ASSET CLASSES FOCUS | US
PRIVATE EQUITY ENTITY LEVEL INVESTING
From multifamily to multi-sector
How one company is branching out from its origins as a vertically integrated US housing specialist into opportunistic investing in other property sectors.
By Robin Marriott
Since 1969, Berkshire Group has been known for its multifamily investment and operating expertise. It has always been entrepreneurial, but what is not widely known is that the Boston-based firm also employs an opportunistic investment strategy in other property sectors through its venture investments group. The firm with approximately $6 billion of assets under management was started by George and Douglas Krupp more than four decades ago but in 2010 hired former Citi Property Investors’ head of Americas, Larry Ellman, to be in charge of Berkshire Realty Ventures – an affiliate company at the time focused on this private equity strategy. Recently, Berkshire Realty Ventures was integrated into Berkshire Group and, just last month, it reached a milestone by closing its first institutional fund aimed at non-multifamily sectors – BRV Partners Fund I with $161.5 million of commitments from institutional investors.
The strategy is to make opportunistic, high yield returns in US sectors it likes other than multifamily via private equity-style investments in operating partners. It is also reserving up to 30 percent of the fund for ‘GP’ investments – meaning in the assets themselves.
Ellman said Berkshire Group was focused on “young and growing firms with high potential”. The only asset class the firm will not consider for the fund, it seems, is multifamily given that continues to be Berkshire’s core focus.
Berkshire makes for an interesting case study for asset class investing. After all, it started with a blank piece of paper in 2010 when deciding which direction to go in. What it has invested in so far and what it is examining as new areas are telling.
One area it has gone into already is the hotel sector across the US. The company has made an investment in Lodging Capital Partners that has interests in a total of nine hotels and $700 million of total costs. “Generally, those have been assets requiring renovation, new management or some form of heavy asset management,” explained Ellman. “The strategy is to get in, create value, and sell to a core, long term owner.”
The second area it is already into is senior housing on the east coast of the US. To play this sector, Berkshire Group has made an entity investment in LCB Senior Living, a firm near Boston led by entrepreneurs who sold their previous start-up, Newton Senior Living, to Lazard Freres in 2005. Now with Berkshire Group as a new investor and part-owner, the firm has six operating assets and started eight developments in the north eastern states. Four projects have opened, and the platform is examining a move into New York state.
Hotels and senior housing on the east coast have been its two early picks. But what else is the firm seeing value and growth in? Senior housing on the west coast a new area Berkshire Group likes given the income-profile, supply constraints and ageing demographic trends in California.
Beyond that, the firm is eyeing the office sector. More specifically, it wants to pursue a strategy to locate assets ripe for repositioning within recovering markets.
Further, it is interested in the self-storage sector. It wants to develop or convert properties for the purpose and would like to back a multi-regional or national firm.
Lastly, it has plans to invest in urban retail and mixed-use developments, medical offices, and tellingly it is currently evaluating a student housing company to invest in as a new asset class for the venture side of the business.
Gleb Nechayev is a key part of deciding strategy as he is now working with Ellman and his venture investments team. He was hired in December 2014 as head of economic and market research from CBRE Econometric Advisors to research and support Ellman in selecting asset classes of interest. Though initially he was focused on multifamily investing where his special knowledge resides, he is charged with examining the macroeconomic forces affecting other sectors.
Not that multifamily is over in the US. Far from it. Nechayev said some places such as San Jose and San Francisco had been experiencing 15 percent to 20 percent effective rental growth. He said: “We view multifamily rentals as being still in the expansion phase of the cycle.” US multifamily has been in expansion mode for the last three or four years, he further explained, and virtually every market with the exception of places such as Las Vegas and late-recovering southern California had shown stronger-than-expected performance.
Nevertheless, Berkshire Group does not expect this broad expansionary phase in multifamily to last forever. It has been examining demographics therefore and likes the rationale to invest in senior housing. He said: “Not only are the over-75s a very large part of the population, but they are also a growing one.” Meanwhile, lodging is also an interesting play because it has benefited from the improving economic growth in the US and globally, added Nechayev. “There has been continuing activity in the sector with cap rates continuing to compress.”
All in all, Berkshires’ picks will be a good indicator of what other firms believe are the most interesting asset classes to be in. Whether it will make the kind of returns it wants remains to be seen, but it will be hoping to repeat its success with multifamily housing. Investors will be watching.
The US cycles
Surburban offices is the asset class farthest behind as it is still halfway into ‘recovery’ mode, while senior housing is farthest along in a late expansion phase
The good news for property owners is that in the US, all major property sectors are currently in recovery or expansion phase.
