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Cromwell achieves new highs results in Global Real Estate ESG Assessment

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November 28, 2023

Cromwell achieves new highs results in Global Real Estate ESG Assessment

Real estate investor and fund manager Cromwell Property Group (ASX:CMW) (Cromwell) has delivered record high company benchmarks in the annual Global Real Estate Sustainability Benchmark (GRESB) global rankings.

GRESB is an independent organisation that provides validated ESG performance data and peer benchmarks for investors and managers to improve business intelligence, industry engagement, and strategic decision-making.

The 2023 GRESB ESG Benchmark has become increasingly competitive, growing to cover more than USD$ 8.8 trillion of gross asset value across 2,084 real estate entities. GRESB data is utilised as an investment decision-making tool by over 170 institutional investors with more than US$51 trillion AUM.

Group Head of ESG, Lara Young, said Cromwell Property Group our longstanding participation in the assessment is a good opportunity for the organisation to demonstrate its ongoing commitment to enhance its ESG performance and test itself against the worldwide market.

Participation in GRESB is Cromwell’s opportunity to measure our ESG performance against our peers, and this year’s efforts have not disappointed.
Lara Young – Group Head of ESG, Cromwell Property Group

“Participation in GRESB is Cromwell’s opportunity to measure our ESG performance against our peers, and this year’s efforts have not disappointed.” said Ms. Young.

  • The Singapore-based Cromwell European Real Estate Investment Trust (CEREIT) achieved a record-high overall score of 85 points in the 2023 GRESB Real Estate Assessment, with full marks for social and governance aspects. CEREIT was awarded a four-star rating – up from a three-star rating last year – and achieved a public disclosure score of a perfect 100, placing first out of its five peers.
  • The Cromwell Diversified Property Trust (DPT) maintained its score of 87 points, ranking 28th out of 41 participating listed Australian office portfolios and achieving 95 out of 100 (A Grade) for public disclosure. With Australia’s real estate sector leading the world in sustainability, ranking first in GRESB for the last 12 consecutive years, DPT has consistently performed well against the hyper-competitive local market.
  • Cromwell Polish Retail Fund (CPRF) achieved a five-star rating and a record-high overall score of 90 points, ranking 11th out of 32 European retail non-listed peer funds and 17th out of 87 in the European Retail category.

 

“Not only have we exceeded our previous overall scores, but for all three disclosing portfolios -CEREIT, CPRF, and Cromwell’s investment portfolio, DPT – we have increased our scores across all categories, placing them well above global and industry peer averages,” said Ms. Young.

“These results would not be possible without a huge team effort and collaboration from our investors, tenants, supply chain partners, and the broader Cromwell team, and we would once again like to share our thanks to everyone involved.”

Cromwell will publish its FY23 ESG report in early December 2023.

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Annual results for Financial Year ended 30 June 2023

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31/08/2023

Cromwell Property Group (ASX:CMW) (Cromwell), today announces its results for the full year ending 30 June 2023 (FY23).

Overview

  • Statutory loss of $443.8 million (FY22 $263.2 million profit), driven by a decline in property valuations of $491.6 million;
  • Operating profit of $158.6 million (FY22 $201.0 million), equivalent to 6.06 cents per security;
  • On a like-for-like basis, excluding asset sales, Net Operating Income of the Australian Investment Portfolio grew by 3.9%;
  • FY23 distributions of 5.5 cents per security, for a payout ratio on operating profit of 90.8%;
  • Net Tangible Assets of $0.84 (FY22 $1.04), with gearing at 42.6% (FY22 39.6%);
  • Total assets under management of $11.5 billion (FY22 $12 billion);
  • Funds managed in Europe grew to $5.5 billion as mandates deployed through asset acquisitions; and
  • Investment portfolio occupancy of 94.6%, with a WALE of 5.3 years.

Execution on strategic objectives to position business for growth

Cromwell Chair Dr Gary Weiss commented: “While FY23 was another challenging year for Cromwell, a number of strategic milestones were progressed. During FY23, the Group continued to dispose of non-core assets, with $505 million in asset sales having been completed since December 2021. This has resulted in debt reduction of more than $319 million during the year. A reduction in gearing remains a key priority, through the potential exit of the Cromwell Polish Retail Fund portfolio and the completion of the final stage of our non-core asset sales,” he said. “We have also looked to grow our funds management platform through the proposed $1.1 billion transaction between Cromwell Direct Property Fund and the Australian Unity Diversified Property Fund”.

