Corporate Real EstateInvestor view: implications of the change in user preferences on investment strategies

Nick FrenchProfessor in Real Estate & DTZ Fellow in Commercial PropertyDepartment of Real Estate & ConstructionOxford Brookes University

Rents and Leases

Investment Strategy – UK/ Europe Existing Portfolio New Acquisitions

What is happening out there ??

Conclusions - a change of sea level

Agenda

UK Leases – changed in 2000s; 15 years with 5 years upward only rent reviews for HQ buildings only

Most UK offices are between 5 and 10 years and with the latter, a 5 year upward only rent review but many are now with a break clause.

Rents are falling dramatically

Rents and Leases

A Pilot Survey of 22 Property Management Departments in London was undertaken in May 2009. The response rate was 50% (11/22)

The respondents were asked to comment on what activity they had observed in the UK Office market since summer 2008

The relationship between Landlord and Tenant was examined.

The results are indicative but we hope to analyse an occupancy database at DTZ to provide empirical evidence to add to this qualitative study

The Advsiors - Observations

Survey ResultsTotal number of respondents = 11

YES NOHave you seen an increase in the activation of break clauses by tenants?

11 0

Have you seen an increase in Sale and Leaseback Activity? 9 2Are Landlords waiving rents where tenants are in distress? 9 2Are Landlords willing to consider surrender and renewal for longer leases at a lower rent?

7 4

Are Landlords willing to accept surrenders for capital payments? 6 5Are Landlords talking to their tenants more? 11 0

All respondents have indicated that both parties are more willing to negotiate.

Landlords have been struggling to raise capital with banks not providing new capital and worried about loan/value ratios based on revaluation

Tenants are wanting to rationalises their portfolios – operating breaks and trying to lower rent roll.

Landlords are wanting longer cash flows

Survey Comments

“Cash flow, cash flow, cash flow” has become “negotiate, negotiate, negotiate”

The requirement for cash to has meant that many landlords are accepting side agreements not to demand the full rent or amending the payment schedule

Surrender and renewal, surrender for capital and consolidation/contraction

The Investor – Existing Portfolio

Landlords are being much more receptive to discussions. In the current downturn, they want to maintain cash flows even at lower levels. They are being flexible if occupiers TALK to them. But will resort to legal protection if no dialogue.

Landlords are open to a myriad of solutions to ensure that cash flows are maintained or capital recouped.

The Investor – Relationships

Reluctance to buy new assets as the pricing of risk is difficult

Distressed Tenants Rental Decline Covenant Strength Bank’s paranoia

Some equity investors are considering “sale and leaseback” for long cash flows (10 years +) with top covenant. But priced accordingly

The Investor – New Portfolio

“Location, Location, Location” became “covenant, covenant, covenant” but it is now “cash flow, cash flow, cash flow”

In the last six years (2002-2008), investors have looked to capital return as the main contributor of total return. They are now looking for secure income or capital realisation.

Problem of “pricing” risk today

The Investor - Aspirations

The current world economic climate is uncertain. The credit crunch has led to occupiers rethinking their RE strategies.

At the same time, tenants are fire-fighting to keep their occupation costs at a level that will allow the companies to survive.

In this market, more than any other, tenants are approaching landlords with the idea of renegotiating there rental liabilities.

A cahnge in sea level?

Landlords are considering each proposal on its merits and solutions are ranging from

side agreements that don’t demanding full payment

Surrender and renewals to provide a more even cash flow

Outright surrenders with a reverse premium being paid

A cahnge in sea level?

The booming investment market of the last few years has shielded the profession from the need to consider fully the role of proactive management

Good relationship management and a foresight to negotiate to protect future cash flows means that, now more than ever, management surveyors can enhance and protect capital values

A cahnge in sea level?

Landlords and Tenants are at a crossroads.

Negotiations and discussions are appropriate and required. The reliance on the “lease” has passed; cash flows will come from client management

Opportunity for corporates to reorganise there space requirements in new and existing space. Transition period

Conclusion – Change of Sea Level