UK ROUNDTABLE: Roaming the regions

Four real estate professionals discuss the opportunities for private equity firms and investors beyond just the core markets of the UK’s capital

Corestate Capital
M3 Capital Partners
Rockspring Property Investment Managers

Tristan Capital Partners


A traveller pausing in London’s Mayfair to take in the sight of prosperous, bustling Berkeley Square, the site for PERE’s UK roundtable, could be forgiven for thinking that they were in the midst of a thriving economy. However, in terms of growth, employment and property values, the UK is a nation divided between London and the country’s less fortunate regions. Indeed, it is very much a story of the haves versus the have-nots.

This divergence between the UK capital and the country at large – and its implications for investing in the market – is one of the main themes of this year’s roundtable discussion. The four experienced players weighing in on the situation are: Rory Hardick, partner at real estate investment and advisory business M3 Capital Partners; Neal Shegog, head of UK fund management at Rockspring Property Investment Managers; Cameron Spry, head of investments at European fund manager Tristan Capital Partners; and Ralph Winter, founder of Swiss-based private equity investment firm Corestate Capital.

Sources of capital

Shegog opens the discussion by offering his impression of investors’ sentiments about the UK market. He suggests that those sentiments vary widely depending upon the type and nationality of the investor.

“A lot of our Asian clients are still broadly focused on core,” Shegog says. “While it is tempting for us – being based in the UK – to regard a lot of that core stock as expensive, if you put yourself in their shoes and take into account the currency situation and an ability to leverage, a lot of them find it inexpensive, quite desirable and a means of capital preservation.”

Despite retaining its own currency, the UK has been far from immune from the effect of turmoil within the Eurozone. Although the recent financial crisis in Cyprus has done little to further undermine confidence among investors, it has reminded them that the problem is far from being solved, argues Shegog.

Still, a limited appetite for risk is returning. “Investors – particularly American investors, who always have been good at understanding and managing risk – are prepared to take a little more risk looking for income and deals,” Shegog says.

Rockspring recently raised more than €350 million for the fifth in its series of TransEuropean closed-ended vehicles, which seeks to invest into UK and European core, core-plus and value-added real estate. “It has been interesting seeing the evolution of that series because the nature of the investors has changed markedly,” Shegog says. “We have seen fewer UK investors and more European, Australian and Asian investors.”

Tristan’s Spry believes that US interest in core-plus investments has been driven not by a desire to move further up the risk curve, but instead by a dwindling supply of suitable prospects at home. “American investors by and large have done well in the US over the past two years as they have invested in the distressed, re-priced opportunities that existed,” he says. “The US cycle perhaps has moved quicker than people expected, and the opportunities maybe don’t exist as they did a couple of years ago. There is a view that the cycle in Europe and the UK is a bit behind that in the US, so they see an opportunity to come here and profit from that.”

The safe haven

For many overseas property investors, the UK market is London. Asian, Russian and Middle Eastern money has poured into prime London real estate because of its defensive qualities. However, that has had the effect of pushing prices up sharply. So, the question becomes whether these investors are now paying too much and if they care.

Shegog says sovereign wealth funds and Asian investors are sensitive to criticisms of over-paying for assets, but generally that is in comparison to their peers rather than to the market at large. 

Hardick adds that it is crucial to understand investors’ behavior in the context of time and the underlying capital and risk profile of such investors. What looks like over-paying from the point of view of a small domestic property company can make perfect sense for an investor with a large quantity of equity that needs to be placed in real estate over a long time horizon. 

Hardick cites the example of Berkeley Square estate, which was bought by the Abu Dhabi royal family a decade ago. “I remember looking at it on a pure yield basis in 2002 and thinking, ‘This is ridiculously overpriced’. Looking at it 10 years on, it was the steal of the century. Some of the deals that you are doing for the Koreans probably will look good in 10 years’ time,” he says to Shegog.

Winter, whose firm invests chiefly in mainland Europe but maintains an office in London and counts many UK investors among its backers, recalls a recent conversation with a Russian contact. “Everyone wants to own something in London, so he bought a house in London for £40 million. It’s not a problem to overpay the market if you have no debt on [the property] and you’re not forced to sell it. After several years of volatility, it is not that important because overall pricing is higher.”