“The ongoing simplification of the Group has laid the foundations from which to grow the business. Management is well positioned to identify value accretive opportunities to recycle capital, launch new products, and build on partnerships to grow the funds management platform, which will lead to long-term returns for securityholders.

Outlook

Commenting on the outlook, Cromwell CEO Jonathan Callaghan said: “We remain fully committed to our strategy. We have a clear focus on simplification of the Group structure, growing our funds management platform through transactions like that proposed with Australian Unity Diversified Property Fund, reducing gearing and interest costs, strengthening our investment portfolio through active management and leasing initiatives and delivering on our ongoing commitment to ESG.

“We will continue to take a measured approach to capital recycling to drive value accretive growth as opportunities arise. Our transition to a capital light funds management model remains a priority when capital markets are more conducive,” he said.

To view the FY23 Results Presentation, click here.

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March 21, 2023

In conversation with… Daniel Dickens

Daniel Dickens has been Cromwell’s Chief Technology Officer for more than seven years, but has had an association with our business for more than two decades.

Daniel relies on his extensive experience to help the company navigate the fast-paced world of information technology and understand the risks, challenges, and opportunities that come with operating in a hyper inter-connected world.

Daniel Dickens Chief Technology Officer Information Technology

 

1. Can you walk us through your role at Cromwell, Daniel? What are some of the key responsibilities you take on daily?

I’m the Chief Technology Officer and, though I’m based here in Australia, the remit is across the European and Singapore platforms as well. I am largely responsible for building and implementing our technology capability and IT roadmap, as well as looking at governance to support our current and future infrastructure.

Cybersecurity obviously is a large part of my role – I’d suggest that as much as 25% of my time is spent on cybersecurity initiatives, presentations, and considerations. Of course, many of our governance frameworks that relate to selecting, evaluating, or protecting technology links back to cybersecurity anyway.

It’s a very risk-based approach – we have risks that are managed at a corporate level, but we also need to embed risk assessments into every platform that we consider for implementation – as well as for all the change initiatives we undertake.

So, if there is an upgrade, or if there is some functional change that we are making to our environment, we need to consider all the risks involved.

 

2. Looking back, how did your career in information technology begin?

My father had an IT consulting company, so I was always around computers as a kid. I played a lot of computer games, and I went into a technology degree following school.

After pursing another passion for a short while, I then came back to the industry working with customer relationship management systems (CRM) systems, and spent a lot of time working with manufacturing systems and in investor relations systems.

My first engagement with Cromwell was nearly 20 years ago, and I was designing and implementing an investor management system with Richard Foster, one of Cromwell’s founders. Richard and I would build these big A3 investor reports using a platform called Goldmine – which was Cromwell’s first investor relations platform.

I think I certainly have an aptitude for work in IT – I’m very good at putting things in boxes; I have a lot of skills in developing methodology and proceduralising tasks, and I have a strong technical background, which has been helpful.

 

3. How does technology factor into the decision-making processes at Cromwell?

Cromwell sets out an annual business strategy – and we, as a technology function, look at the strategy and how it aligns with our roadmap. For instance, if the business wants to increase funds under management, we review our current platforms and capability to examine what we can do to support that goal.

So, when we look at technology factoring into decision-making processes, data obviously plays a large role in everything that we do. Much of the data we hold is stored on platforms that the technology department is largely responsible for – in conjunction with marketing or finance (for example) or whichever team owns the information. We help oversee the security of that information, and the consistency of that information, and help business stakeholders implement governance to manage the information effectively.

A lot of the decisions that we undertake from a business perspective are around streamlining, including questions like, “can we utilise technology to generate efficiencies in the business?” And, you know, a good percentage of the effort that we apply is in trying to identify, and then achieve those efficiencies – and we often succeed.

 

4. There have been some very public privacy/data breaches in some very large organisations recently, how does Cromwell manage risk and protect our business – and our investors? How do we minimise the chance of these kinds of hacks happening to us at present?

So, I guess the first question that comes up is, “what is the sensitivity of the information that we’re protecting?”. The most sensitive data we hold is information relating to our investors, so it’s essential we have robust protections in place.

When we look at things from a cybersecurity perspective, we’re looking at four key risk areas: integrity, accessibility, unauthorised access, and unauthorised disclosure. We look at the integrity of the information to make sure that it’s not corrupted, that it’s regularly backed up, and ensuring we have enough controls to protect against deliberate or accidental actions that may compromise files or important data.

