2023 saw another strong year of rental growth across both hospitality and living markets in the UK. Yet despite demand from investors, a lack of suitable opportunities meant the overall transactional volume was well below historic averages.
Despite this, the team at AREA have completed 17 individual transactions within the PBSA, BTR and hospitality sectors in the last 12 months, proving that with the benefit of market knowledge and expertise, transactions are still occurring.
Which leads to the question, what do investors see as ‘suitable stock’ and what could they be missing?
Now that pricing has moved there may be some ‘fat’ to be identified in deals. Perhaps there’s a lease restructure that would release value, or is the clever investor not so focussed on the lease length anyway?
The market has been saturated over the last 10 years with investment strategies seeking to match liabilities. A long-term risk-free rate of next to zero has resulted in real estate looking good value even when pricing dipped in to 3% yield territory. As we are aware, those days are gone, and only a few expect them to return to the same degree as a before. With previous forecasts of interest rate reductions by June this now looking aspirational, the hunt for higher returns is increasing.
Are investors still willing to pay the premium for long term leases or are shorter leases now in vogue, with the yield available deemed better value than the longer lease alternative?
The answer to the above should be within the data. We undertake forensic analysis of the market and the individual asset p&l to determine the operational value of the opportunity and not just rely on a rent and yield. If you know the trading position of the opportunity is fruitful for the tenant, and you can benchmark performance against the wider market, then the lease length all of a sudden becomes less significant. Our approach to this exact scenario has seen us provide our clients with a competitive advantage on both acquisitions and disposals.
Opportunities also exist where Vacant Possession values are ahead or at the same level as investment values as, despite a fall in property valuations, many businesses are achieving record breaking performance and profits.
The movement of pricing, and wider market sentiment, also enables ESG accretive projects that will benefit both tenants and landlords, meaning additional income could be realised as well as overall values being maintained or added to. This has also helped previously unattractive deals look more favourable. For patient capital, income protection is key – if values cannot be increased in the short-term, then being ahead of policy changes that could cause future problems is also a way to perform in the long-term.
If there is no fat, the asset could instead be squeezed to create efficiencies. Either way Identifying these possibilities in potential acquisitions is core to knowing what value they may bring to a portfolio.
On the operational side, having an expert who can advise what to look out for is also a way to identify the right potential transactions. Strong operational markets, linked with a softened investment market highlights value in otherwise perceived weaker tenants whereby higher yield deals are underpinned by stronger Vacant Possession values. The tenant strength doesn’t become irrelevant, but as the Covid-19 pandemic showed us, a lease to a strong covenant may not actually be as secure as you think, so opting for a risk adjusted tenant profile with strong underlying fundamentals could be the clever option.
In this market perhaps most importantly is not to be desperate – if the deal isn’t right, don’t do it. We have told our clients to walk away from a deal right at the line because new evidence came to light that called into question the validity of the opportunity. We’d rather do the right thing than push through a deal that isn’t in the long-term interest of our client, no matter how much work has been done to date on it.
In a difficult market where competitive advantage is everything, that advantage might just lie in the forensic level detail that uncovers opportunities and unearths risk, building knowledge of when to go for something vs when not to.