Investing in London core property is more often than not about wealth preservation, argues Spry. One of the things that are driving the UK, particularly London, is the safe haven premium that people attach to it. “A market like London, which is very transparent and has abundant liquidity, comes at a premium,” he says.

Returns for risk

While core captures the attention of more defensive investors, all of the participants in this year’s roundtable are focused on driving returns by taking on development and asset management risk in the core-plus space and secondary markets.

Indeed, Rockspring shortly will begin raising capital for its second UK Value Fund. “The core-plus side is getting more attention now as people get a little more confident that the Eurozone has stabilised, so they can start to go a little bit further up the risk curve for higher returns and yield,” says Shegog.

Meanwhile, Tristan raised €420 million for Curzon Capital Partner III, its core-plus fund, in 2011 and just held a second close on its European Property Investors Special Opportunities (EPISO) III fund, with more than €300 million of commitments now. The Teacher Retirement System of Texas is among its investors, committing €100 million to that second closing.

Winter picks up on the value-added nature of the deals his firm is doing. “We have invested approximately CHF 3 billion, focusing mainly on stressed and distressed situations, some development and on niches that are giving interesting returns,” he says.

M3 Capital Partners also seeks higher returns by exploiting alternative property types. “In the core sectors, there are often too many people chasing a relatively narrow field,” says Hardick. “For many years, we have focused on alternative areas where we either buy yield that is sustainable and has very distinct planning regulations around the creation of new assets or we have taken focused planning, development and construction risk in areas where we see a significant undersupply of prime real estate.”

In the former category, M3 Capital Partners has bought two portfolios of motorway service areas from administrators to create a £750 million roadside retail property business. In the latter, it has focused on buying land to develop housing and student accommodation in the supply-constrained market in and around London, creating specialist businesses to carry out development. 

“We are very fortunate with our capital structure,” explains Hardick. “We are taking a degree of risk that other general partners cannot necessarily take in terms of planning, construction and financing. However, when we invest, we generally also set up a company around the asset pool we acquire or develop so we keep very specific risk management skills down at that level.”

Winter concurs: “You need operational expertise. We also own a student accommodation company in Germany, and you need to go much deeper in the whole value-creation process. Everyone knows that you have to do it if you want to generate mid-teen returns.” 

Few investors are willing to take on such a high level of development risk, but Spry argues that there still is value to be found in the conventional property types of office, retail and industrial. Indeed, Tristan is taking a more traditional approach to generating returns by buying assets with good underlying characteristics as cheaply as possible, investing capital to improve them and selling them at a profit.

“An interesting trend is there are a lot of assets out there that don’t really have an economic owner,” says Spry. “They have a legal owner who is out of the money – a bank who is really the beneficial owner – and has lost interest or doesn’t have the internal infrastructure to deal with the issues. As those assets move to that stage of their life where they need expertise and capital expenditure, that’s when something has to happen. In those circumstances, the return on new money going in is very high because the asset is wasting away without it. We are able to turn it into a more sustainable institutional asset.”

Shegog suggests that such assets are particularly common in the retail sector. However, the participants agree that, while there are good opportunities in the shopping centre market, there is a fine distinction to be made between struggling assets that can be revived by an injection of capital and those that have reached a point of irreversible decline due to structural changes in the UK retail market. 

Shegog also believes that it is likely that investor appetite for the UK will grow. “I think for the UK, provided the general economic environment stays as expected, we might find there is more interest outside of the core areas from our existing investors,” he predicts. “We potentially are approaching an inflection point for secondary property. The polarization between secondary and core pricing is now sufficiently attractive to bring a lot more people into that market.”

Bargain-hunting in the regions

The subject of secondary property and distressed assets brings the discussion back round to the marked difference in strength between the real estate markets in London and the rest of the UK.

“When you look at the UK, you really need to distinguish between London and everything else,” says Spry. “London is being driven by international capital flows that are different from what is going on in the rest of the UK and, to an extent, we feel priced out of the London opportunity. In the UK, you have Europe’s strongest market sitting in what is regionally a fairly weak economy. This unbalanced nature of the UK economy is a very interesting phenomenon in investing.”