We also need to look at accessibility of data– that is, “how can we ensure staff and stakeholders can access the information they need, when they need it?” So, we have systems and interfaces that are dependent on the latest cloud technologies to ensure our staff can securely access the data they need to run the business.

We also ensure that none of the data resides in a specific single location (such as a building’s server room) – we always have data distributed geographically to ensure we can maintain access in the unlikely event of business interruption.

Just as important as accessibility, is our need protect our data from unauthorised access. The two highest profile attacks from last year (Optus and Medibank) both resulted in unauthorised access of information, followed by unauthorised disclosure of that same data. Clearly, these breaches caused significant damage to both company reputation, as well as inconvenience and risk within people’s lives. Cromwell maintains a robust landscape of measures to ensure that the only people who access our data, are those authorised to do so. These measures include tools to confirm a users’ identity (such as multi-factor authentication) as well as tools and procedures to confirm suitable access levels.

We also have a very highly regulated information security management system, ISMS.

This is the basis of our ISO 27001 certification. Every year for the past four years, we have gone through ISO 27001 certification – where an independent auditor reviews and tests our information security management system. They also make recommendations as to where improvements can be made. We have a second external organisation to help us prepare for these audits, so that we can pre-empt issues that may occur. So, we have both internal and external audit functions in that space.

In the unlikely event we experience some kind of breach, we have a cybersecurity incident response plan that is tested every year. These tests involve a wide array of stakeholders from across the business, to ensure we are all aligned to respond to any kind of cyber breach or attack. While we believe our cyber-response capabilities are strong, we are always looking for ways to enhance the way we work, and these tests often highlight opportunities for improvement. We also have a range of vendors that we engage to support us in the unlikely event of a cyber incident.

I think in 10 years we’ll all have VR headsets to speak on team calls. We’ll be sitting on a laptop, but it’ll probably be more like a virtual reality-based exercise.
Daniel Dickens – Chief Technology Officer, Information Technology

5. What are some changes or shifting attitudes/trends/practices that you currently see playing out in the corporate IT space, particularly around cybersecurity?

I think there’s been a lot of activity in the proptech space. Proptech is the application of technology to help optimise the way people buy, sell, research, market, experience, and manage real estate. At Cromwell, we have a proptech working group that involves participants from both Europe and Australia. My primary interest is focused on governance of our proptech initiatives.

For example, let’s imagine we decide to implement a theoretical occupant management system – a system (with associated mobile app) to allow building occupants to order coffee or lunch to their desk; get their dry cleaning picked up and delivered; turn the building lights on and off; or possibly report safety incidents, etc.

Before beginning such an implementation, we’d need to make sure that we understand the requirements and resources necessary to make the implementation successful.

In the event we start deploying the system and realise we have underestimated the resources required to be successful, the damage could be profound – and could severely impact any future technology activation. So, part of our governance is to ensure we fully understand what that implementation looks like before we take the first steps. Sometimes it can just be a matter of managing people’s expectations and enthusiasm.

 

6. What opportunities in the IT space excite you, and how do you think Cromwell’s use of technology overall could be developed moving forward?

There seems to be a shift towards presence-based interactions and immersive VR experiences. This is the progression of technology so that, rather than just sitting on a video call and looking at a laptop screen, attendees of a meeting from across the world can all experience sitting in an interactive, immersive virtual reality office space. We know big tech vendors such as Microsoft and Meta are spending huge amounts of money on research and development in this area. While, at the moment, these investments have largely been realised in the gaming market, it’s only a matter of time before these developments start driving mainstream change in the way we work as well.

In my view, I think in 10 years we’ll all have VR headsets to join Microsoft Teams (or Zoom) calls. While we’ll still be using a laptop for documents and information systems, our meeting experiences will be more like a virtual reality-based exercise. We’ll be able join meetings in virtual rooms; we’ll be able to draw on whiteboards; we’ll be able to sit and turn and talk to each other. I think this will be a big improvement in driving the productivity of virtual meetings and, with the current trends in remote working, this technology will improve the productivity of many teams as a whole. It’s a really exciting time!

So, my expectation is that we’ll probably start going down that pathway. Right now, Microsoft’s not quite there, but the licenses that we are buying, and our roadmap, allows us to leverage these developments when the technology is ready.