According to data by California-based Green Street Advisors, surburban offices, strip centers followed by CBD offices have been the slowest to climb out of recovery mode with low or modest rent growth, though with rising occupancy and little new construction. There is no single asset class in the negative or flat growth side of the chart. Indeed, as Green Street’s data suggests, most property types see fundamentals progress in a clockwise manner. However, the firm warns that burgeoning influences such as e-commerce in the case of lower quality retail could cause progression in a counter-clockwise direction without ever experiencing expansion or oversupply. Meanwhile, six asset classes are well within the expansion phase. Those are led by senior housing, followed by hotels, malls, apartments, the industrial property and self-storage.
SPECIFIC FUND FOCUS
The Florida office and retail strategy
For several years, Prudential Real Estate Investors (PREI) has partnered Florida-based developer Stiles Corporation to make investments in the sunshine state. In 2011, the pair launched the Stiles Property Fund, a value-added fund that was mandated to make both office and retail investments but that only made it first office and ground floor retail investment in December 2014. The deal was to pay Invesco $101 million or $383 per square foot for class A office, 200 East Las Olas also known as the New River Center on Las Olas Boulevard in Fort Lauderdale’s CBD. At the time of purchase it was 86 percent leased. Following the purchase, PREI and Stiles said they would add value via asset management. The CBD of Fort Lauderdale has a ‘24/7’ environment in an area where there was employment growth and where Stiles was developing a 254-unit apartment high-rise just a block away from the property.
ASSET CLASSES FOCUS | EUROPE
PRIVATE RENTED SECTOR
Don’t call it PRS
Several large real estate investors are set to pump billions of pounds into the UK build to rent market over the next 12 months in a bid to professionalize what has so far been a cottage industry. By Thomas Duffell
Throughout the first half of 2015 a number of real estate investment management houses have been investing heavily into the UK’s private rented sector (PRS) as they try to take advantage of a lack of housing supply.
Previously, the sector has been somewhat of a cottage industry largely down to there being very little stock available for large amounts of institutional capital to be put to work. But this is set to change with groups such as Delancey with APG Asset Management, Realstar Group, Legal & General Capital, the principal investment division of UK insurer Legal & General, Patrizia Immobilien, the German-based real estate investment company, LaSalle Investment Management, and Apache Capital Partners, the London and Gulf-based private real estate investment management firm creating their own stock. The list extends beyond far beyond this one, but the rationale remains the same as the sector is to achieve a better match to long-term annuity liabilities than existing fixed-income assets, according to Andrew Stanford, UK residential fund manager at LaSalle Investment Management.
“As a house we feel very positive about residential as an asset class in the UK for a number of reasons. The biggest one is the low correlation and attractive risk-adjusted returns compared to other UK asset classes, like equities, gilts and UK commercial property,” Stanford says. “We also see it as being a good medium of accessing inflation-correlated investment because it is one of the asset classes that most closely relates to inflation when you compare it against retail, office and industrial for example.”
Further fuelling the institutional appetite for UK residential is government intervention. The UK government is investing £1 billion (€1.4 billion; $1.6 billion) in a Build To Rent Fund, which will provide equity finance for purpose-built private rented housing, alongside a £10 billion debt guarantee scheme to support the provision of these new homes. The debt guarantee is designed specifically to attract investment into the private rented sector from fixed-income investors which want a stable, long-term return on investment. Furthermore, it set up a specific PRS taskforce which was led by Stanford.
“There is a widespread view that we have been undersupplying the housing market by about 100,000 homes per year and that is insufficient to satisfy the growing demand,” Stanford relays.
This is leading to large institutions moving up the risk curve and taking on development risk to generate their own stock. L&G for example kick-started a £1 billion program of investment by acquiring a regeneration site in Walthamstow in east London for £25 million in February. The firm plans to develop and rent more than 300 apartments on the site. L&G followed up with an investment in New Bailey in the Salford area of Manchester which was devised and designed by English Cities Fund – a joint venture between Muse Developments, L&G and the Homes and Communities Agency – last month.
“My view is that it’s a misnomer to call it PRS, this is not about the private rented sector,” Bill Hughes, managing director of L&G Property, told PERE. “The private rented sector is a description of the cottage industry that we have had in the UK where people have Buy to Let mortgages on a personal basis. My view on what we are talking about now and what L&G specifically is trying to get into and address is Build to Rent, a whole different thing.”
A key differentiator of the Built to Rent (BTR) product will be the services and amenities available at these sites. Take New Bailey which will also feature a 125,000 square foot office development – currently under construction and due to complete in May 2016 – and a mix of cafes, bars and restaurants, as well as a new public square and an outdoor events space.
New Bailey in the Salford area of Manchester
Hughes says that L&G is building with a purpose-built specification in mind, something that is built for the rental sector and will never be used in the owner occupation world. “BTR in the UK does generally not exist at the moment. We are not interested in buying houses built by house builders because they can’t sell them and then saying they could be rentals. We believe in developing a new sort of purpose-built product for the UK rental sector and that’s what we are interested in and excited by.”