Spry contends that there are opportunities in the regional office markets of second-tier cities such as Manchester and Birmingham because a lack of development has restricted supply of quality space while yields have moved out. This was the rationale behind Tristan’s recent purchase of a mixed-use scheme in Birmingham known as The Cube (see Art of the deal, opposite page).

Shegog, however, is slightly more cautious. “We see increasing opportunities in the provincial office market for yield, and there has been a little bit of an uptick in the market at the start of this year,” he concedes. “Still, I am a bit more wary of the office markets because, while they have been substantially re-priced, the demand is unpredictable and the supply of stock is less constrained than in the south east.”

In the office sector, Rockspring is focusing on development around the M25 motorway, with four speculative projects of 60,000 to 100,000 square feet each underway at Uxbridge, Weybridge, Staines and Maidenhead. “We currently are the biggest developer of speculative offices around the M25,” claims Shegog. 

“Broadly speaking, we probably are more focused on the south east because that’s where we see greater economic strength, greater opportunity for growth and, consequently, more confidence to develop,” Shegog says. “There is now quite a shortage of Grade A stock in the south east. It’s hard to get planning for that, so if you do have a good scheme you are more likely to succeed with it.” 

M3 Capital Partners’ residential business also focuses on areas near the capital, where it is seeking to take advantage of tight planning restrictions relative to population growth. However, Hardick is anxious about the consequences of government attempts to boost the housing market by relaxing planning controls and underwriting home buyers’ mortgages.

“A stable government policy on the residential market is quite important for real estate investors,” Hardick warns. “Without such stability, they are going to continue to act in the way that their predecessors have since the 1970s and stay out of the residential sector because it’s difficult to underwrite the macro risk. Excess government liquidity into residential also will interfere with efficient functioning of the private capital markets.”

There have been success stories for UK manufacturing amid the economic gloom, notably in the car assembly business for the likes of Jaguar Land Rover and BMW/Mini. Unfortunately, Shegog says it is difficult for real estate investors to harness that success because automotive companies usually prefer to own their property.

Capital concerns

The participants agree that the current environment is a difficult one in which to raise equity. “I’m not willing to launch a new fund, particularly when the club approach is more transparent,” says Winter. “We were able to raise up to €300 million in a short period of time because we are in close touch with approximately 70 investors, which we know very well. This model is based on different fee assumptions, and the equity from our side is higher compared to funds.”

Hardick observes that the models preferred by different groups of investors have changed over time. He notes that some Dutch investors, which were proponents of indirect investment structures, have gone back to a style of investing that allows them greater direct control of their strategies. Meanwhile, many US investors remain more likely to place their money with private equity-style general partners, which can provide the perception of broader investment origination capacity.

Hardick adds that many US pension plans continue to place capital with some of the largest international fund managers, whose real asset strategies have benefitted massively from loose monetary policy in the US. Even where the managers were long at the top of the last cycle, they haven’t lost that much money due mainly to the effects of quantitative easing, he says. In fact, it is this focus on managers that are too big to fail that is causing problems for the smaller managers that were able to raise capital in the last cycle.

Spry agrees. “The whole industry is going through a process of right-sizing for the investment opportunity that is out there,” he says. “How many people or how many managers does Europe really need to execute on that opportunity? There are a number of firms that seemed to be struggling two years ago but are still here, so we are not yet through the halfway point in terms of the right-sizing of the industry.”

Meanwhile, since the credit crunch and global financial crisis of 2008, banks in the UK and Europe have been reluctant to lend, but the roundtable participants sense a change of mood. To a degree, investors can thank alternative lenders for the banks’ new-found enthusiasm. 

“The alternative lenders – the institutional-backed fund vehicles that came in to bridge the gap – have done a fabulous job for all of us because they have reignited the banks’ interest in the market,” argues Hardick. “The alternative lenders will give you a price, and the banks are starting to be able to better it by a long shot. As their capital adequacy continues to improve, this should continue. ”

Looking forward

For the four private equity investors gathered around the table, their strategies for the next six months reflect the nature of their organisations and the stage each has reached in their individual business cycle.

