Q&A: Walter Kemmsies, JLL Economist and Chief Strategist

Logistics Management Group News Editor Jeff Berman recently caught up with Walter Kemmsies, economist and chief strategist for industrial real estate firm JLL. Their wide-ranging conversation covered various topics, including: the impact of COVID-19 on logistics and supply chain operations, inventory management shifts, and why now is a great time to be in industrial real estate, among others. A transcript of their conversation is below. 

Logistics Management (LM):  What is the impact of cancelled, or “blank” ship sailings around the world having been suspended through mid-June, due to COVID-19?

Walter Kemmsies: Currently, there are 31% of these sailings that it has impacted. We get that data from a procurement organization that puts out and monitors services across all [container shipping] alliances. There are about 420 vessels moving cargo on any given week that set sail that set sail from various ports in Asia, the Middle East, Europe, and North American trade lanes. That represents 90% of world trade. In terms of what you are seeing in looking at the next five weeks, there are some weeks where there are going to be 20% of these sailings that are blanked, or voided, and sometimes it may as high as 38%. The problem is that we had a big supply shock from China that basically slowed down a lot of manufacturing…and as China came back online, it globally manifested itself to the point where everybody had to start up again and that created a demand shock, and the problem with demand shocks is that they can create additional supply shocks that keep reverberating. And the reason for that is if you keep looking at the virus curves for all of the countries in the world, they are not all flattening at simultaneously. So, as the world works to move past this pandemic, there are shocks and what happens to the ocean carriers is that they have more to plan for in terms of repercussions and problems. 

LM: What about other modes of transportation?

Kemmsies: It is apparent with the airlines canceling passenger flights and losing a lot of air cargo freight belly capacity. DHL, FedEx, UPS and others don’t have all of the surge capacity they had before. The additional capacity from passenger airlines is very important for the system, because, on average, there is more volume out there than the airfreight carriers can handle. So, when a ship breaks down, that leads to airfreight shifts with people having difficulty finding airfreight space to be able to ship their [freight]. 

LM: How do you view how states are going abut re-opening their respective economies?

Kemmsies: Within the U.S., some governors have declared they are going to do a phased in reopening, and follow the guidelines from the White House. In Georgia, the governor said “I make the decisions as to how it works, and I make the regulations and local governments cannot usurp my authority for doing so, therefore across Georgia everything is consistent. But some companies said it is not consistent in some states even from county to county to county or state to state. What one states calls an essential industry, another state may not. So, if I pick up essential stuff in State A and truck it over to state B and when I get to state B find out it is not a critical industry, what do I do now to store or warehouse it? There is inconsistency in how states and counties and the federal government are making decisions, in terms of who can be and who cannot be open, and it is not very well coordinated; these are the operational issues that are popping up. 

LM: One of many unfortunate byproducts of COVID-19 is longer inventory in transit times. How should we be viewing inventory management, as it seems like things are very atypical? As a follow-up, ports and ocean carriers are being asked to extend longer transit times to cargo owners. How is that being received and how much does it increase costs?

Kemmsies: Yes, it does increase costs. The problem is that the amount of inventory that you needed to hold declines from $2 in inventory equaling a $1 dollar in sales, down to $1.20 in inventory to a $1 in sales in 2010, which is when e-commerce really takes off. And when that happened we saw the inventort-to-sales ratio rise, because you may know roughly how much you are going to sell, but you don’t know where you are going to sell it, so you need to make sure you hit the target for next- or same-day delivery so you hold more inventory in more places. From 2010-2015, there was an increase from 1.20 to 1.40 for the inventory-to-sales ratio. And in 2016 we saw a big explosion in industrial real estate, mostly distribution centers and warehouses, to support e-commerce and because of that, and improved efficiency, it drove down ratio to 1.30 to 1.25. While that seems like a good thing, it is not because there are many reasons to hold inventory: part of it is because you don’t know what demand will be so you hold it in more and more places and you also have a lot less tolerance for inventory in stores being out of stuff like toilet paper or you go to Instacart and make an order and the shopper says it is not there the next day. That shows there is not enough inventory for a demand shock and now you need to hold more inventory for safety reasons and safety stock. And if you were getting something in two weeks it might now be three weeks or four, and that leaves you with a stock out, and that is a really bad thing because if I go to your store and I cannot buy half the stuff I came to get I am going to go to another store and stop going to yours.  

LM: So, what does that mean going forward?

Kemmsies: I think the tolerance with inventories is gone in this country and so is the argument for it and also because of the supply chain issues we have, especially as it relates to people trying to prevent the spread of COVID-19. It has resulted in longer inventory-in-transit and a more random arrival rate of inventory. So what do you do? You order more

LM: What do these things we have discussed so far mean for industrial real estate?

Kemmsies: The main reason is because in industrial real estate and most people that sell to consumers will need to have a larger footprint to accommodate more inventory Industrial real estate is well supported by a few different things, including a shift to e-commerce and a need for more safety stock due to ongoing operational issues in the supply chain. Another thing to think about is if we start shifting away or changing from China as a supply source, we probably will have to think carefully and very gently about the optimal inventory holding, because a longer and more complex supply chain requires you to hold more safety stock and with longer inventory in transit you need more inventory. That said, if there is any place to be in real estate right now, it is in industrial. 

LM: In many ways, COVID-19 has resulted in a lost retail season, with discounts on things like non-essential back to school goods, retailers cancelling orders over the second half of the year, as well as some being financially unable to place orders. This is new territory on many fronts, given the length and scope of COVID-19. How should people be viewing that from a logistics and supply chain perspective, as it relates to industrial real estate and what does it mean for the new, or future, normal?

Kemmsies: When looking at this future normal, I see all kinds of rapid ridiculous speculation, so let’s just stick to a few facts. E-commerce’s share of retail spending increased from a few percentages in pre-2010, when it was kind of a catalog sales thing, and in 2010 Amazon said we will guarantee delivery by next day. that was a game changer. In the old days, it was Sears and General Merchandise, with the latter having a limited range of merchandise and the former having a wider range. It really was the was very first form of e-commerce, but it was p-comm,  postal commerce. What Amazon did was similar to catalogs, but once it guaranteed next- and same-day delivery it became competition for what department stores sold and represented a big shift in retail. E-commerce is now up to 10%-12% of total retail sales for 2019, and, at this point, last year we thought we will get to 30% by 2030, but, guess what, I think we are at 30% today. E-commerce is on fire, and the demand for industrial real estate is there to support it is as well.

LM: Will there be a way to gauge Peak Season prospects or it is too difficult to gauge at this point?

Kemmsies: Let’s look at GDP. By the time we are done with all of this, GDP’s highest level we will have reached is the fourth quarter of 2019 at $19.2 trillion in real terms, and the actual dollar in nominal value is going to be higher because it is not in inflation values. The next time we get back to that real level of activity will be in the fourth quarter of 2021 at earliest. But the big questions are when will we get back to that number and what is the composition of activity when we get back to that level? It is too difficult to tell. Thirty percent of retail sales are already on e-commerce, and if it stays there it is a very different world from just a few weeks ago when it was at 10%-12%. There are many impacts at play, ranging from the number of cars on the road and people  going  to grocery stores and shopping malls. It is a whole different world, and it is disruptive for data now, too.