CEE sees near record investment activity

The real estate market in Poland and the rest of Central and Eastern Europe is booming, with developers seeing handsome returns on their investment. What lies ahead in the sector over the quarters to come?

The wide range of new international investors going into central and eastern European markets continues to broaden. According to Sean Doyle, head of capital markets in charge of Poland at international consultancy CBRE: “The big story of the last 18 months is the impact of South African capital, which accounted for about 40 percent of the entire region’s investment volumes. [South African investor] Redefine backed the largest acquisition of last year with the purchase of shares in Echo Investment. Investors Rockcastle and Prime Capital really established South Africa as the prime buyers of retail.”

Meanwhile, Adrian Karczewicz, head of divestments for CEE at Skanska Commercial Development Europe, says: “New capital flow to CEE is a trend that is gaining more popularity among international investment funds from western Europe and the US, but also from South Africa, Asia – in particular Singapore, Malaysia and South Korea – and the Middle East.”

Focus on Poland

Poland is the main attraction for international investors. Following an exceptional 2015 – during which EUR 4.1 bln was invested – enthusiasm carried on throughout last year, when EUR 4.5 bln changed hands. It was the second best ever annual total in the country, says property consultancy JLL. Buyers put almost EUR 2 bln into retail real estate, spent EUR 1.8 mln on offices and EUR 769 mln on warehousing and logistics.

Investors encompassed all strategy profiles, from core through opportunistic across all sectors, and included deals ranging from small to large, plus complex platform transactions. Swedish property company Skanska sold assets to two investors who made their Polish market debut last year. The firm disposed of the Atrium 2 prime office project in Warsaw city centre to Germany’s HANSAINVEST for EUR 88 mln, reflecting a 5.4 percent yield. And the company’s first hotel sale in Poland attracted a Qatari investor, Al Sraiya Holding Group, who acquired the 361-room Westin Hotel in Warsaw for EUR 56m.

Shopping for retail

Other headline deals last year were in the retail sector, with four shopping centre acquisitions by South African investor Rockcastle, including Bonarka City Centre in Kraków for EUR 361 mln, the Focus Mall Portfolio (centres in Żielona Góra and Piotrków Trybunalski) for EUR 161 mln and Galeria Warmińska in Olsztyn for EUR 150 mln. In addition, new South African entrant Prime Kapital acquired Nova Park shopping centre in Gorzów Wielkopolski for EUR 88.5 mln. Prime retail yields stand at five percent. In 2016, South African investors transacted EUR 1.451 bln in Poland, equating to almost 75 percent of the sector’s entire volume, according to JLL. Investor interest and pipeline retail transactions for 2017 look promising, with volume potentially exceeding that of 2016, and prime yields will be reaffirmed. The total for Warsaw office transactions last year reached EUR 1.146 bln. A new prime yield was established at 5.25 percent when Warburg-HIH Invest Real Estate bought Prime Corporate Center from GolubGetHouse. Other deals include Invesco Real Estate’s purchase of Q22 from Echo Investment for EUR 273 mln at a yield of 5.35 percent.

In addition, Malaysian capital entered the Warsaw office market with EPF, via Savills Investment Management (SIM), acquiring Gdański Business Center (A&B) from CEE developer HB Reavis for EUR 186 mln. Buyer interest in Polish retail real estate is so high that Meyer Bergman recently placed Galeria Katowicka, the 47,500 sqm shopping centre in Katowice, on the market at EUR 280 mln, but in February increased the guide price to “well in excess of EUR 300 mln,” says Peter Evans, vice president at the London-based fund manager.

Underlining the strength of Poland’s real estate, Piotr Mirowski, operations and team manager for CEE at Colliers International, says: “The vast majority of assets put on the market last year sold, proving the tremendous demand from international investors for quality product in Poland.”

There have also been plenty of corporate platform deals too, showing the diversity of capital that is coming to Poland. Singapore sovereign wealth fund GIC bought P3 Logistics Parks for EUR 2.4 bln in Europe’s largest real-estate deal last year, from TPG Real Estate and Ivanhoé Cambridge.

Tomasz Trzósło, JLL managing director for Poland, comments: “P3 has a substantial allocation to Poland of EUR 285 mln and GIC also took over the team with plans to expand it in CEE.”

The largest platform transaction was the agreement between Warsaw-based Echo Investment for South African-listed Redefine Properties to acquire 75 percent of shares in Echo Polska Properties’ EUR 1.2 bln commercial portfolio. The company is managed by Griffin Real Estate. Trzósło explains that despite some real estate investors feeling nervous about Poland as the new government last year announced hurried new taxes, this concern has dissipated. “Since that time last year we’ve had historically high figures for office leasing – the second-best volumes ever behind 2006.”

