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February 9, 2022

Retail revival – Uncovering value in a changing landscape

In Cromwell’s latest briefing note, Tom Duncan and Alex Dunn from the research and investment strategy team discuss the outlook for the retail sector. Whilst it has faced challenging short-term conditions, the prospects for physical retail that has a role in an e-commerce-infused world are bright. They discuss the investment strategy implications of this and the opportunities to uncover immediate and long-term value.

The briefing note can be found by clicking here.

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November 10, 2021

Offices 2025 – Research Briefing Note

The enforced mass homeworking caused by the pandemic has viscerally demonstrated that in today’s tech-infused world knowledge-based ‘work’ is an action, not a place, and it need not necessarily be performed in an office. This has triggered much public debate on the purpose of offices and what future they might have. In Cromwell’s latest briefing note, Tom Duncan and Alex Dunn from the research team examines these recent events, their impact on the sector and what this means for the future role of offices and the resultant implications for occupier demand.

The briefing note applied to the European office market can be found by clicking here.

The briefing note applied to the Australian office market can be found by clicking here.

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October 22, 2021

Land scarcity and eco-issues cloud booming Dutch market

Lack of land and product, growing environmental constraints, and intense competition for plots and assets – the conditions for entering and expanding in the Dutch logistics market would appear far from ideal. Yet the droves of foreign developers and investors which have made their way to the Netherlands in recent years – and are still arriving – are evidence that there is still good business to be done. Head of Benelux, Wouter Zwetsloot recently participated in ‘The State of Logistics 2021: Logistics in the Netherlands’ panel discussion hosted by PropertyEU where he, alongside other industry experts, gave their insights why the investment case for Dutch Logistics remains rock solid.

The full article can be read here.

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September 22, 2021

European Inflation – Research Briefing Note

In Cromwell’s latest briefing note, Tom Duncan and Alex Dunn from the research team examine European inflation. Together they discuss the heightened concern regarding the inflationary outlook and the potential consequences for real estate.

The full briefing note can be found by clicking here.

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June 30, 2021

Engineered timber and the drive for more sustainable buildings

Alex Dunn

 

Climate change continues to shape the values, choices and investment decisions of the real estate industry.

In this article Senior Research Analyst, Alex Dunn, discusses how advances in engineered timber and construction are allowing asset owners to substantially improve the environmental performance of their buildings, while simultaneously, also meeting investors requirements for capital to be deployed in a more sustainable way.

Real estate positioned to reduce carbon emissions

Real estate accounts for approximately 36% of global energy consumption and 40% of total direct and indirect CO2 emissions, according to JLL. Left unchanged, the global trend towards urbanisation and the ever-increasing demand for new building stock will see these numbers continue to rise.

Unsurprisingly, the United Nations Environment Programme (UNEP) estimates that the real estate sector has the greatest opportunity to reduce greenhouse gas emissions compared to other industries, with potential energy savings estimated to be as much as 50% or more by 2050.

Government policies regulating the energy performance of new buildings are a powerful way of reducing emissions and are being introduced by an increasing number of countries. Leading cities are also introducing city-level regulation at a fast rate. Paris has a net zero carbon goal for 2050 and Amsterdam plans on being fully electric by the same time. The European Union has also established the ‘Green Deal’ in order to make the Eurozone climate neutral in 2050.

Legislation is increasingly likely to support sustainable assets with future regulatory and tax changes favouring sustainable investments and disadvantaging assets that cannot demonstrate compliance. It is notable that a survey carried out by Macquarie Infrastructure and Real Assets in 2020 found that 91% of global institutional investors expected to increase their level of investment into ‘sustainable’ real assets over the next five years.

 

Engineered timber buildings are becoming increasingly popular

In many countries, construction is a way to accelerate the economic recovery from the pandemic but it’s also a major source of carbon emissions. One way to bridge this issue is to increase the construction of more sustainable buildings.

Engineered timber buildings tick this box, and a combination of technological innovation, greater sustainability and reduced costs has seen the number of such developments increase globally.

Construction using concrete and steel is highly carbon-intensive, compared to trees which capture and store carbon dioxide as they grow, making timber a far greater climate-friendly building material. Timber construction also uses materials derived solely from managed fast growth plantations meaning construction is sustainable and does not rely on harvesting old-growth forests.

The rapid development in the market has been made possible by the technological breakthroughs of new engineered wood products, such as Glue-laminated Timber (Glulam), Cross-laminated Timber (CLT), and Laminated Veneer Lumber (LVL).