 

7. What do you enjoy most about your role?

I like that I’m genuinely able to make a difference. When we sit down as a team to look at a problem, we know that we’ll be able to solve that problem and drive an initiative through to achieving a positive outcome for the business.

My background is in consulting, so I’ve always been able to go and make a difference in businesses. However, in consulting, you find that you just go from organisation to organisation to organisation, making a difference in the same space over and over – you are rarely able to build upon your past accomplishments. At Cromwell, this is an ongoing journey and we’re continually able to leverage the team’s past achievements to improve the future of the business.

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July 22, 2020

What next for European logistics?

Lockdown has been like a giant experiment, especially for the logistics sector which has had to deal with unprecedented demand with next to no lead time while adapting to new ways of working, or put another way, social distancing.

By any set of measures, the response has been impressive, providing a glimpse into the potential of a technology-enabled way of life that many had predicted was still some years away. So, what happens next?

Now that the ratchet has been forced up a notch, will life go back to normal or will the forced mass adoption of all things online, whether to order essential items like groceries or to feed people’s growing ‘Amazon habits’, have an enduring impact on the logistics sector?

Logistics underpinned by solid fundamentals

The logistics sector will not be immune to COVID-19, but at the start of 2020 it was underpinned by generally solid fundamentals. Vacancy was low across most of the European market – below 7% in the Netherlands, Poland and the UK – demand was robust and overbuilding wasn’t an issue with opportunities for investors existing across the logistics spectrum, ranging from large distribution centres to urban delivery hubs in inner city areas.

Labour availability was one of the main concerns for logistics operators with the unemployment rate falling to around 6.2% across the EU by the end of 2019. While rates are expected to rise, often from historic lows, governments are implementing a range of fiscal policy measures intended to encourage businesses to retain workers and maintain consumption levels.

The logistics sector is a clear beneficiary of the rise of e-commerce over the last few years. While this is nothing new, the trend is likely to continue unabated with the COVID-19 pandemic and related social distancing measures simply accelerating the rise of online retailing. While some demand may fall away once ‘normal’ life resumes and lockdown measures are lifted, albeit gradually, this is by no means guaranteed.

COVID-19 may generate a spike in online sales for as long as the containment and social distancing measures remain in place as consumers depend more on e-commerce, but the underlying trend is one of continued expansion. The initial impact was on the grocery sector, but this is likely to spread to other consumer sectors. Indeed, we may well see an acceleration in the adoption of online retailing as many businesses turn to deliveries as a way of maintaining business continuity. The current level of online adoption among consumers may become the new ‘normal’. Retail sales are forecast to grow by approximately 2.3% a year between 2019 and 2024, according to Oxford Economics data, while online penetration is predicted to grow at an average of 8.5% a year in the same period according to Savills.

All this extra activity requires more storage space. While some space may be released back to the market as some retailers hit the wall, deliveries are here to stay. Some suppliers have started stockpiling in anticipation of increased online retail spend by consumers, and to mitigate disruption to the upstream supply chain.

In the long term, more warehouses will switch to automation and robots, which creates opportunity for value-add players to take advantage of price dislocation and build costs which have come off their peak, to reinvigorate older stock and upgrade with automation. Short term however, getting materials onsite will be problematic and construction work is being delayed as labour movement is restricted, which means a proportion of the schemes due to complete during the remainder of 2020 and into the first half of 2021 will be delayed. Some schemes may even be withdrawn as developers struggle under tighter financing conditions, all of which adds additional pressure to the tightly supplied warehouse market.

Investment overview

Investment volumes have been rising steadily since the last market trough in 2009, when just €6.9 billion worth of logistics transacted across Europe. In 2017, a peak year that was boosted by some large deals, trading volumes hit €40.4 billion. Interest in the sector has continued at very robust levels over the last couple of years, with €35.8 billion transacting in 2019 with the UK, France, Germany and the Netherlands consistently amongst the most active markets in Europe, also recording some of the highest penetration of online retailing.

What is next for European Logistics graph

There is, of course, the much talked about slowdown to the European economy hitting markets hard, although there has been a much swifter reaction by Central Banks than was seen during the GFC which, it is hoped, will go some way to supporting the weakening economic situation. But there are still a lot of unknowns: the main factors being the length of lockdowns, the impact of the gradual lifting of measures being seen across a number of European countries, the possible resurgence of the virus and when and how much consumer demand will be impacted, with the acceptance that a proportion will be permanently lost.

