There have been moments of nervous tension this year for the real estate market, but one thing is becoming clear: underwriting retail assets is now more possible – if not exactly more straightforward – than at any point in its recent history. Europe’s retail sector today is a landscape where the survivors are increasingly apparent, and it is these assets, and sponsors, that are drawing lenders back.

More debt providers believe if an asset is still performing despite the challenges posed by e-commerce and a global pandemic, then that asset can overcome today’s risks, such as rising inflation and even recession.

“From a risk perspective, what retail has had to go through during the lockdown has thrown a bright light on which assets will make it into the future and those that won’t,” explains Roland Fuchs, head of European real estate finance at manager Allianz Real Estate.

In December, Allianz issued a €466 million loan to refinance 12 long-let prime retail assets in Paris, Brussels and Cannes, its largest issuance in 2021.

Wider market activity suggests similar levels of confidence among other lenders. Other recent retail loans have included £407 million (€480 million) from US private equity firm Apollo Global Management in May for manager LaSalle Investment Management’s purchase of two McArthurGlen-operated UK outlet centres. At the lower end of the scale was £20.5 million of debt from UK lender OakNorth Bank for shopping centre investor Axis Retail Partners’ acquisition of St George’s Shopping Centre in Harrow, London, in January this year.

Lenders remain highly selective in the retail sector, with out-of-town retail parks, high-end outlet centres and prime shopping destinations most popular. But market observers note a change in perception towards the sector from the debt community.

Maud Visschedijk, head of debt and structured finance EMEA at property consultant Cushman & Wakefield, says: “Sentiment with regard to retail is developing in a positive way at the moment. Some parties on both the investor and debt side are using what happened during the pandemic as evidence that the market for retail is nuanced, with some strong assets around – there are opportunities.

“But lenders’ rationale also is that retail is not as aggressively priced as logistics and residential. The value of prime property in other assets classes means yields can be so tight that any interest movement really affects the returns. In retail, however, there is more leeway.”

“Sentiment with regard to retail is developing in a positive way at the moment”

Maud Visschedijk,
Cushman & Wakefield

Appetite to lend is returning despite the worsening economic outlook. In May, the Bank of England forecast that Britain’s households would suffer the biggest squeeze on incomes since 1964 as global gas prices surged and inflation reached 9 percent in April. On the continent, the picture is almost as dreary, with headline inflation having reached 8.1 percent the same month.

But real estate metrics indicated buyer confidence, despite the economic backdrop. Property investment manager AEW predicts prime shopping returns will be just below 6 percent per annum over the next five years due to the high entry yields – second only to prime logistics investment returns of slightly above 6 percent. Retail companies report rent collection rates are up and the first declines in vacancy rates since covid-19; retail park investors say performance has been so strong during covid-19 that loan-to-values are creeping up.

Visschedijk explains that current debt yields on retail allow lenders more headroom when compared with other sectors. “If you take into account an extra 10 percent ERV [estimated rental value] drop down, then the debt yield covenant still stands. Not all lenders are open for retail, but we see more and more lenders looking at the sector again.”

The market is not just seeking luxury retail, either, says Visschedijk, who has seen investors managing to raise equity to buy high street retail and single shops in recent months.

Allianz is even looking to fund development, issuing a €127 million green development loan in November 2021 to French group Apsys for the construction of what it terms a “future fit and state of the art” retail and lifestyle centre in Grenoble, south-western France. The company will consider similar deals as part of the €1 billion it has allocated to refurbishment and ground-up development, as it seeks to fund assets that are both environmentally sustainable and resilient to downsides in consumer trends.

“Retailers and retail landlords everywhere – except in Sweden – have had to tackle a lockdown,” says Fuchs. “Retailers have had to re-think their strategies. The best retail landlords have used the downtime to invest in their centres and worked with tenants to reconfigure rents. This wasn’t a lost period for us either; it showed us that the share of fashion retail is declining, while restaurants and leisure are increasing their share of space.”

Fuchs adds that the last six to 12 months have enabled the lender to analyse performance data in the retail segment. Footfall figures, sales data and sales density figures reveal the strongest assets, he says. “Amid all of this we can see who is fit for the future.”

London-based alternative lender Octopus Real Estate, which has lent £5.7 billion on UK commercial property in the UK since 2013, is also looking at the retail sector once again. Ludo Mackenzie, its head of commercial lending, says that while too much retail floorspace remains empty, harder economic times could actually drive consumers away from e-tailing and into bricks-and-mortar stores.

“There is a whole segment of society for whom internet shopping is a luxury, with the associated delivery costs and membership fees. For many people the cheapest way to shop is to go to the high street and seek out the best offers. If the UK goes into recession, I would expect to see more people looking for everyday items on the high street.”
Octopus is also interested in retail assets that are surrounded by “chimney pots” because these assets thrive off local trade and people walk to shops rather than drive.

