UK Real Estate Update

Transcription

1 ADVISORY UK Real Estate Update Autumn 2013 kpmg.com/uk/realestate

2 1 UK Real Estate Spotlight Richard White, UK Head of Real Estate Foreword Can second tier cities fill the void? We have seen a significant resurgence in the real estate market in the first half of 2013; appetite created by the increasing availability of equity and debt has fuelled competition for available assets. Supply and pricing are two key themes arising in our dayto-day conversations with clients As deals agreed earlier in 2013 complete and investors look to the next opportunity, we are seeing signs that competition has driven pricing to a point where even the largest investors are showing caution, and this is reflected in the 6% decline in overseas investor activity compared with 2012, noted later in this report. Supply has been a hot topic for some time, with competition for prime trophy assets and a lack of supply in London well documented. However, the impact of low yields in London and the aforementioned competition are pricing certain investors out of the market. As supply increases outside London, these combined factors are driving a growing trend towards alternative markets with the more opportunistic end of the investor base expanding their geographical horizons. So what is in store for the year ahead? The key challenge for the UK s nationwide real estate market is whether it can continue to attract the overseas capital: with supply and pricing largely a London issue, can our second tier cities compete with the resurgent markets in alternative European jurisdictions? Increasingly positive economic sentiment is contributing to the building momentum in the UK markets but only time will tell if these economic indicators are strong enough to compete with overseas markets and continue to attract the significant capital flows which have previously flowed towards London. The results of our Q2 UK Real Estate Survey indicate that investors are increasingly optimistic, with over 60 per cent forecasting improvements in access to debt and equity capital, together with an increase in investment activity over the next 12 months. These investors are still hunting down real estate opportunities in the UK market and are keen to invest in a broadening range of property types. We expect to see UK based investors using their knowledge of the wider UK markets to regain a hold on transactional volumes in the short to medium term while overseas investors, who are less familar with markets outside London, assess their approach. Richard 2013 KPMG LLP, a UK limited liability partnership, is a subsidiary of KPMG Europe LLP and a member firm of the KPMG network of independent member firms affiliated with KPMG International Cooperative, a Swiss entity.

3 UK Real Estate Spotlight 2 The UK economy rebounds at last Britain is on the path to prosperity. So declared George Osborne recently 1, a theme which was repeated by a significant proportion of the UK commentators. A raft of positive economic data, including improvements in the construction sector, retail sales, sentiment and even an increase in manufacturing output has led many commentators to declare the end of the great recession. Initial estimates from the Office for National Statistics are that the UK experienced GDP growth of 0.7% in Q and 0.8% in Q However, the trade deficit continued to widen in July, highlighting ongoing weakness in the export sector. This raises uncertainties regarding the robustness of the recovery. Nonetheless, for the next five years the UK is expected to experience improved GDP growth starting at 1.5% for 2013, rising to 1.8% in 2014 then gradually falling back to growth of 0.8% by 2017 (according to data from the Economist Intelligence Unit). % change p.a. Economic indicators 1 8% 6% % Source: Economist Intelligence Unit F 2013F Real GDP Growth Inflation (CPI) Unemployemnt rate Real personal disposable income growth Source: 1 25 October F 2015F 2016F 2017F The improved economic outlook has raised expectations that unemployment will fall from current levels of around 8% to around 7% by 2016, as shown in the graph opposite. This may, at last, provide a stimulus for the office property markets outside of London. Inflation is forecast to remain stubbornly above the Bank of England s target until beyond However, with higher levels of growth forecast to return, consumers may finally breathe a sigh of relief as growth in real levels of disposable income returns in On the back of the strongest improvement in retail volumes since 2011 (up 3% on a year-on-year basis to the end of July), the outlook for UK retailers (the worst performing sector in recent years) is finally improving. The Bank of England undertook the unprecedented step of issuing forward guidance suggesting that the BoE would leave interest rates unchanged until the second half of 2016 at the earliest. Given the improving economic prospects outlined above, there is much speculation as to whether that is still achievable KPMG LLP, a UK limited liability partnership, is a subsidiary of KPMG Europe LLP and a member firm of the KPMG network of independent member firms affiliated with KPMG International Cooperative, a Swiss entity.

