Uncertainty over Brexit is becoming somewhat overused as a phrase to explain anything untoward, but the truth is that identifying changing trends is probably more important at the moment. But while there has been a move towards reducing development risk and keeping a firm hold on debt, the day-to-day workings of a property landlord are as important as ever. Tasks such as making sure tenants pay the rent may seem obvious, but it is attention to detail including keeping in touch with tenants and their needs that makes the difference.
These help to maximise profits, but right now there are also some favourable tailwinds giving the commercial property sector strong support. A revival in the economic fortunes of regional centres such as Leeds, Manchester, Birmingham and Bristol has served to highlight the lack of new office supply, and that’s good for rents on existing buildings. But while rents are rising, there is still a gap between them and a level that would make economic sense of new construction. This restriction of supply has been made significantly worse by the use of permitted development rights that allow offices to be converted for residential use. Many landlords insist that there is little substitute for leg work to find suitable assets to buy. This can lead to some highly attractive off-market deals which, in many cases, are small enough to slip under the radar of the bigger players.
Having made a suitable acquisition, there are several ways to sweat the asset for more income. In the case of multi-tenant properties, there should be an opportunity to increase occupancy and therefore rental income. However, in many cases some form of capital expenditure is required to pay for refurbishment. There is also the question of inbuilt obsolescence, which means that older buildings are not suitable to accommodate the changing requirements of the modern office. It seems odd, but in the US all the ancillary equipment extends down from the ceiling, and can be replaced or updated. In the UK, we like to bury things under the floor where they are largely inaccessible.
Many property firms operating in the regions have made a conscious effort to reduce exposure to the more traditional retail outlets; a timely move given the change in consumer habits that have helped drive many household names to the wall (Woolworths, BHS, etc). That’s not to say that all retail is bad. Shopping centres of modest size, can, if well managed, be profitable. Relatively low rents will help to retain tenants, while better use of space such as using areas over the top of shops for other purposes including residential help to boost income.
As far as rents go, the traditional pattern is for rents to reach a peak and then fall back. However, while rental growth has moderated, there is little to suggest that it will reverse. The latest thinking is that rents will more likely reach a plateau rather than a peak, and will tend to bump along the top. This all changes when the economy either accelerates or shrinks, while interest rates remain a key determinant in influencing investor interest.
However, the current outlook suggests that as far as major influences go there is little likelihood of a major shock that would alter the current trend. This itself is perhaps a dangerous assumption because by definition shocks are unexpected. But the key components governing sentiment such as economic activity and interest rates are not expected to change materially. Some sectors of the real estate market will perform better than others, but for offices, housing and urban logistics the supply/demand imbalance and supporting factors such as record levels of employment put them at the top of the pile.
And it’s also worth remembering that the last financial crash came as a result of banks being greedy. Some lessons have been learnt from that by property landlords. Speculative building has been on a more measured basis, while equity rather than debt has been used to a greater extent to raise funds. So, there is still plenty of room for advancement for the canny operator willing to put in the leg work.
