Last month’s roundtable focused on France could hardly have come at a more dramatic time for the country. French President François Hollande was in the grip of a ‘private’ crisis involving a mistress and, in terms of the economy, things were not going much better. In fact, the French economy recently has been struggling so much that foreign investment collapsed 77 percent, according to a pronouncement by the United Nations’ Conference on Trade and Development during the same week as the discussion.

Against this backdrop, none of the participants at the roundtable could see any good reason why office rents in Paris should increase. In fact, in the short term, continued stagnation or decreases would be more logical. As a result, the City of Light doesn’t feel like a market in which to buy prime real estate.
In spite of all of that, the market for core assets in Paris apparently has been strong. Christian Delaire, chief executive officer of AEW Europe, notes that the investment market for core property in Paris has been “extremely active,” but he also describes it as “expensive.”

Janet Stewart Goatly, director at CBRE Capital Markets, confirms that the appetite for core property has been buoyant. “It is business as usual,” she says, adding that the final investment figure for 2013 could show total transactions weighing in at around €15 billion.

Compared to markets such as the UK, however, that volume is tiny. Indeed, it is about half the volume that London saw last year, where transactional costs incidentally also are lower. Meanwhile, just prior to the financial crisis, France saw real estate transaction volumes of €25 billion, so levels still are down something on the order of 40 percent.

“It is almost a relief that we still have €15 billion!” jokes Stéphane Theuriau, senior executive vice president in charge of office property and private equity at Altarea Cogedim.

An apparent disconnect

Antoine de Broglie, chairman of STAM Europe, notes that he has been spending the majority of his time in Spain and Italy, despite the majority of his firm’s assets being located in France. “This is a very different market than 2005,” he says. “People are buying off levels of €800 per square meter at yields of 4 percent, therefore they are going to lose money. We brag about sovereign wealth funds buying in France, but half of the market in 2005 was for opportunistic or secondary assets. That market was broad, and now it is pretty restricted. So I wouldn’t say the investment market is as buoyant.”

In de Broglie’s opinion – not totally shared by the other participants – the Parisian real estate market suffers from a lack of transparency. He blames real estate brokers for not telling people the true market rental levels for property in Paris. “Vacancy is unknown and rent levels are ‘faked’ by incentives,” he bemoans. He also argues that the leasing market in Paris is incredibly soft, down perhaps 25 percent or even 30 percent from last year at 1.8 million square meters of absorption.

AEW’s Delaire sees the macroeconomic backdrop in France as being “tricky” and the lettings market as being “complicated.” However, given the clear connection between the two, he admits that he doesn’t quite understand the level of activity in core property. Clearly, the implication is that there must be a disconnect somewhere between macroeconomics, real estate fundamentals and demand.

That said, all the “difficult-to-understand investments are directly linked to investors seeking a return premium compared to long-term bonds and to gain exposure to real estate, even it is expensive,” Delaire says. French life insurance companies seem to be part of this trend, as they have been buying at cap rates of around 6 percent on assets with relatively short leases as well as entering into sale-leaseback transactions in various locations.

CBRE and Stewart Goatly’s team has worked on its fair share of such transactions. In July, for instance, CBRE Spain and CBRE France advised Tesfran, an affiliate of Spanish company Testa, on the €450 million sale of the 40-story Tour Adria in La Défense to a consortium of insurance companies led by fund manager Primonial REIM. At the time, it was the largest transaction to have completed in 2013.

Seeking opportunity

Perhaps it was the French attitude, but this roundtable was particularly enjoyable because of the candor of the participants regarding elements of French real estate – and sometimes a lack of agreement. It was made all the more enjoyable by the feeling that, in some quarters, this is a market where opportunistic deals could well be coming. Indeed, there are signs that firms seeking higher-return investments are looking at the market closely.

According to the participants, The Blackstone Group and Mount Kellet Capital Management have both invested in France recently. In the case of Blackstone, it is said to have acquired offices in central Paris and La Defense totaling 70,000 square meters. It also has assembled a logistics portfolio of one million square feet following purchases from Prologis and Gecina.

Meanwhile, Patron Capital has more than €500 million allocated to France, and Tishman Speyer bought the 53,000-square-meter Tour Pacific office at La Défense in June. The developer-cum-fund manager is thought to have paid around €215 million for the building, which is let mainly to Société Générale and whose lease term expires soon.

CBRE’s Stewart Goatly reckons that, since 2008, a “wall of money” from higher-return investors had been looking to invest in France. “Sometimes the number of offers on a single deal has meant that such investors have bid themselves down to value-added returns, not opportunistic,” she says. “We saw that on one or two sales in the northern suburbs of Paris.”

