main contractor requires “a relatively modest number of trades in big quantities”.
This makes the market both very attractive and acutely competitive – “you’ve really got to be good”, he warns.
Mr Postolowsky adds that this fierce competition creates a situation in which “you’ve got to bid on the assumption that you’ll make some money out of smart thinking”. Opportunities for innovative proposals can be plentiful, particularly given that many warehouses are built on brownfield sites that can involve contaminated land, existing buildings or underground structures.
John Lewis distribution centre Magna Park Simons Group
“This starts to give you a really interesting cocktail of problems to solve,” he says. “If the incumbent design takes a certain approach, we are particularly good at finding alternative solutions that are faster, safer and – critically – have a lot less cost.”
Track record carries similar weight with clients. ISG’s history of building data centres and its existing relationships with retail customers has allowed it to concentrate on repeat business and referrals.
“The important thing for us is to secure customers and retain them for the next 15-20 years, which is what we’ve done,” ISG’s Mr Dengate says. “It’s not about short-term pounds; it’s about long-term relationships and long-term support for these customers as they move with their markets.”
The importance of keeping to programme on retail distribution projects is critical, given that business plans and store openings are often directly dependent on new hubs. To this end, Mr Dengate says ISG focuses on its relationships with developers and clients to ensure realistic targets for large shed jobs.
Have you already missed the boat?
Given the fierce competition that already exists among the incumbents in this space, is it too late for new entrants?
Savill’s Mr Cooper offers encouragement: “There’s a very busy pipeline coming through. There are a lot of big planning applications in [and] there are a lot of schemes that are in the inception stages. We have quite a few that have just gone to site in the last eight weeks, so it’s looking strong.”
And while this market has been busy for the past 18-24 months, he adds that “over the last six months, it seems to have gone up a notch”.
His observation is echoed by both Mr Postolowsky and Mr Dengate, who both believe work in this area will continue to grow.
“Although there will eventually be a finite amount of these buildings, we are already going back and doing further work. It’s a good area to be in at the moment”
Ray Postolowsky, Clugston
Mr Postolowsky suggests “there could be quite a bit of pent-up work that’s been held back” due to Brexit uncertainty.
He cites Clugston’s recent work on a new Ikea store in Sheffield that has a car park on the ground floor, retail area on the first floor and a warehouse above that. Stacking everything in this way allowed the Swedish company to minimise its footprint and utilise the space it had available, Mr Postolowsky says.
“In terms of where warehousing might go, you might want to expand your facility but don’t want to move your manufacturing facility away with an associated warehouse, but you have got a car park – that opens up the possibility of the Ikea phenomenon,” he says.
Furthermore, opportunities are growing in the maintenance and upgrade work distribution centres require for the rapidly changing technology and robotics they utilise.
“Although there will eventually be a finite amount of these buildings, we are already going back and doing further work,” ISG’s Mr Dengate says.
“It’s a good area to be in at the moment.”