4 3 UK Real Estate Spotlight And back to the Real Estate! Transaction volumes in H grew versus the same period in 2012, but were unable to maintain the levels witnessed in H2 2012, according to data from Real Capital Analytics. Overall, transaction volumes in the year to 30 June 2013 grew by 13% year-on-year. London s dominance has been well documented in previous editions; however as investment opportunities within London have become increasingly difficult to secure, investors are turning to alternative markets. In Q2 2013, London accounted for the smallest percentage of quarterly transaction volumes since Q4 2011, at 58%. As the outlook for the UK economy continues to improve and access to opportunities in London continues to be constrained, we expect to see a trend towards more diverse investment across the UK throughout the remainder of UK property yields: London vs.the Big Six vs. the rest of UK Yield (%) 8% 7% 6% 5% 3% 12/31/07 3/31/08 6/30/08 9/30/08 12/31/08 3/31/09 6/30/09 9/30/09 12/31/09 3/31/10 6/30/10 9/30/10 12/31/10 3/31/11 6/30/11 Difference London vs Big Six (RHS) 9/30/11 12/31/11 3/31/12 6/30/12 9/30/12 12/31/12 Big Six 3/31/13 6/30/13 4.5% 3.5% 3% 2.5% 1.5% 1% 0.5% % difference Commercial real estate Rest of UK London UK average 10 Source: Real Capital Analytics, KPMG analysis 75% Note: Big Six includes Birmingham, Manchester Metro, Edinburgh, Bristol, Glasgow and Leeds 5 25% Q4/2010 Q1/2011 Q2/2011 Q3/2011 Q4/2011 Q1/2012 Q2/2012 Q3/2012 Q4/2012 Q1/2013 Q2/2013 Overseas investors continued to dominate activity (5 of transactions in the UK, 6 in London) but notably overseas investor activity actually declined by around 6% compared to While this gap has predominantly been filled by local institutional investors, a number of factors, including supply and pricing, are combining which may see a decline in London s dominance and potentially a decline in capital flows to the UK if its other markets cannot provide alternative attractive investment opportunities. Big 6 Source: Real Capital Analytics Rest of UK London This may be further exacerbated by the yield positions in London. While yields for prime London commercial properties are at extremely low levels, they continue to offer an attractive spread over government bonds. However, the change in the interest rate outlook has already started to cause this spread to narrow. In our view, any significant changes in stance by the Bank of England could precipitate a period of volatility in the London real estate markets as secure yield driven investors withdraw KPMG LLP, a UK limited liability partnership, is a subsidiary of KPMG Europe LLP and a member firm of the KPMG network of independent member firms affiliated with KPMG International Cooperative, a Swiss entity.