Apache are following a similar path. The firm is set to create a UK private rental sector portfolio valued at £1 billion through a joint venture with UK PRS specialist developer and operator Moda Living to create purpose-built, rentable property. The pair currently have a pipeline of approximately 5,000 units across the UK.
“The strategy with Moda is simple,” says Richard Jackson, co-founder and managing director of Apache. “Acquire prime sites in the largest regional cities to develop the PRS building of choice in each location. That is focusing heavily on high quality amenities, services and specifications. The reason why we are focusing on that is, if you look at the sectors we have already invested in – student accommodation and healthcare – we are actually creating someone’s home. So you have to think about the ultimate occupier and create something people want to live in.”
Apache’s portfolio will be concentrated on regional centres where there is population growth and an undersupply of residential accommodation. The seed asset of the portfolio is the Angel Gardens development in Manchester which includes a 36-story tower, comprising 458 units, gardens and resident amenities. Angel Gardens residents will have exclusive use of all amenities within the building, including resident lounges, a cinema room and business meeting space.
Continuing the theme is Patrizia, which is raising a dedicated fund for the strategy, and made its first foray into the UK sector with the acquisition of the First Street site in Manchester last month. Patrizia acquired the partially-developed site, which includes an 180,000 square foot office building, capacity for the development of up to 1 million square feet of office space and approximately 500 new apartments. A source close to the transaction said the development is expected to be valued at approximately £500 million once it is completed.
And, according to James Muir, managing director of Patrizia UK, “the focus on providing amenities and services with the residential units makes sense when there is nothing nearby. But when PRS opportunities have come through mixed-use or commercial investments with a residential element, the broader place-making may mean services and facilities are already in abundance. A good example of this is First Street in Manchester.”
Other assets recently completed at the First Street site include a 208-bed Melia Innside hotel, nine bar and restaurant units, and 700 carpark spaces. Patrizia will develop offices and residential on the remainder of the site over the next five years to seven years.
Yet, the sector is not only of interest to real estate players looking at building PRS units from scratch. One such group is Kennedy Wilson, the London-listed real estate investor, which has taken a purely opportunistic approach to UK PRS. The firm secured the 294 units at Pioneer Point, in Ilford, east London by buying the debt.
“It was a really complex situation,” says Mary Ricks, president and chief executive of Kennedy Wilson Europe. “We were buying the debt, the previous developer was overspending and had lots of issues with the ownership and within the asset itself. For us, because it was a complex situation on a product we know it worked out really well. In the PRS space in the UK, to the extent something is complicated, and be it debt, development issues or structuring, that is something we would want to be involved in. We won’t be there competing with your PRS institutional investors.”
Grainger, the residential property specialist, is also getting in on purpose-built PRS and has just completed Abbeville Apartments, 100 PRS units in Barking to the east of London. Yet, despite the increased stock that all the above groups are promising, Derek Gorman, managing director for market rented assets at Grainger, says it will still take some time before the UK PRS supply side catches up with demand.
“The real issue we have in the market right now is that there is no established secondary market, trades in that market are difficult because we haven’t got the product to trade and so trying to price product is difficult. You tend to go back to discounts to vacant possession value as if you were to break them up and sell them as individual units.”
But, with a handful of real estate investors aiming billions of pounds at creating an institutional scale UK PRS asset class the sector looks set for a paradigm shift in the near future.
ASSET CLASSES FOCUS | ASIA
Interlink, Hong Kong
PERE takes a site tour of Goodman Group’s Interlink logistics warehouse in Hong Kong to see first-hand the scale of operations and the firm’s plans for its extensive industrial portfolio in the city. By Arshiya Khullar
We have all heard of impressive Asian industrial hubs, but there is no substitute for actually walking one. And so it was that this reporter found herself cruising down the expressway en route to the airport in Hong Kong, where one can find the towering Goodman Interlink logistics warehouse. With its lime green and white exterior, it is a local landmark that can be spotted from afar. Tucked within the industrial and port district on Tsing Yi Island, the 24-story warehouse and distribution centre is spread over a floor area of 2.4 million square feet and is Hong Kong’s fourth largest logistics property.
It also one of the most ambitious development projects undertaken by the Goodman Group, the Sydney-based logistics developer and fund manager, in Hong Kong and China, which together form the second biggest region for the firm globally with close to $5 billion in real estate assets under management.
The scale of Goodman’s operations in the region prompted PERE to take a site tour of Interlink and ATL, the other mega shed owned by the firm (see box), during an interview with Philip Pearce, Goodman’s Hong Kong-based managing director for the Greater China region.