Redefine negotiated, agreed, and closed the deal after the government changed, so the incoming investor was fully aware of a degree of uncertainty and negative press surrounding government plans. “Investors and developers are more watchful in general due to the element of populism in the government,” says Trzósło. “But they are practical about it: demand is there, retail spending continues to grow, the residential sector is growing, while the business and shared services sectors are still good, creating fresh demand for office space. There is a very positive sentiment.”

A GDP growth of 2.7 percent is projected for Poland this year which should underpin occupier demand for property, but Colliers International sounds a note of caution for the Warsaw office market, and predicts that 900,000 sqm of new offices will be delivered this year, leading to downward pressure on base and effective rents in all markets where there is strong construction activity. Prime Warsaw yields are predicted to move to five percent with transactions currently in due diligence.

Paweł Dębowski, chairman of the European real estate group at Warsaw law firm Dentons, is optimistic about the capital’s occupational market, for this year at least: “Net absorption of CBD offices in Warsaw last year was 300,000 sqm, which is quite good. I think this year will be similar and there is only 50,000 sqm of new space in CBD Warsaw coming to market. I think the problems would start next year if everybody builds what they say they will, which is hundreds of thousands of square metres.” The fringe office area of Mokotów could be hit next year by low rents and tenants opting to take available space in the CBD, says Dębowski.

Deutsche Asset Management head of European alternatives strategy, Matthias Naumann, says of Warsaw offices: “We expected demand to go up two and a half years ago when we bought there. While there has been strong demand, we think that the supply will take longer to be absorbed – another two years for the supply to fade. So rents were hit maybe more than we thought outside prime areas, but we own all sorts of assets in different sub markets and so have a good view of what is working. This knowledge should create more chances for us to go back into the market over the next 12 to 18 months and to optimise our portfolio, targeting assets with very low effective rents with chances for future rental growth.”

Deutsche acquired the 70,000 sqm Rondo One and the 38,000 sqm Metropolitan office complexes in Warsaw in 2014. Naumann adds: “We represent mainly German institutional investors but also all sorts of international ones in our core funds. Our US and Asian clients understand that Poland is the gateway to central Europe. We also note that in the last 24 months a rising number of Asian investors are looking at Warsaw and this will grow even further over the next two or three years as yield spreads have widened compared to most other western European markets.”

“Polish lending is not as shiny as the rest of the real estate market and margins might be on the rise.”

Some lenders remain cautious about Warsaw offices. Martin Erbe, head of international real estate finance for northern and central Europe at Helaba, says: “The sector could be a tough challenge for banks because of the planning pipeline of 100,000 sqm of space, especially as development is financed more by local and not so much the international banks.” Erbe underlines that the unpredictable Polish government is an issue for banks as well as developers. “We all prefer a stable environment and with all the proposed new taxes – although all might not come – Polish lending is not as shiny as the rest of the real estate market and margins might be on the rise.” Meanwhile, Dębowski points to the constant investor demand for secondary city offices, focused on long-term leases within the shared services industry. This segment is very active in Wrocław, Kraków, Katowice, Łódź, and Gdańsk, which have a strong university-educated worker base. Companies like Credit Suisse and State Street Bank are taking, or have taken, extra space for expansion in Poland. Yields for logistics assets with long leases are very close to office levels, says Dębowski. “Even though rents have not gone up for years, the size of the market attracts buyers interested in long term income secured by a high-quality tenant. Colliers calculates that more than 1.51 mln sqm of industrial space is under construction, of which around 75 percent is already leased. Demand for Polish retail space will be similar to last year, and 400,000 sqm of new shopping centre floorspace will come onto the market.

Poland is by no means the only thriving market as the yield gap between CEE and western European commercial real estate is expected to narrow further this year across all countries and sectors. According to Skanska’s Karczewicz: “The 100-150 bps prime yield spread between western and eastern Europe acts in favour of the CEE markets. Prime office yields ranged between five percent in Prague and Warsaw to 7.5 percent in Polish cities and Bucharest. It’s no wonder then that CEE locations are attracting an increasing number of global players who seek both profitability and diversification of their asset portfolio.” Presently, international investors are highly focused on taking advantage of the region’s healthy occupational leasing markets and increasing their exposure to the region before prices rise further. Tom Leahy, director of market analysis for EMEA at Real Capital Analytics, said: “The demand for the region is clearly an occupier-led story. Some of the income returns you can get on real estate outside the core western markets are very attractive.” Sources of funds from outside Europe are a major boost to the region, and last year amounted to around 30 percent of the market, adds Leahy.