5 UK Real Estate Spotlight 4 1 Office market Offices continue to be the best performing real estate sector in the UK, showing strong rental growth as take-up increased against a generally limited increase in supply. UK capital values have also grown in 2013, reversing the falls seen in Total returns are therefore expected to exceed 7% in 2013, according to DTZ, outperforming total returns on industrial and retail properties by around 2.5% and respectively. In line with the wider UK commercial transaction volumes, and despite falling back from the high levels of activity seen in H2 2012, office transaction volumes in H increased relative to the same period in 2012, resulting in overall year-on-year growth of c.18% to June London s dominance declined from 9 of 2012 s transactions to c.86% in the first six months of Similarly, we continue to see significant variations in yields across the UK, even within the prime market, as illustrated in the graph below. In the secondary markets, the picture is more extreme. Prime office yields (net) - June London (West End) London (City) Manchester Birmingham Current Quarter Source: Cushman and Wakefield Reading Bristol Last Year Edinburgh Glasgow Leeds Cardiff Newcastle sq.m/yr London recorded the strongest take-up of office space since 2010, according to data from Jones Lang LaSalle, led by the TMT sector. With no significant increases in supply, vacancy levels have remained at c.6% in central London, driving rises in rents. As the economy and employment rates rebound, we expect rents to continue to rise in London and improve elsewhere in the UK. Limited supply combined with economic improvement should also encourage new development within London together with more diverse investment across the UK. It is expected that this interest will initially focus on the major commercial centres and secondary markets in the south east. Prime office rents - June ,600 1,400 1,200 1, London (City) London (West End) Manchester Birmingham Prime rent sq.m/yr Source: Cushman and Wakefield Bristol Leeds Newcastle Reading CAGR (5yr) Cardiff Edinburgh Glasgow CAGR (1yr) 8% 6% % CAGR % % change p.a. 1 8% 6% 2013 KPMG LLP, a UK limited liability partnership, is a subsidiary of KPMG Europe LLP and a member firm of the KPMG network of independent member firms affiliated with KPMG International Cooperative, a Swiss entity.

6 5 UK Real Estate Spotlight 2 Residential market What a difference six months makes. In our Spring edition, we reported very little movement in UK house prices, a theme which was unchanged for some time before that. An unexpectedly warm summer later and not only have UK house prices started to rebound, but the Royal Institution of Chartered Surveyors (RICS) has gone as far as raising the alarm that the UK market may be overheating. Official government house price statistics, which tend to lag other indicators, are yet to reflect this improved market sentiment with house prices across the UK remaining broadly unchanged in the 12 months to June However, other market commentators have reported rises of 3%-. House prices in London have risen by 5% in the first six months of 2013 (according to government data) with prime properties continuing to outperform the rest of the London market, showing rises of around 7% according to Knight Frank. We reported in our previous edition that prime London house prices had risen by 53% in the previous four years this figure is now estimated to have reached around 57% 2. Average UK house price by region Q3 07 Q4 07 Q1 08 Q2 08 Q3 08 Q4 08 Q1 09 Q2 09 Q3 09 Q4 09 Q1 10 Q2 10 Q3 10 Q4 10 Q1 11 Q2 11 Q3 11 Q4 11 Q1 12 Q2 12 Q3 12 Q4 12 Q1 13 Q2 13 The Funding for Lending scheme, on which we commented previously, has started to have a significant impact on the UK property market, especially given ongoing low interest rates. Earlier this year the Council of Mortgage Lenders reported a 29% increase in gross mortgage lending in July 2013 compared to July Lending to first time buyers reached the highest quarterly total in Q since Similarly, the volume of new buy to let mortgages issued reached the highest quarterly total since The increased availability of financing is expected to continue to propel house prices upward for the rest of This is particularly the case in London where foreign demand continues unabated, aided by the weak pound. In fact, as mentioned, certain commentators such as the RICS, have called for the government to step in to prevent another debt fuelled house price bubble. The supply of new homes remains constrained, but recent economic data point towards increases in housing construction output. Another impact of the increased availability of finance is that residential rents in the UK have broadly risen in line with inflation in 2013, versus a previous backdrop of above inflation increases for several quarters. In London, however, rents have continued to fall, by around -3% 3 in 2013 driven by uncertain employment markets and increasing levels of rental stock driven, in part, by significant overseas investment. UK housebuilding starts and completions 250, ,000 United Kingdom North East North West Yorkshire and the Humber East Midlands West Midlands East London South East South West Wales Scotland Northern Ireland Source: Department for Communities and Local Government Source: 2 Knight Frank 3 CBRE, Knight Frank 2013 KPMG LLP, a UK limited liability partnership, is a subsidiary of KPMG Europe LLP and a member firm of the KPMG network of independent member firms affiliated with KPMG International Cooperative, a Swiss entity. Units 150, ,000 50,000 0 Starts Source: Department for Communities and Local Government Completions