Rockspring has its TransEuropean Property V fund and soon will have its UK Value II fund in market, as well as opening up its German Retail Box Fund to further investment. Tristan also is in fundraising mode, hoping to close out EPISO III by the end of the year. 

For Corestate, the focus will remain on club deals, with Winter pledging to seek out interesting deals and build up further relationships with investors. Meanwhile, M3 Capital Partners is concentrating on asset management, sifting through its recent acquisitions and looking to buy residential land at the right price.

These are difficult times for the UK economy with growth flat at best, consumer confidence at an ebb and continued uncertainty over the stability of its eurozone trading partners. That outlook seems unlikely to significantly change in the immediate future. 

That said, the UK remains one of the most mature, sophisticated and transparent of global real estate markets. For investors with the expertise to spot the best deals, it still represents an opportunity to generate good returns at an acceptable level of risk. 


Neal Shegog
Rockspring Property Investment Managers

Shegog is a partner at Rockspring Property Investment Managers, which oversees €7.3 billon of 
European property investments. He heads up the firm’s UK fund management activities and is the director for four vehicles: the Rockspring Hanover Property Unit Trust, the Rockspring UK Value Fund, the Retail Plus Property Trust and Cheshire County Council Pension Fund’s discretionary property portfolio. He also is responsible for asset management across the business.

Rory Hardick
Founding partner
M3 Capital Partners

Hardick is a founding partner of M3 Capital Partners, which manages $3.4 billion of equity and currently has $2.8 billion in equity committed to investments through its Evergreen Real Estate Partners vehicle. He has overall responsibility for the firm’s investment business in the UK and is on the firm’s global investment committee and board of directors. Prior to the establishment of M3 Capital Partners, he worked for real estate brokerage Richard Ellis in London.

Ralph Winter
Corestate Capital

Winter founded Corestate Capital in 2006. He serves as chairman of the private equity firm’s investment committee and a board director for its funds. Prior to Corestate, he established and headed the real estate team of Frankfurt-based Cerberus Group. 

Cameron Spry
Partner and head of investments
Tristan Capital Partners

Spry is a partner and head of investments of Tristan Capital Partners. He is responsible for leading the investment activity of the firm, which controls €3.5 billion of assets across the UK and Europe. Previous roles include managing director at Fortress Investment Group and head of Grainger’s European business, a €300 million company formed in 2004.


Art of the deal
The Cube in Birmingham offers a case study in opportunities in secondary cities

One of the most distinctive buildings on the skyline of Birmingham, England’s second city, architect Ken Shuttleworth’s design for The Cube was inspired by a jewelry box. Like many iconic schemes conceived at the height of the market, the 215,785-square-foot property proved to be an albatross for its developer, Birmingham Development, which went into administration in 2010 shortly before construction was completed.

The development’s financial backer, Lloyds Banking Group, sold the property as part of the £1 billion Project Royal portfolio of liabilities to distressed property specialist Lone Star Funds the following year. Then, in December 2012, Tristan Capital Partners bought the building from Lone Star for around £37 million, reflecting an 8.42 percent net initial yield, on  behalf of its European Property Investors Special  Opportunities III fund.

The 25-story mixed-use building contains 111,000 square feet of offices, 64,000 square feet of retail, residential apartments, a hotel, leisure space and parking. The Law Society and Highways Agency are the principal occupiers of the offices.

“We acquired on what we think is a very compelling basis, nearly half what the original construction cost was,” says Cameron Spry, partner and head of investments at Tristan. “There are elements of vacancy that, once we lease them up, will deliver what we think is a very compelling yield.”

Spry believes that there are good purchases of high-quality property to be made in Britain’s second-tier cities. “In some cases, there is a quite rapidly declining stock of Grade A space in the office market,” he says. “Very little is being delivered in terms of new supply and very little is likely to be delivered, bearing in mind where capital values are, the difficulty that exists in getting development financing and what are pretty soft occupational markets. Prices over the last 12 to 18 months have largely reflected that, and we think there are pretty compelling opportunities to acquire those assets.”