More importantly, according to Stewart Goatly, ‘distressed’ is just not a word that exists in French. “We don’t like to talk about it or admit it,” she says. “As advisors, we hardly ever see any distress. For obvious reasons, it is nearly always dealt with off-market.”

Stewart Goatly also took the opportunity to address the market for core property, picking up on an earlier comment about signs that the market might slow down. “The demand for core remains very strong,” she contends. “I do agree that we have reached the limit of yield compression and rents will be stagnant at best, but we could sell a lot more if we had more.”

According to STAM’s de Broglie, the single biggest opportunity stems from the fact that 50 percent of Paris’ stock of buildings – equating to some 50 million square meters – was built between 1960 and 1990. Energy efficiency rules, however, are coming into effect faster than in many other countries, with local construction companies pushing the sustainability issue.

“The level of obsolescence is great, and the primal core part of the Paris market is reducing every day. That is a long-term structural opportunity, but it has to be at the right price,” opined de Broglie. The problem, he also points out, is that ‘prices’ need to be low because construction prices are ‘outrageous’. “There really is too much office space in Paris,” he adds. “Every time we build a square meter, we should destroy 1.3 meters or convert it into something else.”

Opportunity knocks

Some might question why there have not yet been many opportunities for opportunistic buyers. Well, France currently has low interest rates, which has enabled many owners to hide their problems. Most of the portfolio owners, whether they are life insurance companies or listed property companies, are valuing their assets upon vacancy levels of just 5 percent on average and index-linked rent increases of 1.5 percent to 3 percent per annum. Net asset values therefore have risen because of both cash flow expansion from rents and cap rate compression. However, in the past three or four years, owners really have struggled to let their properties.

“That is the disconnect,” says Theuriau. “Values have gone up amid a tough rental market. At some point, those two things reunite or collide. My own view is that this is going to happen this year and next.”

The roundtable participants also note that many significant property owners have undergone changes at the top of their organization, putting new strategies into place. It is interesting that, as a result, better quality assets have traded than people had expected. For example, the Paris headquarters of Peaguot Citreon was sold by the car manufacturer in April 2012 for around €245 million to Canada’s Ivanhoe Cambridge as part of a property disposal program following a sharp drop in 2011 profits.

In another example, Altarea Cogedim recently acquired an asset that was owned by French property company Klépierre for 25 years. The decision to sell followed a corporate investment, in which US mall owner Simon Property Group acquired a 28.7 percent stake in the company from French bank BNP Paribas for $2 billion in 2012. Now, Klépierre is pursuing a strategy to concentrate on retail assets. In December, it sold a €2 billion portfolio of Carrefour-anchored centers to the supermarket chain.

With new management teams and some assets that have been vacant for one, two or even three years, property owners should start to mark to market, Theuriau believes. The other group that should yield opportunities comprises highly leveraged funds that acquired assets in and around 2005 and that will reach the end of the game in terms of being able to prolong their holding period. “The market finally will open closer to market values and present attractive situations,” he says.

Still, this is a markedly different market to the distress of 1997, when participants around the table say they should have bought everything available. For AEW’s Delaire, he has to balance France against other European markets. France is one of the three big markets in Europe in terms of volume and liquidity, so it cannot be ignored. At the same time, clients are having their own thoughts.
“What we have observed is that some of our investors, especially those that are from outside France, have become more and more cautious over the last nine to 12 months,” Delaire says. “The view of France has evolved, and we have to anticipate and adapt to that. Some players prefer to go to Germany and the UK, and we also have seen some of our French clients wanting to invest abroad.”

Different strokes

Last March, AEW Europe won a 10-year, €310 million mandate to invest primarily in French office and retail assets, with limited exposure to residential and student housing, on behalf of France’s public service pension, Etablissement de Retraite Additionnelle de la Fonction Publique (ERAFP). In short, however, AEW’s stance has been ‘France neutral to negative’, and this message has begun to impact its investment guidelines.

Of course, AEW’s clients are different to US opportunity funds, hedge funds and others that are trying to acquire French real estate at the corporate level. A perfect example in play is Gecina, a property company that owns €11 billion of real estate. At various stages last year, it was reported that Blackstone and Canada’s Ivanhoé Cambridge were working in cohorts to buy debt in the French company after two Spanish investment companies that owned 31 percent filed for bankruptcy. In November, it was reported how the same team put forward an offer to buy Metrovacesa’s 26.7 percent stake in Gecina.

