Reminiscent of the Wild West – this is the best way to describe what the Montreal industrial landscape will be like in the next six to 12 months as demand for space outpaces supply.
Pre-pandemic, Montreal, while lagging behind other major markets in the industrial arena, was coming into its own, with a three per cent vacancy rate. When COVID-19 struck, the sector accelerated to an unexpected, unprecedented level: Montreal’s industrial market is now posting a record one per cent vacancy rate.
The Greater Toronto Area is seeing the same record low, but with a stark difference – that region has been developing spec industrial buildings for some time, while Montreal is just starting, with a delivery timeline of mid-2022.
Apart from the 400,000 square feet of industrial space developer Broccolini delivered in Vaudreuil in July, there will be no new industrial supply coming into the Montreal market in 2021.
The driving force that is e-commerce
“COVID has really accelerated e-commerce, causing havoc in the industrial market,” says Paul Broccolini, executive vice-president of Montreal-based Broccolini, a leading single-source provider of construction, development and real estate services catering to the industrial, office, retail, institutional and residential markets in Canada.
“Consumers’ habits are changing big-time, and e-commerce is playing a big part.
“We’re seeing it in our business. We’re doing a lot of work for Amazon and other retailers on the home improvement side, in the refrigerated foods industry, for 3PLs (third-party logistics).”
Amazon has been a dominant force in the industrial sector, not just in Canada but across North America. In the last 24 months, it seems the e-commerce giant has claimed any type of larger-bay building that has entered the market.
And if there is a class-A building yet to be taken, chances are this retailer is looking at it.
Last year alone, Colliers Montreal completed three transactions involving Amazon. As the retailer’s preferred developer/builder in Quebec and Ontario, Broccolini has a strong relationship with Amazon and sees first-hand how the company is disrupting the Canadian market.
“Pre-COVID, retailers were talking about what had happened over the last year and how e-commerce was going to transition to where we are today,” says Anthony Broccolini, COO of Broccolini.
“We have fast-forwarded five years. Amazon is the most advanced in this field and had the foresight and prepared themselves, not knowing what’s coming. It was their business plan and they were bullish on it. And the proof is in the pudding.
“They are expanding and growing their footprint in a significant way while other retailers are adjusting. It’ll be interesting to see how others will continue to react and how this line of business will continue to grow.”
Spiking demand, growing pains, changing behaviours
No question, the demand for industrial space, spurred by the rapid growth of e-commerce, is shaking up the market.
But the fact is, Montreal doesn’t have the buildings to satisfy this demand – the city’s inventory of vintage properties is a stark contrast to the structures e-commerce warrants: big-bay, automation-ready buildings boasting 30- to 36-foot clear ceiling heights.
So why didn’t developers build earlier?
The way we see it, Montreal didn’t believe in its own success and was not confident in its economy despite the city becoming an AI hub, developers building more notable structures, and brands like Amazon taking notice – and taking up residency. All prior to the pandemic.
Broccolini is one of the few developers that commenced construction on an industrial spec building in Montreal in 2021.
On other developer’s’ hesitation to build, Paul Broccolini comments: “I think it’s a cultural thing. Sometimes Montreal developers don’t want to believe what they’re seeing, have their doubts, and like the old-school way of doing things – ‘Get a pre-lease, then we’ll start.’
“At Broccolini, we’re confident. We know the market stats and have the relationships. Maybe it’s a mindset. Maybe we’re more aggressive.”
The hunger in the sector is evident in users’ changing behaviour. Whereas before, we would have tenants willing to sign leases starting 12 months ahead and planning for the development of build-to-suit spaces, now if we have a three-to four-month window before occupancy, we consider it a long lead time.
Broccolini is seeing both sides of the coin, both in Montreal and Toronto, according to Paul: “Some companies have the proper plans in place. A lot of the 3PLs companies, based on the contracts they win, want space immediately.
“The end-user’s planning strategy is different; they’re more patient. If you have product ready to go, getting attention from the bigger spectrum as opposed to waiting for the customer to sign off on the drawings and get permits and so forth . . . there’s risk and reward, making sure you build the right product at the right location at the right rental rates.
“But if all these things are aligned, as a developer you can do very well.”
Obstacles to creating Montreal industrial space
With the clear lack of industrial product in the Montreal market, the obvious solution would be to simply build. However, there are several factors that make developing new industrial buildings in the city challenging, chief among them the cost of construction, which has increased 18 per cent since November 2020.
Paul Broccolini cites scarcity of land, restrictive zoning and environmental concerns. He also points to resistance from major municipalities and boroughs: “They don’t want to see trucks on the road, and so push distribution to off-island; but off-island don’t want trucks, either, so it can be very frustrating to find sites.”
Montreal’s taxation, combined with high additional rent rates, poses another hindrance to industrial development.
“When you do find sites, especially on the island of Montreal, and you’re looking at new builds, you’re looking at big numbers,” continues Paul. “Net rents are being pushed from $6 to $7, to $9 to $10; add to that $5 to $6 on CAM taxes. And obviously, the price of construction has gone up quite a bit.”
A bullish outlook on Montreal
Taking into account both the strides the Montreal market has made and the challenges it presents to developers looking to add supply to its industrial landscape, the city remains “the darling of Canada”, with all eyes watching its every move.
According to Montreal International, the city is “second only to Phoenix in terms of its economic recovery from COVID-19.”
Things are looking up. Interest and investment in the industrial market are coming from all sides: from private equity, REITs, fund companies, institutions and banks. Cap rates for investment grade real estate are in the low fours, even breaking fours.
While currently there is a lack of class-A industrial space, there will be supply in 2022. We anticipate demand for this highly anticipated space to up average industrial rent rates.
Watch for innovations within the sector. There is buzz around the development of multi-level industrial – as land costs continue to climb, going vertical just might be the best direction to take.
As e-commerce continues to grow at a rapid pace, the industrial market will keep changing with it.
“I read a report projecting that in Canada 42 million square feet of industrial buildings will be developed in the next five years, largely because of e-commerce,” says Paul Broccolini. “And where is the industrial market in Canada? Toronto is the bulk of it, second would be Montreal, followed by Calgary and Vancouver.”
“Montreal is in the best shape it’s ever been. In my career, I’ve never witnessed where Montreal is at today,” says Anthony Broccolini. “It’s ripe for growth. We’re seeing it in the velocity and pricing across many levels. We’re quite bullish on Montreal. There’s no question about it.”
Welcome to the Wild East.