“Some political uncertainty…has caused temporary nervousness among the investment community.”

Some political uncertainty – with the change of government in Poland last year, the anti-corruption demonstrations in Romania, past worries about the Hungarian government’s policies – has caused temporary nervousness among the investment community.

But set against this, the fundamentals are secure with future economic growth for the whole region forecast to be strong. According to Invesco Real Estate, GDP growth in Poland will be three percent in each of the next five years, 2.5 percent in Czech Republic, 2.4 percent next year in Hungary, and in Romania 4.2 percent growth is expected – the strongest level since 2008 – and in the coming years, rises of 3.4-3.6 percent. Last year Romania was the EU’s top performer with an estimated GDP growth of 4.8 percent and the country saw EUR 4.1 bln of foreign direct investment – the highest volume since its 2008 peak. “Such a strong economy will certainly boost the office market here, where the business services sector is already strong. Last year 265 SSC, BPO, IT, and R&D centres located in Romania, hiring 109,000 people,” says Karczewicz.

Real Capital Analytics’ Leahy adds: “Some US and French capital has been going to Romania this year, it’s definitely on the overseas investor radar. Purchases are very much dictated by the deals that are out there in the CEE region. For example, international investors can get their hands on a luxury hotel in Prague for a third or quarter of the price of London or Paris.” Leahy also points to the possibility of Brexit adding to the demand for the region’s shared office sector by banks moving some mid-office type roles from London to Warsaw or Prague, given the well-educated workforce and less expensive rents and salaries. Investors have understood that the CEE region is a very large and diverse set of property markets, says James Chapman, head of the region’s capital markets at Cushman & Wakefield: “Different groups of global investors have come up with a wide range of differing strategies; some target regional retail in Poland, while others are active in Serbia and Croatia.”

Bank lending for investors is relatively plentiful. According to London-based, US-backed fund manager Europa Properties’ principal head of central Europe, Robert Martin: “There is quite a lot available for investment finance today, although loan-to-value ratios remain quite low in the sixties, and margins are fairly high. On the development side there is finance available but lenders want a lot of risk mitigated in terms of planning and leasing and it is quite difficult to obtain funding for speculative projects. It is possible, but we have struggled with that,” says Martin. “Warsaw and Poland’s big regional cities is where people like to be lending. In Prague, a lot of banks are available to fund and in Budapest banks seem to be lending quite heavily.” He comments that there is a proliferation of local money these days and investors do not always need the banks.

Czech Republic remains a big draw for buyers and investment volumes in the country’s real estate last year totalled more than EUR 3.6 bln – the highest ever level and a 36 percent increase compared to 2015. Significant transactions included Germany’s Deka buying Prague office asset The Park for EUR 360 mln from Starwood Capital Group, while Florentinum was bought by CEFC for EUR 280 mln from Penta Investments. This was the first major office acquisition by a Chinese investor in the Czech Republic. Last year, Hungary’s annual volume was EUR 1.7 bln, the highest volume since the market peak of 2007. Offices took a 47 percent share, followed by retail with 28 percent, industrial and hotels totalled 15 percent. The country’s biggest single office deal ever was the sale of Millennium City Centre office complex in Budapest by Heitman/TriGranit to German firm CA Immo for EUR 175 mln. Romania’s largest transaction was the acquisition of 26.88 percent of Globalworth, the country’s biggest office landlord, by South African group Growthpoint for EUR 186 mln. Another South African buyer, NEPI, acquired Sibiu Shopping City from ARGO for EUR 100 mln, the largest single asset deal outside of Bucharest since the economic crisis.

CEE’s smaller countries are also proving attractive to international buyers. South African REIT NEPI made its first foray into Croatia, with the largest single asset transaction in the SEE region, buying the country’s biggest shopping centre Arena Centarin Zagreb for EUR 237.5 mln

In Bulgaria, Arco Real Property Holdings, a joint venture between Arco Capital and Deutsche Asset Management’s DB Private Equity and Private Markets group, this month (February) announced plans to expand Business Park Sofia with a new EUR 30 mln building.

The future for the CEE real estate market looks bright. And for new investor opportunities, Chapman is tipping the private rented residential sector to take off over the next two or three years.

David Sands has been writing about European commercial real estate for over 20 years for UK magazine Estates Gazette, where he was news editor, and most recently for EuroProperty as deputy editor. During 1994 to 1996 he had a weekly half-hour slot on LBC Radio commentating on the London commercial real estate market. He is based in London.

 

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