South Africa’s affordable view

Rob Wesselo, managing partner of International Housing Solutions (IHS) is forecasting the imminent birth of the listed rental housing sector in South Africa giving his firm a wider pool of exit options for its debut fund and incoming successor fund.

caught up with Rob Wesselo, managing partner of International Housing Solutions (IHS), in the week that the Johannesburg-based firm announced it had invested more than R1 billion into the country’s affordable housing market.

IHS’ debut fund, the R1.9 billion (€175.7 million; $242 million) South African Workforce Housing Fund, was launched in 2007. Can you tell our readers a little about it and how has it fared since then?
Rob Wesselo: We’ve got seven major institutional investors – four from North America and three local investors. We finished the capital raising for the fund, and we’re getting through the investment phase now. This fund is a 10-year fund that started in 2007, which probably was not a good year to be born. Notwithstanding the fact we’ve been through some tough times, we’re actually pretty happy with the way things have gone.

We’ve been quite fortunate that sales are going fairly well.  On two joint ventures in Soweto, for example, we’ve sold in excess of 2,000 units this year. We also have a student accommodation development in the free-state of Bloemfontein, for which we sold 170 units this year. We’ve found there is still demand for sales in pockets.

In addition, we have decided to strategically take advantage of a bad market from the point of view of distress at some of the banks. Some of the developers have owned land and not wanted to go to market trying to sell developments. As a result, we’ve done some good buying on a turn-key basis, where the fund has brought blocks of apartments and townhouses at quite deep discounts.

PERE: What sort of discounts?
RW: We have found deals at 15 percent to 20 percent off market pricing. It’s actually been worthwhile for developers to do these deals because they’re getting out of their land positions and are keeping their teams busy in a slow market. In the affordable space, where people are struggling to get financing to buy properties, we’ve seen double-digit rental growth. We really don’t struggle at all to fill these buildings.

PERE: How does that compare to the higher-end residential in South Africa?
RW: The rental market at the top end is not great from a return point of view. Obviously, the bottom line is that 90 percent of our population require housing in the affordable space and there isn’t enough supply. It’s a big focus of our fund to change that and it makes commercial sense. As soon as you’re out of that band, you tend to struggle.

PERE: So can luxury housing in South Africa be a private equity play at all?
RW: It might be a private equity play if structured slightly different. If you go into the second homes market, you’re going to make your return not from rental yield but from capital growth. If you’re going into areas like Plettenberg Bay and Port Alfred, you’re probably buying properties at 40 percent or 50 percent off their market value. If you have a fund that can acquire those opportunities and can hold them for five to seven years, which is normal in a private equity environment, you can make something out of it. That is not the focus of our fund, but I do reckon there’s an opportunity there.

PERE: Let’s talk about exiting investments. What are you seeing as viable exit options for your fund?
RW: If we had focused on a different end of the market, we would have seen real problems. But even with a tough environment, we’ve seen demand in our area. For our rental portfolio, which we have been building up over the last couple of years, we believe we will do very well selling out of that in four to five years time.

I also think there’s going to be residential listings coming up. It’s the missing link in the real estate space at the moment. We’re not going to do it, but there’s a head of steam building up and I’m aware of two or three efforts going on at the moment. I think at least one of them will be successful.

When you start seeing more residential rental accommodation in the listed space I think that will really impact the market. What that does is bring new capital into the market, whether it is other institutions that are used to investing in the listed market or new private money. We’ve seen that already have a really significant impact on South Africa’s commercial property market over the last 10 years.

PERE: I suppose you see this area as a potential exit for your fund?
RW: It’s one of our potential exits, although we didn’t model it in at the time. We modelled a couple of the properties as investment sales, in other words on a yield basis. But when you have a really good portfolio with a great track record and you can show a history of vacancy in arrears, it’s the kind of thing that would look pretty good to an investment fund.

PERE: What is the plan for IHS’ second fund?
RW: We’ve been planning informally at this stage, but we’re hoping to get our first closing in the second quarter of next year. We did well raising the capital for the first fund with little initial infrastructure, but we have now built up a very good team with a lot of experience in this market. We’ve analysed more than 400 deals over the last four years and have approved just 25 of those. That’s a significant amount of market knowledge and expertise, which is something we never had in the first fund. We also have existing investors, most of which have indicated they’d like to be in a second fund.

Furthermore, we have a broader base to look at. Many investors from South Africa and North America have looked at our portfolios, have ‘kicked the tires’ and liked what they saw. On Sunday, I took a group of investors out to some of our sites. We were able to show them a track record, which we couldn’t do the first time around.

In the eyes of investors, I think Africa is a different place to what it was back in 2006. Then, we were hearing ‘we’re not really ready for Africa.’ Now, we believe we’re in a better place and will be able to raise a bigger fund this time around.

We don’t want to go massively bigger in order to keep it manageable for the market that we’re serving,  but we think we can do about 50 percent more [capital raising] than we did in the first fund. We certainly have much stronger relationships with the market, and we’ve created a nice little environment in the right space.