7 UK Real Estate Spotlight 6 3 Retail market In general, the retail sector, which has faced significant challenges throughout the downturn, has yet to reflect the upswing in sentiment noted in other sectors. For some time now retailers have had to contend with the continuing shift in consumer behaviour which is driven by trends including the rise of internet shopping and the demand for entertainment options. The issues faced by the UK s high streets have been well documented but regardless of location, retail landlords need to actively manage their assets to ensure that they remain relevant. While investment volumes in H were strong, reflecting 3 growth versus the same period in , Q reflected a notable reduction in transactions compared to the previous three quarters. We believe this is a reflection of a strong investor focus on prime retail space exhausting the supply of suitable stock. Demand from overseas investors also remains strong, continuing the upward pressure on capital values. Yields have now reached 2.75% on Bond Street, with properties around Oxford Street now trading at around 3.5% yields. London, and particularly the West End, continues to follow a completely different trajectory to the rest of the UK. Rents in the West End and the City of London have risen by 15.6% and 6. repectively, as international luxury, boutique and high street brands continue to compete for space. Outside of Central London, high street rents continued to fall in the first half 2013 as retailers have continued to rationalise their portfolios. Prime retail rents June 2013 sq.m/yr 10,000 8,000 6,000 4,000 2,000 0 London (City) London (West End) London (Croydon) Manchester Birmingham Bristol Leeds Newcastle Cardiff Edinburgh Glasgow London* HIGH STREET SHOPS Manchester* Edinburgh* RETAIL PARKS 2 15% 1 5% -5% -1 CAGR% Prime retail yields June 2013 sq.m/yr CAGR (5yr) CAGR (1yr) Yield 7% 6% 5% 3% London (West End) London (City) Leeds Cardiff Glasgow Newcastle Edinburgh Manchester Birmingham Bristol London (Croydon) Solus - Bulky goods Park - Open consent Source: Cushman and Wakefield The positive economic data noted may at last point to a significant turning point for the retail sector outside of London. Although this may take until beyond the end of 2013 to be felt in rents and capital values, the outlook is more positive than it has been for five years. HIGH STREET SHOPS RETAIL PARKS Current Quarter Q Source: Cushman and Wakefield Source: 4 Real Capital Analytics 2013 KPMG LLP, a UK limited liability partnership, is a subsidiary of KPMG Europe LLP and a member firm of the KPMG network of independent member firms affiliated with KPMG International Cooperative, a Swiss entity.

8 7 UK Real Estate Spotlight 4 Industrial market The industrial sector appears to have stabilised in Rents have generally remained stable, with limited growth for certain areas and asset types. Logistics assets have performed well driven by the continued growth of online retailing and demand from supermarkets and large department stores. Investment volumes have fallen in the first six months of 2013 by around 3 versus the same period in Anecdotal evidence indicates that this is a result of a lack of suitable investment stock. Demand is high for good quality, well let assets given the relatively high yielding characteristics of the industrial sector, or those assets which offer asset management opportunities. As the expected economic recovery gathers pace this may stimulate rental growth as well as a return of more speculative development given the current lack of prime stock. UK industrial property market activity volume (mil) 2,500 2,000 1,500 1, Q1 Q2 Q3 Q4 Q1 Q2 Q3 Q4 Q1 Q2 Q3 Q4 Q1 Q2 Q3 Q4 Q1 Q2 Q3 Q4 Q1 Q No. of properties Quarterly Volume No of properties Source: Real Capital Analytics 2013 KPMG LLP, a UK limited liability partnership, is a subsidiary of KPMG Europe LLP and a member firm of the KPMG network of independent member firms affiliated with KPMG International Cooperative, a Swiss entity.