While the market drivers are there, real estate fundamentals underpinning the sector are healthy, capital is waiting on the sidelines to deploy when appropriate opportunities present themselves, the full-year 2020 trading volumes are expected to be subdued. While Q1 numbers are looking relatively healthy with €7.6 billion changing hands and above the long-term quarterly average of €6.2 billion. Activity levels are largely reflecting the conclusion of deals already in the pipeline pre-COVID-19 and a truer picture is likely to emerge as Q2 progresses. Indications thus far are for a much slower quarter as less product is openly marketed – stymied, for now at least, by the inability to view potential assets, conduct technical due diligence and the gap between buyer and seller expectations on pricing.

Once a new pricing benchmark has been established, capital is likely to react quickly, but during times of uncertainty, investors will favour core assets in strong locations. These will include assets close to infrastructure hubs as carbon emission regulations bear down and are now higher up the agenda and/or gateway cities, which service the growing demand for last-mile logistics. In addition, the wall of global capital headed to Europe is expected to ease, at least temporarily, providing a buying window for domestic institutions and cross-border European capital familiar with their local markets to take a larger share.

An (im)practical example

Matthew Cridland, a tax lawyer and Partner at K&L Gates provided an example of how build-to-rent taxes would rack up in New South Wales.

Firstly, duty applies at a premium of 7% for vacant land purchases above $3 million. If the party acquiring the land is foreign, an 8% ‘Surcharge Purchaser Duty’ also applies, lifting the total duty to 15%.

An MIT is considered a ‘foreign person’ if an overseas company holds a 20% or more interest. On a $20 million vacant residential development site, total duty costs – including premium rate and surcharges – would be $2,940,490, or 14.5%

NSW also imposes a land tax surcharge of 2% on residential land owned by a foreign person, wherein no thresholds apply. Australian-based, foreign-owned developers are exempt from these surcharges, but only if they are developing new homes or residential lots for sale. The exemptions do not apply to foreign institutional investment in new residential developments which will be held for lease – regardless of the economic benefits such projects may provide.

Beyond the aforementioned surcharges, the existing land tax rules also work against institutional investment. In NSW, a premium land tax of 2% is applied to a site with an unimproved land value above $4,231,000. As such, for build-to-rent projects, it is reasonable to anticipate the 2% tax will be applicable.

For an unimproved $20 million development site, land tax would be $372,104. Surcharges would likely increase this by $400,000 to $772,104. However, unlike duty, this is an annual expense that varies as land values fluctuate.

By this point in the example, it should come as no surprise that GST also works against the build-to-rent sector. For a build-to-rent project involving total costs of $110 million, no credit is available for the $10 million of GST. However, an identical project, differing only through the intention to sell rather than lease upon completion, would allow the developer to claim a $10 million credit and have a net cost of $100 million.

These surcharges and taxes may vary on a state level, but the impact they have, in addition to the 30% withholding tax rate, means the sector faces substantial headwinds.

What next for occupiers?

COVID-19 has been a shock on both the supply and demand sides. One of the interesting questions this throws up is what occupiers are doing with their supply chains. Historically, companies have minimised supply chain inventories, keeping them flowing at low, but continuous levels, so they can remain competitive.

An additional consideration if there are ongoing shortages to disruptions in global supply chains is a potential shift to re-shoring or near sourcing, as companies bring their supply chains closer to home. This could translate into demand for more warehouse space near ports and airports, and rising demand for distribution hubs along the supply chain.

In summary, COVID-19 is expected to result in higher inventory volumes and a reassessment of business continuity plans, which will create stronger demand for warehouse space. Whatever the outcome of the COVID-19 pandemic, and despite current economic demand side pressures which has suppressed economic activity, when the risk subsides, the expectation is for a rebound in activity.

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March 10, 2020

GDP vs GDP per capita: Is Australia really ‘the lucky country’?

Australia’s longstanding nickname is ‘the lucky country’, based on our prosperity and reinforced, in part, by nearly three decades of consecutive annual economic growth. However, digging slightly deeper into the ‘lucky country’ moniker suggests all is not what it seems.

Firstly, the quote. Originating from Donald Horne’s 1964 book, ‘The Lucky Country’, the entire phrase states, ‘Australia is a lucky country run mainly by second rate people who share its luck. It lives on other people’s ideas, and although its ordinary people are adaptable, most of its leaders (in all fields) so lack curiosity about the events that surround them, that they are often taken by surprise.’

