BPEA on the logistics of research

This article is sponsored by BPEA Real Estate

BPEA Real Estate closed its first fund in 2014 and has now raised a total of $1.9 billion, including a $480 million China logistics vehicle in 2018. Head of real estate Mark Fogle and Charles Lam, managing director, real estate, discuss investment strategies and China logistics.

Covid-19 has created a radically different investment environment. How should investors approach it?

Mark Fogle: Research comes first andforemost. For us, that means preparing an annual ‘house view’ research document that we’ve created for over two decades. It is now over 200 pages long and takes a historical look at each sector to produce a forward-thinking piece about what we believe is going to happen in that country or sector over the short and long term, and where we should be investing.

Doing extensive research will help to keep you out of trouble and hone your focus. Part of our research involves a deep dive into a handful of the ‘hot’ sectors each year – like co-working or student housing – to assess if there’s real long-term value or if it is just a passing fad. We’re happy to have avoided both of those as a result.

For all your research and focus, sometimes it is the deals you do not do that make the biggest difference, and luck does come into that. With so much overweight capital, we were outbid on a large deal in the hospitality space in Q4 2019, for example, which means we really dodged a bullet. But we’re actively looking for more of those opportunities today.

We monitor 10 countries and tend to invest in five for each fund. Right now, we are looking at opportunities in Japan, South Korea, and Australia, for example, but have no exposure in Fund II to any of those countries yet.

This year, we are proceeding with caution but can see the next 12-18 months being one of the best times to invest in Asian real estate as the market recovers from covid-19.

Will there be more value investing opportunities?

MF: There will be developers who may have to sell assets or borrow mezzanine debt to fix their balance sheets, while there are also a lot of investors who bought in 2015-19 but have not yet exited, so we think there will be a lot of opportunities. A lot of investors have average debt at 70-80 percent on their investments – maybe even 90 percent including mezz – and so if values fall, then some of them will be vulnerable and looking for solutions.

The values just are not there yet, but they will move – either this year or early next year. We are seeing people evaluating deals at prices that really surprise us. There is a lot of capital in the system, and people are afraid they will miss out on deals, perhaps because they remember the GFC and how well anyone did who invested the following year. The current situation is not like the GFC, so I do not think you can apply the same logic, but we’ll definitely see activity pick up in the coming months.

Is it the right time totarget China logistics?

MF: Given the lack of modern logistics stock and increasing domestic demand, we believe China logistics offers a 20- to 30-year window of opportunity. It is equivalent to the US logistics sector in the 1970s, so this is not a market where you have to kick yourself for not being a first mover.

Regardless of political and economic upheavals and how manufacturing and exports are affected, China’s domestic consumption growth is phenomenal, and logistics is only going one way. The trend from offline to online retail – which the covid-19 pandemic has expedited – will also continue to push the sector forward.

Charles Lam: We have been heavily focused on logistics for several years and spent a lot of time researching the market and prospective partners. In the end, we established and launched a platform called Forest Logistics with two former Ascendas and Ping An Logistics executives. Today we have approximately $500 million of equity to construct 14 warehouses across China, and we’ve already secured 10 sites across the country. We think there’s still a lot of potential to build on this platform going forward.

China’s logistics market is still hugely undersupplied, with around 95 percent of the existing stock considered substandard or obsolete by global standards. While the government recognizes the need to expand the logistics network, the land control measures are still quite restrictive, so new supply of modern stock in the coming years will continue to be low.

This makes acquiring the land the most important step of the entire process: the key to success is the ability to secure development land within the allowable land quota for logistics facility use. Having a partner with local expertise in this ecosystem crucial. Together with Forest Logistics, we have been able to secure development sites in both Shanghai and Beijing over the last year when there was virtually no new land supply in either of these core cities.

Another interesting factor is that the government is often motivated to diversify the players in a region instead of giving sites to just a few of the dominant players in the market. So, new entrants may actually have an advantage over the incumbents. There’s no significant first-mover advantage in our opinion.

We have a true partnership with Forest Logistics where we jointly own the operating company as well as the assets. This has proven to be an ideal structure as there is a total alignment of interest to scale the platform and ultimately decide the best way to exit.

Where are the most attractive areas for investing?

MF: Our first fund is fully invested, with most of the transactions exited before covid-19. Fund II is less than a third committed, so we have a lot of dry powder to deploy in the post-covid market.

Our current focus is primarily on China logistics which is a clear beneficiary of covid-19. This represents around 50 percent of our current exposure, excluding realized investments and dry powder, with the remaining half split between office and residential.

In the office sector, we are doing value-add in China – focused on suburban locations and tenants seeking to shift away from dense CBD buildings to office parks with more space – and developing a BPO office building in Manila. We have been big advocates of the Philippines for over two decades.

Manila is a bigger office market than people realize: there was over nine million sq ft of absorption there last year (second only to New York and just ahead of Tokyo out of the major cities), and the Makati vacancy rate is only 2 percent. Time will tell how quickly the sector recovers post-covid, but these markets are likely to benefit from increased outsourcing to save costs, as well as a push towards more space per employee.

We have also developed luxury residential in Hong Kong and Tokyo and hope to do more residential transactions in the future. We have a flexible approach and can develop or buy land, buy individually or en bloc, or provide structured debt to developers or other RE investors including GPs.

We’ve been bearish on traditional retail for a long time, and from everything we’ve seen through our logistics investments – and the way covid-19 has further accelerated the transition from offline to online retail – we’re pleased to only have limited ancillary exposure attached to our office and residential investments.