9 UK Real Estate Spotlight 8 5 Hotels As noted in previous editions, the hotel markets in London and the rest of the country have been clearly decoupled, both in terms of trading performance and investment activity. After years of declining performance, positive signs are emerging for regional hoteliers. Trading performance In London, trading performance has been broadly flat for the first six months of 2013, with RevPAR growth of c.1.5% in the six months to the end of June 2013 versus the same period in 2012 (as set out in the graphs opposite). This masks a significant improvement for the month of June versus June 2012, when occupancy levels and rates fell in the pre-olympic build-up. The RevPAR increase in 2013 has been driven by occupancy increases, with average daily rates broadly unchanged versus Regionally, results have been considerably better. Occupancy levels for the six months to June 2013 increased by c.1.5%, with average daily rates also increasing by around 1.7% over the same period. Together, these resulted in RevPAR growth of c.3.9%. Looking ahead to the rest of the year, YoY figures for London are likely to be misleading and indicate falls, given the impact of the Olympics last year. Rather, we would expect to see a return to 2011 occupancy levels, with continued modest growth in rates. In the regions, we expect the modest RevPAR growth to continue, driven by the continued improvement in economic sentiment, which should stimulate corporate demand. Provincial hotel RevPAR, occupancy and ADR growth June 2013 YoY % movement 1 8% 6% - - Occupancy % Jul - 12 Aug - 12 Sep - 12 Oct - 12 Nov - 12 Dec - 12 Jan - 13 Feb - 13 Mar - 13 Apr - 13 May - 13 Jun - 13 ADR RevPAR y/e June 2013 Source: TRI Hospitality Consulting monthly HotStats data for UK chain market London hotel RevPAR, occupancy and ADR growth - June 2013 YoY % movement Jul - 12 Aug - 12 Sep - 12 Oct - 12 Nov - 12 Dec - 12 Jan - 13 Feb - 13 Mar - 13 Apr - 13 May - 13 Jun - 13 Occupancy % ADR RevPAR y/e June 2013 Source: TRI Hospitality Consulting monthly HotStats data for UK chain market 2013 KPMG LLP, a UK limited liability partnership, is a subsidiary of KPMG Europe LLP and a member firm of the KPMG network of independent member firms affiliated with KPMG International Cooperative, a Swiss entity.

10 9 UK Real Estate Spotlight 5 Hotels (cont.) Investment activity With a number of high profile transactions completing in Q1, transaction volumes for the first six months of 2013 show a significant rise in activity versus the equivalent period in The market has been dominated by overseas buyers according to data from Real Capital Analytics - with cross border investors accounting for around 85% of hotel acquisitions by value. Local private, public and institutional investors were all net sellers of hotel investments. Large, single asset transactions such as the sale and manage back of the Intercontinental on Park Lane have featured prominently in the London market, with regional activity dominated by portfolio transactions such as the acquisition of the Principle Hayley Group by Starwood Capital. Whilst the development outlook in the regions is more muted, London s hotel landscape looks set to continue to expand rapidly in the next three years. According to data from London & Partners, 33 hotels (or c.5,900 bedrooms) are currently under construction in London. The challenge will be for existing hotels to maintain occupancy levels, rates and refurbishment budgets while competing with this new supply. The London luxury market seems to attract the lion s share of press coverage, but the most notable development in the market is actually the continued expansion of the branded budget sector. Budget hotels are expected to make up c.4 of all new supply in London. Premier Inn and Travelodge make up 6 of this figure, or a remarkable 25% of all new supply in London over the next two and a half years. Other notable players include Citizen M and Holiday Inn. In a market dominated by good quality budget hotels and reasonably priced 4 star hotels, those positioned between these two categories may struggle to justify their existence, with even 4 star hotels feeling the pricing pressure exerted by the budget sector KPMG LLP, a UK limited liability partnership, is a subsidiary of KPMG Europe LLP and a member firm of the KPMG network of independent member firms affiliated with KPMG International Cooperative, a Swiss entity.

