With a massive population, a new REIT regime, and an airport on the way, Mexico City is ready for more investments. Christopher O’Dea reports
Every autumn, a magical event takes place – the annual Monarch butterfly migration to Mexico. Navigating by instinct alone, butterflies migrate from America and Canada to mountains in Mexico where they have never been before.
Another migration to Mexico is creating its own kind of magic – the flow of investment capital into commercial property projects in Mexico City. An autonomous federal district, Mexico City is a sprawling megalopolis that covers more land area than Los Angeles, and has twice as many people as LA. The property boom is in turn creating a vibrant real estate investment sector. Growth is being fuelled by industrial migration to the most optimal locations for manufacturing, while an expanding digital supplier and customer support services sector also takes up space. Regulatory reforms have created a sophisticated real estate investment trust market that is attracting talent and expertise to a city eager to make its mark as a global destination.
Mexico’s ambitions are many and, as the federal capital, Mexico City is at the forefront of the country’s charge into the 21st century. With output worth of nearly $200bn (€156bn) per year, Mexico City’s economy ranks as the eighth largest urban economy in the world. The ministry of economy says, if it were a country, it would be the fifth largest economy in Latin America. Recent reforms aimed at modernising the energy, education and telecommunications industries, while reducing government bureaucracy, are expected to boost Mexico’s GDP, starting in 2015. In real estate, the creation of REIT-like investment vehicles called FIBRAs has stimulated creation of a professional property investing market. It has also spurred an organised capital market focused on commercial property, creating pools of capital large enough to sustain significant future development.
The industrial and manufacturing resurgence is fuelling development across commercial property sectors, including offices, retail and hotels. “The success of the structural change that the Mexican economy is experiencing lies in both the economic and the political agreements that the country’s different economic stakeholders have achieved,” according to CBRE’s Q2 outlook for Mexico City office. “This sends a message of confidence to investors,” which is illustrated by “the dynamism that we see in the search for spaces by companies that are expanding or looking to establish for the first time in the city.”
As car companies, appliance manufacturers and electronics firms bring production capacity back from China and the Far East, Mexico is becoming an industrial hub and manufacturing platform for North America. According to the 2014 KPMG Competitive Alternatives guide, Mexico is an important country for the international automotive industry, offering car companies not only a good geographic location, but also a network of business agreements and a qualified workforce.
The State of Mexico, which lies to the north of Mexico City, ranks third nationally in vehicle manufacturing, with 12.5% of the market, behind only Coahuila and Puebla. The reversal of outsourcing – or reshoring – over the past two decades is well under way, and already fuelling a second stage marked by the rise of call centres and back-office tech support.
Mexico’s national statistics and geography institute INEGI reported that, during the first four months of 2014, industrial activity grew 1.1% compared with the same period in 2013. The influx is challenging Mexico City industrial park developers, says CBRE. The firm says there is “growing, rapid demand for industrial space – mainly due to the arrival of new investment and the expansion of other large consolidated companies in the region – since Mexico City is considered a hub for distribution and logistics.”
The Mexico City Metropolitan Area (ZMCM), has 5.8m sqm of class-A industrial plant inventory, and nearly 400,000sqm under construction. ZMCM is expected to have more than 6m sqm in inventory by the end of 2014, says CBRE. Among recent projects in and around Mexico City, Walmart de México y Centroamérica will invest MXN1.07bn in the construction of new units and the expansion of a distribution centre in the State of Mexico, and possibly a second dedicated to perishables.
Infrastructure and energy
One of the most significant signs of Mexico’s ambitions is the plan to make Mexico City a flight destination as important to the global business community as the countryside is to the Monarch butterfly.
Mexico City’s airport, opened in 1931, is the second busiest in Latin America after Sao Paulo Guarulhos. It is surrounded by one of the highest density cities in the world, and despite recent renovations, the traffic – nearly 32 million passengers in the past year – is straining the aviation infrastructure and restricting building new logistics and other facilities to accommodate Mexico City’s economic resurgence.
The airport is also a tourist gateway – Mexican tourism has grown, especially with US travellers looking for affordable city and resort breaks. Several airlines in Europe, Asia and Africa reportedly been denied landing slots due to lack of capacity.
In September, the government announced that world-renowned British architect Norman Foster and Mexican architect Fernando Romero, a son-in-law of billionaire Carlos Slim, had won the bid to design a futuristic new airport for Mexico City. The project will pump funds into every sector connected with real estate. The new airport is expected to cost $9.2bn and generate $19.6bn in additional tourism revenue between now and 2040 (see Airport Infrastructure for more detail).
The biggest impact is expected from energy-sector reform that will open the market for private companies to bid on potential production fields from 2015. “The constitutional amendments that were passed… only last December are really a game changer,” says Jesus Reyes Heroles, former Pemex general director and now executive president of EnergeA, an energy consultancy. “Now private investment in Mexico’s energy sector is possible,” he adds.
CBRE says: “Once the energy reforms take effect, industrial sector growth is expected to become more dynamic, due to the new investments it is expected to stimulate,” says CBRE. Construction and plant location data, it adds, “indicates that 2014 will turn out to be a highly dynamic year for the industrial market in Mexico City, and 2015 is expected to have major new sources of supply and stable prices with slight, upward trends.”
CBRE has focused strategically on the federal capital, identifying nine sub-markets in Mexico City, where the availability rate of class-A industrial spaces is just 9.5%. Although that is above the 4% vacancy rate in late 2012, CBRE says the rate declined nearly two percentage points in Q2 2014 – a drop that had not occurred since vacancies began rising in Q4 2012.
