Cold spell forecast in refrigerated sector

If recent numbers from operators of some of the largest chains of refrigerated warehouses are anything to go by, the sector faces a chilly winter.

Refrigerated warehouses are a niche sector of the industrial real estate sector, which typically only bear scrutiny when things appear to be going wrong. Arguably, they are low-margin, glamour-free asset classes that appear most attractive in high summer.

But analysts' warnings about the US's single largest refrigerated warehouse operator, Americold, and Europe's largest operators, Frigioscandia and CSI, suggest that the sector bears scrutiny now.

First, Americold - owned by two US real estate investment trusts - disclosed that its operating performance has been lower than expected and said it would defer a portion of the rents it would have paid to its two parent companies.

As a result, its owners, Vornado Realty Trust and Crescent Real Estate Equities, are widely expected to alter the lease terms in favour of Americold. Vornado and Crescent own Americold on a 60/40 per cent basis and the subsidiary has about a 30 per cent share of the US market.

ProLogis, the Denver-based real estate investment trust, has warned that its European refrigerated warehouse business is performing well below expectations and that weak results are expected at least until the end of next year.

Given that the operators with dominant market share in both the US and Europe have announced below par trading results, a closer look at the economics of refrigerated warehouses is warranted.

In its third-quarter results statement, released in late October, ProLogis attributed poor performance to a weak summer harvest in Europe. What is more, it said, results were affected "by low occupancies, the amortisation of costs associated with investments in information technology, the integration of the European operations and weak European currencies". Rising fuel costs and transport strikes did not help either, it said.

Jim Frankiss, a member of the industrial agency team at chartered surveyors King Sturge, says that part of the challenge for refrigerated warehouse operators comes from the food producers themselves.

In effect, better supply-chain management by the food producers is achieving, if not exactly just-in-time supply, something much closer to it. The fact is also that meat consumption is declining.

But Cyril Godderie, chairman of CSI and of Frigioscandia, warns against painting a picture of refrigerated warehousing too broadly. "In Europe, the situation is very different from that of the US," he says.

When ProLogis first acquired the refrigerated warehouse business in late 1997, he says, the warehouses were still very dependent on what he terms "government intervention".

The EU practice of buying up surplus meat, grains and fresh produce created huge demand for refrigerated storage space. While the practice was prompted by war or famine several decades ago, during the past 20 years the main purpose of such purchases was price support.

But the onset of so-called "mad cow" disease and the subsequent depletion of spare stocks meant that warehouses were emptied of their stored goods with record speed.

ProLogis' goal had been to convert Frigioscandia from a storage to a logistics business, compatible with its other pan-European dry storage and logistics operations. But with stocks being emptied from warehouses at record rates "we didn't have time to convert the business", he says. Americold, analysts say, is a different story. Green Street Advisors, the California-based Reit research firm, point out that the intention of the company was to take advantage of operating efficiencies and pricing power it could achieve as market leader in a highly fragmented market. In its analysis of what went wrong, Green Street points to market factors affecting its core customers. First, it gets paid for storing and handling refrigerated and frozen goods, and the handling is the higher margin business.

AMERICOLD is particularly exposed to fluctuations in the poultry business as a number of its facilities are near poultry suppliers.

One of its highest margin businesses is the blast freezing of chickens, and Green Street points out that one of the biggest producers, Tyson Foods, has recently drawn investors' attention to oversupply in the poultry business.

Second, Green Street notes, Americold has been a victim of the strong US economy and the lowest unemployment rates in decades. In these conditions, Vornado and Crescent have little choice but to reduce the rents they charge Americold for the space it occupies, says Gary Boston, Reit analyst at Goldman Sachs. "They want to give Americold some more wiggle room," he says.

Mr Godderie notes that the very nature of refrigerated warehouses makes them far more expensive creatures to operate, even in the best of times. "It is more than just a large refrigerator," he says, adding that most of the company's warehouses cater to frozen, chilled and traditional "dry" stored goods. The big margins, he says, are not in storage, but in logistics, and Frigioscandia is moving towards this.

So what is the future for Americold? "If the business cannot be turned around in a reasonable time period . . . it should be sold," says Green Street. "If Americold were sold because its operating results had not rebounded, our valuation . . . might prove too optimistic."