11 UK Real Estate Spotlight 10 The UK healthcare market The UK healthcare sector has come to the fore in 2013, at least as far as international investors are concerned. Overseas investors, previously absent from the UK healthcare property market, have had a major impact in 2013 we set out below a selection of various transactions. The investment case is straightforward: UK healthcare investments typically offer long term, RPI linked income (20-30 year leases), underpinned by UK demographic trends, namely an ageing population. The primary risk is political, as a significant proportion of the Healthcare sector is linked to government spending. Political risk in the UK is widely viewed as benign. As with other property sectors in the UK, the healthcare sector is highly polarised, with properties in the South East commanding around a net income yield premium compared to properties elsewhere in the UK. Another defining line between healthcare properties are those supported by government spending versus private pay models. Owing to a rising proportion of old stock, investors are typically prepared to pay a premium for future proof properties. The political focus on the cost of healthcare has put pressure on operating margins and rental levels, with rents remaining broadly unchanged in the last 12 months. Nonetheless, occupational demand remains strong, resulting in broadly stable rental rates and occupancy levels. With the lessons having now been learnt following the demise of Southern Cross, sale and leaseback transactions are back in favour but at much more conservative levels of rent cover (EBITDAR over rents). Another notable development is the emergence of not only US REITs as significant players, but also the launch of a new UK REIT: Target Healthcare. Yields for prime healthcare properties are currently around 5.75%, with modern, secondary properties trading nearer to 6.5% to 7.5%. UK healthcare selected transactions Address Purchaser Covenant Price NIY % Date Spire Portfolio Moor Park Capital (12 hospitals) 44 care homes Griffin American Healthcare REIT II (US) Five care homes Healthcare REIT (US) Spire Healthcare Caring Homes 700m 7.0 Jan m 7.0 Jul-13 Sunrise 154m 6.9 Mar-13 Five care homes in Suffolk (Forward funded) Four care homes GP Surgery, Cambridge (Forward funded) Source: Knight Frank LLP Schroders (SPF) Care UK 28m 7.0 Feb-13 Target Healthcare REIT (UK) Ideal Care Homes 18m 7.25% Mar-13 MedicX GMS 5.2m 5.7 Mar KPMG LLP, a UK limited liability partnership, is a subsidiary of KPMG Europe LLP and a member firm of the KPMG network of independent member firms affiliated with KPMG International Cooperative, a Swiss entity.

12 If you would like to discuss any of the issues mentioned in this document, please contact one of the KPMG professionals listed below: Real estate transaction issues and opportunities Richard White Partner, UK Head of Real Estate and Real Estate Tax T: E: Andy Pyle Partner, Real Estate Transaction Services T: E: Stephen Barter UK Chairman, Real Estate Corporate Finance T: E: John Taylor Associate Partner, Real Estate Corporate Finance T: E: Real estate debt financing, debt acquisitions and disposals Andrew Jenke Partner, Portfolio Solutions Group T: E: Financing and refinancing real estate investments David Reitman Partner, Debt Advisory T: E: Real estate investment and loan valuations Doug McPhee Partner, Head of Valuation Services T: E: Regulatory impacts on the real estate industry Heleen Rietdijk Financial Risk Management Regulatory T: E: Real estate audit and accounting Bill Holland Partner, Real Estate Audit T: E: The information contained herein is of a general nature and is not intended to address the circumstances of any particular individual or entity. Although we endeavour to provide accurate and timely information, there can be no guarantee that such information is accurate as of the date it is received or that it will continue to be accurate in the future. No one should act on such information without appropriate professional advice after a thorough examination of the particular situation KPMG LLP, a UK limited liability partnership, is a subsidiary of KPMG Europe LLP and a member firm of the KPMG network of independent member firms affiliated with KPMG International Cooperative, a Swiss entity. All rights reserved. Printed in the United Kingdom. The KPMG name, logo and cutting through complexity are registered trademarks or trademarks of KPMG International. Oliver Marketing l CRT A l November 2013