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China Logistics

Industrial development moves inland

China's logistics activity has long been concentrated in the country's coastal regions. But, the future is inland China, as evidenced by ProLogis's move into five inland markets. The global developer will build 8.7 million square feet of space in Changsha, Chengdu, Chongqing, Nanjing and Wuhan, representing an investment of $246 million.

While export activity supports existing coastal logistics hubs, the emerging inland hubs are developing in response to the rapid expansion of the domestic economy. Over the past several years, China has experienced GDP growth in excess of 9 percent. GDP is expected to grow 8 to 11 percent until 2011, according to economists.

"While we continue to extend our presence in coastal markets, we also see opportunity in the country's large inland cities, driven by exceptional GDP growth and increased domestic consumption," says ProLogis chairman & CEO Jeffrey Schwartz.

A new report issued by Jones Lang LaSalle predicts China's logistics sector will grow 30 percent annually for the next several years as demand from domestic and international companies grows and high quality distribution and warehouse facilities are developed.

"There is little doubt that China will follow the rest of the world in terms of its logistics development, but most likely on a larger and faster scale," says Trent Iliffe, regional director & head of Jones Lang LaSalle's industrial group in China.

Export experts
Today, China's logistics industry is still in its nascent states of development, with 85 percent of China's modern logistics facilities concentrated in three regional clusters: the Yangtze River Delta (YRD); the Pearl River Delta (PRD) and Bohai Bay. These three regions house China's five primary logistics hubs: Shanghai, Beijing, Guangzhou, Shenzhen and Tianjin.

In these coastal regions, transportation infrastructure is more cohesive, and moving goods in and out of the country is relatively straightforward. In fact, China's foreign trade has grown much faster than its GDP – 20 to 37 percent annually over the past six years, according to CB Richard Ellis.

Exports have doubled in the past five years, and China now accounts for 8 percent of global exports. The country has recently overtaken Japan to become the world's largest in terms of foreign trade volumes, and export volume is expected to double yet again by 2010. By then, 11 percent of the world's exports will originate in China.

Manufactured goods account for 90 percent of Chinese exports, according to the China Supply Chain Counsel. Retailing accounts for 75 percent of logistics activity, while the automobile industry represents 15 percent of logistics activity.

China's YRD, which is anchored by Shanghai, is the favored entry point for international logistics operators and developers. The region, which is home to 200 million people, is the primary focus for retailers and it the most internationally connected city.

IKEA, for example, is building its largest logistics and distribution facility in southern Shanghai. UPS also is establishing its main Asia Pacific hub in Shanghai. ProLogis, AMB Property Corp. and Mapletree Industrial Fund Management are all active in Shanghai, which is China's main international gateway.

While the YRD is dominant today, the PRD may soon take over. The PRD, where Shenzhen and Guangzhou are located, is China's richest region and its most export-oriented economy. The PRD boasts China's most advanced transportation infrastructure. FedEx, for example, recently transferred its Asia Pacific hub to Guangzhou from the Philippines. Jones Lang LaSalle forecasts that 35 percent of China's new logistics facilities developed over the next two years will be in the PRD.

New hubs emerging
First-tier cities such as Shanghai and Guangzhou have historically received the bulk of real estate investment, according to Ernst & Young. As of November 2006, investment in Chinese real estate totaled $219 billion.

But, China's distribution and logistics inventory is small – only about 3 million square meters – which makes it difficult for investors to acquire facilities. "There are very limited and few opportunities for developers and investors to acquire existing logistics funds or facilities in a market that is still in its relative infancy compared to the rest of the world," Iliffe says.

Iliffe says new construction offers the best investment opportunities in China. "Investors have the opportunity to get in at the beginning of the growth cycle and take advantage of the rental and capital growth projections for this investment sector," he contends. "We believe that the market offers many opportunities for developers and investors. We see rents growing at somewhere between 10 to 15 percent for the next few years."

Experts suggest that investors consider ProLogis' strategy and think about investing in China's second-tier and inland markets like Chengdu, Chongqing, Nanjing, and Dalian. Economic activity is no longer just confined to the coastal cities since many international companies are choosing to set up research and development centers in these markets while manufacturing plants are relocating to secondary cities, attracted by the abundant supply of low cost labor and land.