These engineered timber products are all versatile and support innovative flexible design and architecture approaches. It is this flexibility, combined with their increasing popularity and reduced construction time that has made engineered timber competitive with more traditional concrete and steel structures.

In Europe, the market for engineered timber construction has been growing by roughly 8% (€5 billion) a year and is expected to accelerate to €10 billion a year by 2030. These figures concern primarily multi-storey buildings, however, and with the inclusion and addition of wooden frame buildings and/or detached houses, the size of the investible market increases significantly.

The engineered timber market in Europe is concentrated, with the top five markets comprising more than 80% of activity. Germany is the market leader, accounting for 22% of construction, followed by France and UK, both with 16%, the Nordics (Finland, Norway, Sweden) collectively account for another 16% and then Austria with 12%.

Conclusion

The ongoing development of timber-based construction creates an attractive and expanding investment opportunity. Whilst these developments broadly maintain all the well-established features of a real asset in terms of return and risk, they also provide additional sustainability benefits.

Engineered timber buildings are also often perceived as superior by the people living or working in them. There are several studies which reference the health benefits of timber looking at both measured and perceived indoor environment quality. There is also evidence of human health and wellbeing benefits based on wood’s biophilic properties, according to Dasos Capital.

These benefits will help drive greater tenant retention and income resilience, as buildings increasingly need to reflect the ethos of the brands that operate within them. Perhaps more importantly to remain ‘investable’, the buildings must be able to demonstrate their sustainability credentials in order to maintain their value over the investment and asset lifecycle.

Our ongoing commitment to ESG

Cromwell has formalised an ESG Strategy for our global business. This strategy includes targets that are crucial to our future, including decarbonising our business toward net zero and setting new baselines for areas – such as energy consumption, waste management, and carbon in each of our operating regions. We have also developed region specific targets to ensure we are addressing local concerns, such as the development and registration of an Australian Reconciliation Action Plan, with further progress and meaningful reflection occurring constantly.

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June 16, 2021

PropertyEU interview with Pertti Vanhanen, Managing Director Europe

PropertyEU Editor-in-Chief recently interviewed Pertti Vanhanen about Cromwell’s upcoming European initiatives along with his five strategic objectives to build upon Cromwell’s €3.7 billion AUM and increase profitability in the region.

The full interview can be found here.

 

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June 16, 2021

PERE: UK real estate freed from the ‘penalty box’

Investment activity was suppressed globally in 2020 as a result of COVID-19 with the UK real estate industry facing additional uncertainty surrounding Brexit. As vaccination continues to progress and Brexit arrangements finalise, the UK market is emerging again as a great opportunity for investment.

Cromwell’s Head of UK, Matthew Bird, recently participated in the PERE: UK Roundtable 2021. Matthew discussed the appeal of the UK market and particularly London to capital investors, the deep occupational demand for logistics and light industrial assets, along with the importance of tenant needs as the country emerges from COVID-19.

The full roundtable discussion can be read here.

 

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June 16, 2021

PropertyEU – Logistics Watch: Cromwell expands in Europe with expert teams

Logistics and industrial assets currently account for around a quarter of the portfolio of Cromwell’s funds under management in Europe, although there are interesting geographical differences. While the asset class dominates the firm’s French and German portfolios, it represents an increasingly important part of Cromwell’s Italian and Nordic business as well. Logistics Watch talks to Andrew Stacey, Head of France, Pontus Flemme-Gardsell, Head of Nordics, and Lorenzo Caroleo, Head of Italy to find out more about territorial trends and how the runaway popularity of the logistics sector requires a systematic approach to acquiring and managing assets.

Read the interview in it’s full entirety here.

 

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April 29, 2021

Inflation and its impact on real estate

Alex Dunn, Research Manager, Cromwell Property Group

Inflation is a key component of any economy. A change in the inflation rate is often seen as an early sign of impending change and the end of an economic cycle. A sudden spike in inflation can have a significant impact on investment portfolios particularly if investors fail to navigate it successfully.

A dangerous mix of closed businesses, higher unemployment rates and large injections of monetary stimulus from governments around the world, all as a result of COVID-19, has led to many experts predicting higher-than-normal rates of inflation are on the medium-term horizon.

In the US and across European economies, future inflation is forecast to be far higher than it was over the previous decade. In Australia, inflation is also expected to be relatively high, rising by 1.9% per year on average. High inflation would see interest rates rising, impact exchange rates and push highly indebted individuals, investors, businesses and governments closer to default.

The dominant concern of central banks at the moment, however, is still to try to raise inflation and inflation expectations hoping that this will be enough to raise interest rates above zero. This would provide room to manoeuvre in response to future negative economic shocks.