The drop reflected strong demand that absorbed new supply; during the quarter nearly 198,000sqm of space were added to the market, while just over 305,000sqm were absorbed. Some Mexico City industrial sub-markets have no class-A space, and this is attracting capital to modernisation projects. “One could expect this effect to be reversed with the new projects that are planned for both sub-markets, which are considered as B and C reconversion in class-A spaces,” says CBRE.
With more than 48m sqft of office space – nearly four times as much as runner-up Monterrey – Mexico City is home to the majority of office space in the country. Demand for class-A and A-plus office space has been increasing consistently and is reflected in the absorption of new space and in the increase in rents. Absorption of A and A-plus corporate space in Mexico City exceeded 162,000sqm in the first half of the year, CBRE reports, with significant demand from the financial sector and technology companies.
Google, for example, rented 8,700sqm in the Lomas Palmas sub-market, one of Mexico City’s three prime office districts. The city and federal governments are investing heavily in digital labs and tech incubators, leveraging the concentration of universities, media and financial companies in the capital to attract ‘clean industry’. The digital know-how is paying off – the call-centre industry is worth $6bn, handling customer service calls, billing and IT support. From 2005-10, the sector more than doubled in size, and it is expected to maintain that rate of growth.
TeleTech, a 30-year-old company based in Denver, Colorado, runs a major call centre at the heart of Mexico City. Like the half-dozen other major call centres in the City, TeleTech works only with US companies. Many of its workers used to live in the US, a key factor for success in call centre operation – companies today want employees who possess not only language skills but cultural affinity with the customers they serve. Financial services companies that have already located in Mexico City are also building call centres, according the Mexican ministry of economy.
Total office inventory in the city’s 10 sub-markets in the second quarter was 7m sqm, including five new buildings that added 60,000sqm, according to Colliers International’s Mexico City market research manager Flavio Gomez. Class-A-plus space represented 35% of the total, with 24% for class-A and 41% for class-B. The quarter saw an overall vacancy rate of 9% for Mexico City, with 16% in class-A-plus space, and 6% each in class-A and class-B. Colliers says the office market is near the line between expansion and oversupply, but space is being occupied gradually when buildings are brought on line. But the practice of opening buildings that are not fully leased presents a risk that vacancies might rise.
It is common for tenants in Mexico not to commit to leases until a building is near completion, says CBRE, which leads to last-minute activity. CBRE foresees the average asking rent remaining stable between now and 2016, despite a full construction pipeline. As of April, 45 buildings totalling 1.1m sqm of class-A and class-A-plus space were under construction, with 610,000sqm due for delivery by the end of 2014. Although nearly 70% of that space is being built in the three most expensive sub-markets, CBRE expects it will continue to be absorbed in the wake of favourable economic conditions.
Covering more than half a million square meters, the new airport planned for Mexico City aims to be the world’s most sustainable airport.
Instead of traditional warehouse-style terminals, it will use a single giant structure wrapped in a unique skin that lets in natural light and air and collects rainwater. The outer skin will incorporate daylight reflectors to reduce heat, and photovoltaic panels to collect solar energy; support buildings and fields on the site will hold more solar panels, ultimately providing 50MW of peak power.
The six-runway project, with an ultimate capacity for 120m travellers a year, will be built on government-owned land close to Lake Texcoco, just east of the existing airport. The first phase envisions two runways and capacity for 50m passengers. Construction is expected to start in mid-2015 and continue through 2018. Speculation about the impact on the real estate sector focuses in the first instance on which entity will be awarded the construction contract. In mid-September, Luís Zarate, the president of Mexico’s Chamber of the Construction Industry, nine Mexican construction firms, including Grupo Ica, a private Mexican infrastructure construction company, and Grupo Carso, a company owned by Slim, formed a committee to bid for the airport. Analysts say numerous other companies are likely to bid on the work, such as Spain’s Obrascon Huarte Lain SA, which has experience in the sector and in Mexico, while many firms will benefit, such as Promotora y Operadora de Infraestructura SAB, which operates toll roads near the new site.
Billionaire Carlos Slim’s involvement with the airport in part reflects the Mexican government’s reform programme. His telecommunications empire, the source of his $88bn fortune, is being reined in by the reforms, and the airport contract would mark a major expansion of his construction activities.
Some major names are readying new high-end buildings. Reichmann International is developing the 33-story Torre Diana, an office tower along the city’s central boulevard, El Paseo de la Reforma, for completion in mid-2015. One partner in Torre Diana is Fibra Uno, one of the new breed of real estate investment trusts, most of which are controlled by Mexican families with deep roots in the country’s property markets and public sector. The FIBRAs are emerging as major players in the Mexico’s property resurgence.
According to CBRE, André Elman, director of Fibra Uno, said it will acquire 15 properties of commercial and industrial buildings in Mexico City, and other areas at a cost of MXN23.5bn. One of the trophies on the list is the Hotel Hilton Centro Histórico, a 40,000sqm property containing 458 rooms. Acquired for a price of $90m, the hotel is expected to generate MXN8.3m in net annual operating revenue.
In a recent report on Mexican real estate, Goldman Sachs says FIBRAs are a new asset class with strong growth potential. Since being introduced in 2011, FIBRAs now account for 3.5% of Mexican market cap. Curent regulations allow Mexican pension funds that are investing in FIBRAs to benefit from tax-free dividends, and Goldman Sachs says the funds have room to increase their ownership in FIBRAs in a structured securities allocation. President Nieto’s reforms also give the sector a tailwind.
“We expect strong structural demand for real estate assets in Mexico,” the report says. “In addition, we see room for a gradual convergence in prices per square meter of Mexican real estate towards Latin American peers, which are currently 40% more expensive on average.”
And if the tailwind continues, the new trusts will help international property capital migrate to Mexico City as regularly as the Monarch butterflies.