Warehouse and Distribution Centers: Who said site selection was easy?
The brutal economy combine with ever-increasingly complex supply chain models are making the site selection process look a little more like rocket science. Here’s a fresh look at the market along with a few tips on how to better position your company’s distribution network for the next wave of economic recovery.
By Karen E. Thuermer, Contributing Editor -- Logistics Management, 2/1/2010
Let’s face it: No matter what shape the economy is in, selecting a site for a warehouse or distribution center (DC) has never been easy.
There’s a lot at stake, with multiple factors weighing heavily on the decision. And as it did in 2009, transportation costs will continue to weigh heavily in the decision-making process this year as companies of all sizes will be scrutinizing every single factor involved, including inventory and carrying costs.
But while the economic news is a little more positive heading into 2010, it’s going to take a while to burn off the residual effects of the past two years. In that time we saw severely escalated warehouse vacancy rates, tightened credit availability for both landlords and tenants, and a corporate attitude to trim costs wherever possible. The prolonged downturn has also translated into less volume, thereby putting pressure on distribution costs per unit as excess warehouse space becomes greater than normal.
Consequently, economic conditions have made companies re-think their location and network strategies—both from a sourcing and distribution perspective. Combine this with ever-increasingly complex supply chain models that vary between companies, industries, or commodities, and the process starts to look a little bit more like rocket science.
Multiple factors; multiple options
Even as certain indictors point to a subtle upturn heading into this year, the idea of shaving every nickel out of distribution continues to be the mantra. This includes looking for ways to save in real estate, transportation, and overhead costs.
While labor and customer service alone itself account for 17 percent of supply chain costs, according to Grubb & Ellis, inventory carrying costs account for nearly 22 percent and transportation over 50 percent. Given the unpredictability of fuel prices, the fact that cargo volumes are creeping up at East Coast ports, and to some extent Gulf ports over West Coast ports, and the reality that industrial vacancy rates are at an all time high of 11 percent while warehouse rents are at a low $4 per square foot, provides a perfect environment for companies to re-evaluate their warehouse and distribution center needs.
Case in point: Early last year Handy Hardware, a member-owned hardware buying group, announced plans to break ground in mid-2009 on a $20-million distribution center in Meridian, Miss. Company officials see the new facility as fulfilling Handy’s growth plan to serve members in the southeastern U.S. Up until then, the Houston-based company had been solely operating from a 560,000-square-foot distribution center in Houston.
In many regards, Handy Hardware’s example indicates today’s overall trend toward opening regional and single mega DCs. Mega distribution centers offer larger footprints, higher elevation heights, and more truck and trailer parking. Companies are also consolidating smaller, inefficient facilities in multiple locations to augment existing networks with small levels of safety stock or emergency product.
Locations with high unemployment can be appealing because labor is oftentimes cheaper and abundant. “We always look for areas of high unemployment because there’s available workforce and also incentives,” says Richard Allen, CEO of San Diego-based The Allen Group, developer of the Dallas Logistics Hub (DLH) in southern Dallas County, Texas. “The politicos want to see their people go to work so they always support the mega projects,” adds Allen.
To attract distribution center projects, communities across the country are touting their affordable real estate and available labor. To sweeten the deal, some locations offer tax incentives to companies in exchange to a commitment. In fact, communities like Dallas have adopted a federal immigration program that trades green cards and the promise of permanent residency for investments of $500,000 or $1 million.
Site optimization
Today, when third party logistics providers (3PLs) talk to prospective clients, much of that discussion centers on site optimization as well as the intricacies of inbound and outbound logistics, including fuel costs. This can involve going to another location that offers an abundance of truckload business so that a company can save money by consolidating shipments.
“Or they consider taking on the cost of traditional carrying cost by establishing another DC because they can bring shipments closer to market and service customers better and quicker,” says Carl Neverman, vice president of client solutions for Weber Distribution, a Los Angeles-based 3PL. “Some of that customer demand means product must be available to 80 percent of the market within 24 or 48 hours of order confirmed or order drop.”
Consequently, many companies—particularly 3PLs—today are changing their site selection strategies to be located where they get the benefit of trucking companies servicing multiple clients. This way they no longer have to pay for an entire truck when they only need to ship half a load. This is especially important to companies concerned about product obsolesces and code date issues.
“Shipping by half loads may be more cumbersome and costly in some regards, but more frequent shipments are preferable,” Neverman says. “But as a result, they are shrinking their back rooms and the size of their own DCs.” This is especially the case for companies concerned about shrink or product obsolescence.
One site selection trend that Tony Russo, senior associate at CB Richard Ellis, reports seeing from specific tenants in the Washington, D.C./Dulles market is their decision to move farther afield where real estate costs and overhead are lower. Companies can cut their base rent in half by moving west to Winchester, Va., he says, particularly those that cater to the Eastern Mid-Atlantic region and don’t need to service the Washington metro area. “Due to the downturn in the economy, I think we will continue to see this trend,” Russo adds.
That’s because transportation has become one of the most scrutinized costs in a company’s site selection criteria.
Yet, with real estate prices plummeting, and buildings becoming outdated and obsolete, many companies still consider the traditional, more expensive locations since prices are now more affordable. Russo warns, however, that clients are also finding that consequently higher transportation costs can outweigh cost savings in rent.
But according to Tim Feemster, senior vice president and director of global logistics at Grubb & Ellis Co., the rising rate of DC vacancies—currently at 10.4 percent and expected to reach 11.4 percent by the end of 2010—is making this a “tenant-controlled” market.
“Most of our clients are looking at their network and, if in the right place to meet their strategic goals, are blending and extending leases to take advantage of immediate and long-term cost reductions through free rent, tenant improvement allowances, and rent rate reductions,” says Feemster.
Many clients, he adds, are able to redo their lease for up to five years at annual rent rates below their current levels. But Feemster concurs that the right move should be driven by total costs, not just transportation costs—even though these can account for over 50 percent of supply chain costs. Where and what mode the inbound and outbound transportation network utilizes has a significant impact on location.
“Being too far away from specific transportation infrastructure points like domestic and international intermodal sites will greatly surpass most rental rate and incentive packages and have a negative impact on total costs,” adds Feemster.
Expert recommendations
So, what strategies do site-selection experts from both real estate and supply chain think tanks recommend to help companies better position themselves for the next wave of economic recovery?
Feemster suggests making sure that you understand your company’s sourcing strategy. “Consider your firm’s market strategy by employing a cross-functional team for advice before even commencing the site selection process,” he says. “If you do not align the strategy of the project with that of the organization, you may sub optimize the solution—especially if you don’t include finance, real estate, supply chain, and manufacturing/procurement on the team.”
That’s because each department is measured and incented on different goals. For example, real estate concentrates on free rent, low rent, and incentives; supply chain considers low transportation and labor costs; manufacturing and procurement focuses on low cost components; and finance keeps its eyes fixed on return on investment (ROI), earnings per share (EPS), and earnings before taxes and interest (EBIT).
“Look at total costs and not individual elements when making the decision,” Feemster says. “And hire someone who understands the supply chain and can analyze your total cost elements properly.”
Many companies today utilize site selection firms that take the total cost picture into account. In Feemster’s mind, such firms are able to get better long term solutions. “Search the market for qualified site selection consultants and ask them what the top five selection elements are,” he suggests. “If they do not mention transportation, pass on their proposals.”
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