This type of massive opportunity has yet to crystallize, but there are other opportunities afoot. For example, a lot of debt funds have been jockeying for position in Coeur Defense. In December, Bloomberg reported that the giant Paris office complex may sell for €1.3 billion, as much as €300 million less than the outstanding debt, and last month Lone Star Funds was reported to be in talks to gain control. The problems of Coeur Defense are inextricably linked to the collapse of Lehman Brothers, which acquired the building for €2.11 billion in March 2007. The opportunity lies in the outstanding debt owned by bondholders in a complex structure.

“I am seeing interest from opportunistic capital in France that I haven’t seen for five years,” sums up Theuriau.

STAM Europe, meanwhile, has roughly €400 million to deploy in opportunistic strategies, but such a major opportunity has not yet arrived for its founder. De Broglie says he has been spending just 15 percent of his time in France and the bulk in Spain and Italy, where he felt he could deploy his capital more ably. He also notes that the opportunity in Gecina is more a Spanish-driven situation than a French one, given that the shareholders that sold were Spanish investment companies.

“French distressed situations – there must be a lot, but I haven’t seen them,” de Broglie says. “Until capital values go down, I don’t see the added value, opportunistic play becoming a rally. It is not like 1997, when capital values had gone down by 40 percent to 50 percent. We should have bought everything! We bought a bit, but we should have bought everything. Today, capital markets remain pretty high in my view, and the market hasn’t gone down.”

Theuriau of Altarea Cogedim is a believer that distress is coming, but he notes that the only investments his firm has been able to make in the past 12 months were on the development side. He observes that there is less risk bringing to market a “green” modern building than in buying an obsolete one with only a few years left on the lease.

Asked by CBRE’s Stewart Goatly how Altarea Cogedim would price such a development, Theuriau replies ‘constant’ – in other words, at today’s rents and cap rates. “We will be wrong on both, but it is natural hedge,” he says. “We try not to model rental growth and use 20-year cap rates as a model.”
Near-term opportunities

For the rest of the year, Stewart Goatly says CBRE is likely to see renewed interest in regional investment in cities such as Lyon, where there was €1 billion of deals last year. The other demand is coming from non-French investors looking to partner with local players on development, for example. Finally, the firm is aiding clients looking to take French capital outside of the country.

In 2012, AEW Europe bought the EDF Tower in La Défense and the Oxygène Tower in Lyon, but Delaire notes that the firm was moving away from low-yielding investments without compromising on location. “That means focusing on property types where the yield structure is higher,” he explains. “For example, we like logistics. Also, we are trying to invest in short-term leases at assets that are very well located in areas such as La Defense, but where rents are low compared to the rest of La Defense.”

Theuriau also likes distribution warehouses, as well as secondary and tertiary properties where the cap rate expansion is the same as for warehouses. He also has seen some opportunistic hotel investments of note, such as Mount Kellett buying in Paris.
“What does compare with 1997 is a lot of institutions wanting to get out of the same assets – secondary and tertiary, which are very difficult to finance on a single-asset basis and that will trade as portfolios,” Theuriau says. “We need to try to be on the other side of the table.”

Theuriau continues: “Just last week, I discovered two transactions off-market that sound pretty attractive to me, but I am a little bit more optimistic. It has been seven years since the crisis, with lots of changes, and the more interesting things are ahead of us.”

Antoine de Broglie
Chairman and founder
STAM Europe
De Broglie is the chairman and founder of STAM Europe, which manages around €1 billion in assets. The firm, which is 50 percent owned by original shareholders of Secured Capital, operates in France, Germany, Belgium, Italy, Luxembourg and Spain. Prior to starting up STAM Europe, de Broglie launched Transinvest in 1992 as one of the first specialized real estate banking firms in France.

Christian Delaire
Chief executive officer
AEW Europe
Delaire is chief executive of AEW Europe, which pursues core, core-plus, value-added and opportunistic strategies throughout the Continent. The Paris-based firm, which is owned by two French banks, manages €17.9 billion in assets. He began his career at accounting firm KPMG and subsequently worked at French insurer AXA, where he became global chief investment officer of its real estate investment management business.

Janet Stewart Goatly
CBRE Capital Markets
Stewart Goatly is director of the Paris office for CBRE’s capital markets team, where she has particular responsibility for the international section. The capital markets team in Paris is 30-strong, with around two-thirds of those professionals earning fees. Prior to joining CBRE in 1993, she worked at Jones Lang LaSalle, where she was head of office leasing activities in Paris for 13 years.

Stéphane Theuriau
Senior executive vice president
Altarea Cogedim
Theuriau is the senior executive vice president in charge of office property and private equity at Altarea Cogedim. In that role, he is responsible for oversight of Altafund, the firm’s €600 million discretionary investment vehicle. Before joining the Paris-based firm in 2009, he was chairman and chief executive of Compagnie La Lucette for three years and, prior to that, spent 12 years at Morgan Stanley.