CPI-growth

CPI-by-country

How will inflation impact real estate?

Rising inflation can be both good and bad for real estate, and offer potential opportunities for investors. Real estate is often seen as a highly effective hedge against rising prices with assets that benefit from leases with fixed annual rental escalations effectively offsetting increases in inflation.

The downside for investors is that the typical response to inflation is to make money and the cost of borrowing more expensive. The fact inflation also devalues currencies forces most lenders to raise rates further, making the cost of debt even more expensive still for those that need it.

Positively for investors, inflation can lead to an increase in property values. For example, rising inflation will result in an increase in the cost of building materials for developments. Between the higher cost to borrow and the additional cost to build, new construction can become increasingly less attractive, especially as these higher costs tend to be passed onto occupiers. This can lead to a rise in the price of existing properties, particularly if the supply of new construction is reduced.

Inflation also typically leads to an increase in rental values with higher mortgage costs generally resulting in more people preferring to rent rather than to buy their own property. This increase in demand for rental properties and the influx of tenants usually prompts landlords to raise their rents.

 

Conclusion

The longer-term economic effects of COVID-19 will take time to fully emerge. While interest rates are extremely low, making it a good time to borrow, the huge and ongoing economic stimulus funded by governments around the world could drive an increase in inflation.

The benefits of the stimulus currently outweigh the potential future issues – but with debt levels at an all-time high, the balance between the two will be an increasingly fine one. Irrespective of the outcome the real estate sector’s ability to offset inflation through rental value growth makes it an attractive asset class relative to bonds or equities.

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July 22, 2020

What next for European logistics?

Lockdown has been like a giant experiment, especially for the logistics sector which has had to deal with unprecedented demand with next to no lead time while adapting to new ways of working, or put another way, social distancing.

By any set of measures, the response has been impressive, providing a glimpse into the potential of a technology-enabled way of life that many had predicted was still some years away. So, what happens next?

Now that the ratchet has been forced up a notch, will life go back to normal or will the forced mass adoption of all things online, whether to order essential items like groceries or to feed people’s growing ‘Amazon habits’, have an enduring impact on the logistics sector?

Logistics underpinned by solid fundamentals

The logistics sector will not be immune to COVID-19, but at the start of 2020 it was underpinned by generally solid fundamentals. Vacancy was low across most of the European market – below 7% in the Netherlands, Poland and the UK – demand was robust and overbuilding wasn’t an issue with opportunities for investors existing across the logistics spectrum, ranging from large distribution centres to urban delivery hubs in inner city areas.

Labour availability was one of the main concerns for logistics operators with the unemployment rate falling to around 6.2% across the EU by the end of 2019. While rates are expected to rise, often from historic lows, governments are implementing a range of fiscal policy measures intended to encourage businesses to retain workers and maintain consumption levels.

The logistics sector is a clear beneficiary of the rise of e-commerce over the last few years. While this is nothing new, the trend is likely to continue unabated with the COVID-19 pandemic and related social distancing measures simply accelerating the rise of online retailing. While some demand may fall away once ‘normal’ life resumes and lockdown measures are lifted, albeit gradually, this is by no means guaranteed.

COVID-19 may generate a spike in online sales for as long as the containment and social distancing measures remain in place as consumers depend more on e-commerce, but the underlying trend is one of continued expansion. The initial impact was on the grocery sector, but this is likely to spread to other consumer sectors. Indeed, we may well see an acceleration in the adoption of online retailing as many businesses turn to deliveries as a way of maintaining business continuity. The current level of online adoption among consumers may become the new ‘normal’. Retail sales are forecast to grow by approximately 2.3% a year between 2019 and 2024, according to Oxford Economics data, while online penetration is predicted to grow at an average of 8.5% a year in the same period according to Savills.

All this extra activity requires more storage space. While some space may be released back to the market as some retailers hit the wall, deliveries are here to stay. Some suppliers have started stockpiling in anticipation of increased online retail spend by consumers, and to mitigate disruption to the upstream supply chain.

In the long term, more warehouses will switch to automation and robots, which creates opportunity for value-add players to take advantage of price dislocation and build costs which have come off their peak, to reinvigorate older stock and upgrade with automation. Short term however, getting materials onsite will be problematic and construction work is being delayed as labour movement is restricted, which means a proportion of the schemes due to complete during the remainder of 2020 and into the first half of 2021 will be delayed. Some schemes may even be withdrawn as developers struggle under tighter financing conditions, all of which adds additional pressure to the tightly supplied warehouse market.