Targeting greater transparency

There has been movement at the distressed end of the market, too. UK firm Ellandi, which invests in and manages regional retail-led assets, paid a nine-figure sum in consortium with investment firms Attestor Capital and Octane Capital Partners for a portfolio of non-performing retail loans in September 2021. The loans were secured by 15 UK shopping centres, with a face value of £375 million, sold by UK bank NatWest. It was the first significant UK NPL sale in the wake of the pandemic and pitched pricing for where other similarly distressed properties should be.

Selina Dicker, director, head of debt at Ellandi, says the company is now seeking other opportunities on assets where it is convinced of “sustainable income”. “The retail market is probably at the bottom in terms of values, there is some stability and yields are getting stronger,” says Dicker. “Banks might start to get interested again but a lot of assets remain over-rented and so it is crucial when appraising retail opportunities that a lender fully understands whether the income of that asset will be sustainable.”

However, Dicker, a former banker with Lloyds, says that while retail pricing is more clarified, stress testing an asset requires a greater amount of data and information than ever before. “Shopping centres used to be a straightforward asset class to lend [against]: tenants were on much longer-term leases and banks didn’t fully understand the void costs. But void costs can be significant.”

Ellandi, which oversees almost 2,000 occupiers of UK high streets, shopping centres and retail parks, is expanding its data and research capacities to support its investment and asset management teams. As part of that, it has what Dicker terms “geo-fenced” its retail portfolio in order to better educate lenders over what a tenant should be paying.

Geo-fencing is where parameters are set around an area (or asset) to retrieve mobile data points from within that area about visitor movements and their catchment. “If a tenant is on a turnover lease, you know what money they’re making and what they can pay. But other types of lease don’t offer that transparency,” says Dicker.

“From a risk perspective, what retail has had to go through during the lockdown has thrown a bright light on which assets will make it into the future and those that won’t”

Roland Fuchs
Allianz Real Estate

In order to help would-be lenders understand what tenants should be paying, data and technology are helping create greater transparency – providing the information that valuation reports do not. Ellandi is working with lenders to help them better understand turnover, types of footfall, leasing data and other operational factors. “Five years ago, a bank wouldn’t have had anywhere near the type of information that is available now and this meant that they were much more removed from the operational nature of the asset,” says Dicker.

Term sheets are also being armed with new items to acknowledge that operational costs are a crucial factor that must be understood alongside rents. For Allianz, visibility over energy consumption is paramount. “Energy costs are coming [into term sheets] more and more. In the past, the debt was built around ICRs [interest coverage ratios] or LTVs, but energy performance nowadays is something lenders and borrowers are thinking about,” says Fuchs.

These clauses – which require landlords to measure operational costs, reduce expenditure, and make buildings greener – are not yet inserted into loan deals as default covenant triggers. But they are being included as incentivising covenants.

“This is new; this is something we are seeing in the past year, and it is becoming a standard that is increasingly embodied into loan documentation in order to encourage both sponsors and tenants to get more efficient, digital and greener,” Fuchs explains.

Retail investors that are investing in sustainable assets are also finding that debt capital is potentially cheaper. Mitiska REIM, which specialises in European convenience real estate, refinanced the Malinas retail park in Belgium in May with a €58 million green investment loan from Belgium’s KBC Bank.

The BREEAM ‘Excellent’, CO2 neutral development is now part of a growing number of assets in its portfolio that are funded by such a debt structure. Bert Heyman, chief financial officer at Mitiska REIM, says that a quarter of its debt portfolio is now green, but the firm is working on expanding that across the 10 European markets in which it operates.

“Going forward I expect that non-green loan funding will be more expensive that green funding,” says Heyman. “Green loans may come with additional constraints. However, once our portfolio exceeds certain thresholds set out by the loan, our margins are lowered.”

Heyman expects that the cost of capital could reduce by 25-50 basis points compared to non-green loans, a fact that is attractive in a higher interest rate environment.

Mitiska REIM was accessing debt finance during the pandemic; Heyman says one shift since the end of that crisis has been that banks are increasingly interested in lending against retail assets where sponsors are able to focus on sustainability improvements as part of the investment case.

“There are a lot of private owners around that have not paid attention in terms of sustainability performance, and their assets are fast becoming obsolete, creating opportunities for investors like us that are paying a lot of attention to sustainability because this will [provide] us better access to capital,” he adds.

Fuchs agrees that capital for sustainability-focused renovations will be the “name of the game” in the retail lending market in years to come. Retail’s transformation may not be fully complete, but lenders and borrowers are better prepared than ever.

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