It was early 2008 when the firm acquired the brownfield site for developing Interlink, which earlier served as a marine workshop, via its joint venture partnership with the Macquarie Group. The two firms also operated an open-ended, unlisted real estate vehicle called the Macquarie Goodman Hong Kong Logistics Fund but the site was not acquired via the fund initially given the “higher degree of risk associated with the project than what the fund wanted to undertake,” explained Pearce. The plan was to de-risk and then transfer the project to the fund.
“In terms of the percentage of weightage to one asset, weighting to this asset in terms of the fund’s total assets was above the investment guidelines. If you look at that and also that investors were a little more cautious after the GFC, it was prudent to look for another source of capital. We couldn’t take for granted that fund would want to take that asset,” said Pearce.
Following Goodman’s buyout of Macquarie Capital’s interest in the joint venture for A$200 million (€136 million; $154.64 million) in October 2008, a fresh capital raising exercise for the open-ended vehicle, now called Goodman Hong Kong Logistics Fund (GHLKF), concluded in November, drawing HK$1.6 billion (€181.62 million; $206.38 million) in equity commitments. It was around then that 50 percent of the project was transferred to the fund.
It was also the time when the global financial meltdown was at its peak, making everyone more risk averse. Pearce admitted the challenges, especially since the firm was targeting to secure a prelease for the development project, unlike most other warehouse projects that are undertaken on a speculative basis. At the same time, he added that low construction costs during the slump worked to their advantage.
In 2009, development plans for the project were officially set in motion, with close to 50 percent of the area preleased to two third-party logistic operators, and the firm securing project finance of A$170 million from four banks to fund part of the construction costs. The total cost of the project during the time was estimated to be A$430 million, with plans to deliver a forecast yield on cost of 9 percent, according to a company statement.
The Canadian Pension Plan Investment Board (CPPIB) then went on to acquire a 50 percent interest in the Interlink project in 2011 for HK$2.26 billion, its first direct real estate investment in Hong Kong.
Ever since its completion in 2012, Interlink – the first logistics property of this scale to be developed in Hong Kong in a decade – has gone as per Goodman’s plan. On a busy day, the warehouse sees activity by more than 3,000 container trucks. Each of the 24 floors is mandated to be leased to a single tenant, and at present, all the floors but one are fully leased. Goodman declined to share rental details, but the average per square feet rent of logistics properties in Hong Kong is estimated to be around HK$15, according to a local real estate broker.
“Both investors are extremely happy with the project. For CPPIB, the project has given high-to-mid teen returns on a stabilized basis,” said Pearce. The fund has [also] enjoyed uplift from the original cost, with development profit.”
While it is true that Interlink is only 50 percent owned by the fund, it still comprises a significant percentage of the fund’s total assets. And it isn’t the only one.
In March 2013, Goodman acquired a 25 percent stake in ATL Logistics Centre, the largest logistics building in the world in terms of floor area, for HK$3.5 billion via GHLKF, a landmark deal that further asserted the firm’s regional dominance.
While Pearce agrees that the sheer scale of ATL was one of the reasons why only a quarter share was acquired via the fund in the first place, he isn’t concerned about the overweighting aspect.
He added further: “While the fund has investment guidelines, investors take a top-down approach. They wouldn’t look from a fund’s perspective but from their overall portfolio exposure, and what their exposure to Hong Kong is. What they think of the overall Hong Kong market.”
The fundamentals of Hong Kong’s logistics market have also been in the firm’s favor. With land being scarce, Pearce explained that there has not been much increase in supply over the years, even as demand has continued to increase. Rents have been growing at over 15 percent since the last few years, even though Pearce expects them to eventually drop to normalized levels of around 4 percent, similar to the rental growth in China.
As the fund continues to perform as per expectations, and with ATL now becoming a stabilized asset, Pearce said he would also consider upping Goodman’s interest in the shed, if other shareholders decide to divest their stake.
He is in no hurry to exit Interlink either, adding in passing that if CPPIB were to ever sell its interest, the fund would probably be interested in buying the stake.
“We see it as a long term hold and a key asset in the fund.”
The world’s biggest shed
The ATL Logistics Centre is a 13-storey, over 9 million square foot monolith in the Kwai Tsing Port in Hong Kong. The biggest logistics warehouse in the world in terms of floor area is almost as big as The Venetian Hotel, the sprawling luxury casino and resort hotel in Macau.
Goodman Group acquired a 25 percent interest in the shed in March 2013 from DP World, the Dubai-owned ports company formed as a merger between Dubai Ports International and Dubai Ports Authority in 2005. The Hong Kong-based conglomerate New World Development has a partial stake in the facility as well.
The total traffic that ATL caters to on any given day is equivalent to 22 percent of the traffic of Hong Kong’s Western Harbour Tunnel. More than 14,000 container trucks and private cars work their way through the shed’s ramps daily. With more than 99 percent occupancy, the shed has over 60 tenants ranging from logistic operators to end-users such as the furniture retailer IKEA and the American clothing brand, Abercrombie & Fitch.