Investment overview

Investment volumes have been rising steadily since the last market trough in 2009, when just €6.9 billion worth of logistics transacted across Europe. In 2017, a peak year that was boosted by some large deals, trading volumes hit €40.4 billion. Interest in the sector has continued at very robust levels over the last couple of years, with €35.8 billion transacting in 2019 with the UK, France, Germany and the Netherlands consistently amongst the most active markets in Europe, also recording some of the highest penetration of online retailing.

What is next for European Logistics graph

There is, of course, the much talked about slowdown to the European economy hitting markets hard, although there has been a much swifter reaction by Central Banks than was seen during the GFC which, it is hoped, will go some way to supporting the weakening economic situation. But there are still a lot of unknowns: the main factors being the length of lockdowns, the impact of the gradual lifting of measures being seen across a number of European countries, the possible resurgence of the virus and when and how much consumer demand will be impacted, with the acceptance that a proportion will be permanently lost.

While the market drivers are there, real estate fundamentals underpinning the sector are healthy, capital is waiting on the sidelines to deploy when appropriate opportunities present themselves, the full-year 2020 trading volumes are expected to be subdued. While Q1 numbers are looking relatively healthy with €7.6 billion changing hands and above the long-term quarterly average of €6.2 billion. Activity levels are largely reflecting the conclusion of deals already in the pipeline pre-COVID-19 and a truer picture is likely to emerge as Q2 progresses. Indications thus far are for a much slower quarter as less product is openly marketed – stymied, for now at least, by the inability to view potential assets, conduct technical due diligence and the gap between buyer and seller expectations on pricing.

Once a new pricing benchmark has been established, capital is likely to react quickly, but during times of uncertainty, investors will favour core assets in strong locations. These will include assets close to infrastructure hubs as carbon emission regulations bear down and are now higher up the agenda and/or gateway cities, which service the growing demand for last-mile logistics. In addition, the wall of global capital headed to Europe is expected to ease, at least temporarily, providing a buying window for domestic institutions and cross-border European capital familiar with their local markets to take a larger share.

An (im)practical example

Matthew Cridland, a tax lawyer and Partner at K&L Gates provided an example of how build-to-rent taxes would rack up in New South Wales.

Firstly, duty applies at a premium of 7% for vacant land purchases above $3 million. If the party acquiring the land is foreign, an 8% ‘Surcharge Purchaser Duty’ also applies, lifting the total duty to 15%.

An MIT is considered a ‘foreign person’ if an overseas company holds a 20% or more interest. On a $20 million vacant residential development site, total duty costs – including premium rate and surcharges – would be $2,940,490, or 14.5%

NSW also imposes a land tax surcharge of 2% on residential land owned by a foreign person, wherein no thresholds apply. Australian-based, foreign-owned developers are exempt from these surcharges, but only if they are developing new homes or residential lots for sale. The exemptions do not apply to foreign institutional investment in new residential developments which will be held for lease – regardless of the economic benefits such projects may provide.

Beyond the aforementioned surcharges, the existing land tax rules also work against institutional investment. In NSW, a premium land tax of 2% is applied to a site with an unimproved land value above $4,231,000. As such, for build-to-rent projects, it is reasonable to anticipate the 2% tax will be applicable.

For an unimproved $20 million development site, land tax would be $372,104. Surcharges would likely increase this by $400,000 to $772,104. However, unlike duty, this is an annual expense that varies as land values fluctuate.

By this point in the example, it should come as no surprise that GST also works against the build-to-rent sector. For a build-to-rent project involving total costs of $110 million, no credit is available for the $10 million of GST. However, an identical project, differing only through the intention to sell rather than lease upon completion, would allow the developer to claim a $10 million credit and have a net cost of $100 million.

These surcharges and taxes may vary on a state level, but the impact they have, in addition to the 30% withholding tax rate, means the sector faces substantial headwinds.

What next for occupiers?

COVID-19 has been a shock on both the supply and demand sides. One of the interesting questions this throws up is what occupiers are doing with their supply chains. Historically, companies have minimised supply chain inventories, keeping them flowing at low, but continuous levels, so they can remain competitive.

An additional consideration if there are ongoing shortages to disruptions in global supply chains is a potential shift to re-shoring or near sourcing, as companies bring their supply chains closer to home. This could translate into demand for more warehouse space near ports and airports, and rising demand for distribution hubs along the supply chain.

In summary, COVID-19 is expected to result in higher inventory volumes and a reassessment of business continuity plans, which will create stronger demand for warehouse space. Whatever the outcome of the COVID-19 pandemic, and despite current economic demand side pressures which has suppressed economic activity, when the risk subsides, the expectation is for a rebound in activity.