"As the cost of labor rises on the coast, businesses are beginning to see investment opportunities in China's hinterlands," says Richard Malish, a New York-based attorney who has lived in Shanghai and Hong Kong. "We're starting to see hubs developing in areas that you might not have seen in the past."

Chengdu, of all of China's inland cities, offers among the strongest potential as a logistics hub and is attracting strong interest from logistics providers. Located in southwest China, Chengdu acts as a gateway to Southeast Asia. Most consumer goods that serve the southwest region travel through Chengdu, and that's one of the main reasons ProLogis has secured 77 acres there to build ProLogis Park Chenghua, a project that can accommodate 1.5 million square feet.

Meanwhile, Wuhan, which sits at the crossroads of two major rivers, is well placed to become a logistics hub. ProLogis has acquired a 70 percent interest in a joint venture that owns three existing warehouse facilities in Wuhan and has reserved 119 acres of undeveloped land in the city, which is the capital of Hubei Province. The site, to be called ProLogis Park Wuhan Dongxihu, can accommodate up to 2.1 million square feet at full build-out.

Moving goods
Today, moving goods within the country is fraught with difficulties. The road network is well developed in the three main economic regions, but is still relatively limited in other areas, and it is estimated that logistics costs account for around 20 percent of China's GDP, compared to 9 percent in the U.S. and 11 percent in Japan.

As the world's third largest country (9.6 million square kilometers), China isn't the easiest country to get around. Experts have described China's transportation infrastructure as an "uncoordinated patchwork" at its best and a disaster at its worst.

"There are parts of China where it is simply impossible to get to with out extreme effort," Malish says. "The Central and Western regions are non-navigatable."

Unlike the logistics sector in the U.S., roads are the primary method of transporting goods in China. More than 70 percent of goods are moved via roads versus only 15 percent by rail and 11 percent by air, according to the China Statistics Bureau.

"Road is an expensive transport mode, five times higher than rail and 28 times higher than water," Iliffe says.

There are plans to expand the highway system. Today, there are 41,000 kilometers of highway in China; the ambitious goal set by the Chinese Minister of Communications is 65,000 kilometers by 2010; 85,000 kilometers by 2020 and 120,000 kilometers by 2030.

Rail is problem in China. Today, the rail system can only handle about 30 percent of the demand in the Yangtze corridor, and there is a lack of track in several regions, especially in the west. Moreover, a high proportion of the rail network is not double tracked. Priority is given to coal/raw materials and passengers, which clogs the network. Industrial goods rarely find space on the rail network since some routes must be booked as much as six weeks in advance.

The good news is that the Chinese government is trying to do something about its dismal rail system, implementing a $242 billion rail investment program that will extend the network from 72,000 kilometers to 100,000 kilometers by 2020.

For all China's trouble with rail, the country really stands out with its water transportation. Seven Chinese ports have been ranked among the Top 25 International Container Ports, and Chinese ports have increasingly been competing with the ports of other Asian countries, according to Michael Zhang, an associate in the Corporate Practice Group in the Sheppard Mullin's Shanghai office.

"Many local governments have very ambitious goals of developing themselves as the logistics centers of ocean shipping in Asia and the world," Zhang says. "Some local governments have even included such targets into the city long-term development plan."

Today, the Yangtze River, China's main inland waterway system, is carrying only a fraction of its capacity, according to experts. Low bridges present a huge problem for large ships, but the newly constructed Three Gorges Dam will be operational in 2009 and will open up several ports to large ships.

Inland China's infrastructure isn't the only problem that must be addressed. Overall, the country has limited land for logistics because industrial and distribution developers must compete with manufacturing and business park development.

"In a country that rewards its government bodies on tax revenue, employment numbers and capital contribution, logistics is the smallest contributor on all fronts," Iliffe says, adding that China also has a land quota system that restricts the sale of available land on a yearly basis, further reducing the amount of land available for logistics development.

Nonetheless, ProLogis' Schwartz is insistent that modern warehouse facilities are a crucial component of any supply chain network. "China's distribution infrastructure must continue to evolve in order to keep pace with the country's overall economic expansion," he says.

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