Horne’s quote has long been twisted to fit a specific context. A similar argument can be made that this is also the case for Australia’s economic growth as measured by its GDP numbers.

How economic growth is measured

Economic growth is typically measured in terms of gross domestic product (GDP), a measure of the value of all goods and services produced in a given country, across a given timeframe.

The equation to calculate GDP is private consumption + gross investment + government investment + government spending + (exports – imports). Each component is explained below.

A recession refers to two consecutive quarters of negative GDP growth.

Graph image of GDP vs GDP per capita

28 years without a recession (technically)

Australia’s last recession ended in 1991, and since then, there have only been three individual quarters of negative GDP growth. In December 2000, as a result of the dot-com crash and recession across Europe; in December 2008, during the Global Financial Crisis; and in March 2011, due to the Queensland floods.

With the recent bushfires, subsequent flooding and impact of the Coronavirus on tourism and international students, there is a strong possibility Q1 2020 will be the fourth.

Overall, Australia has had relatively high levels of economic growth (3.3% annually) compared to other developed economies between 1992 and 2017, placing it eighth out of the 32 Organisation for Economic Cooperation and Development (OECD) nations.

The last couple of years have seen weaker GDP growth, capped with a 1.7% growth rate for the 12 months to September 2019. GDP per capita growth over this same period, however, was a much more modest 0.2%.

Australia's quarterly GDP per capita growth 1991 to 2018 graph

Is GDP per capita a better measure?

GDP per capita is a measure of a country’s economic output that accounts for its number of people. It simply divides the country’s GDP by its total population. Growth in GDP per capita demonstrates how much economic growth is exceeding population growth, which can be used as an indication of improvement, or decline, of living standards.

Australia recorded relatively strong growth in annual GDP per capita between 1992 and 2017, but did not outperform other OECD countries to the same extent as overall GDP. This underscores the importance of population growth, and the sometimes-controversial role of immigration in particular, in accounting for the resilience of Australia’s economy since the 1991 recession.

Effectively, where GDP is the ‘lucky country’ part of Donald Horne’s quote, GDP per capita paints a more nuanced picture.

GDP vs GDP per capita Australia's quarterly GDP growth 1991 to 2019 Graph

What about a ‘per capita recession’?

The claim that Australia has gone almost three decades without a recession has been under fire in recent years, particularly as Australia suffered a ‘per capita recession’ to close out 2018. The September (-0.1%) and December (-0.2%) quarters saw negative GDP per capita growth.

The second half of 2018 marked the third time this had happened since Australia’s conventional recession in 1991. The September (-0.1%) and December (-0.7%) 2000 and March (-0.1%) and June (-0.2%) 2006 quarters each saw negative growth in GDP per capita.

Additionally, while there have only been three negative GDP growth quarters since 1991, there have been 20 quarters of falling GDP per capita growth.

However, it may be unfair to call consecutive quarters of negative per capita growth a recession at all, as it more closely resembles a slowdown. For example, through the 2006 ‘recession’, job growth remained solid, unemployment fell, and it occurred while Australia was in the midst of its mining boom.

Growth slowing below the level of population growth, especially with weak wages growth and high underemployment, is a concern as it effectively highlights that people are less well off than they were before. A per capita recession on its own, however, is not necessarily the same as a real recession, and the three seen over the past 28 years do not compare to the impact of the 1991 recession on jobs, confidence and economic welfare.

 

Examples on the global stage

In 2018, 17 countries, the majority of which are emerging economies, recorded positive annual GDP growth, but negative growth in GDP per capita. Of these countries, Bahrain experienced perhaps the greatest disparity between annual growth in GDP (1.78%) and GDP per capita (-3.11%), with population growth at 4.92%.

Compare the emerging economy of Bahrain, to one of the world’s most highly-developed economies’ in Japan. In 2018, Japan’s annual GDP growth was 0.78%, a full 1% behind Bahrain. However, with an ageing population and shrinking workforce Japan’s population declined 0.2%, meaning GDP per capita was actually higher at 0.99%.

While the economic profiles of Japan and Bahrain are vastly different, the above demonstrates an increase in GDP per capita, as in Japan, does not always make it a better indicator, particularly when a country’s population is in decline.

As more major economies begin to reach peak population, as currently experienced by Japan, Russia and some of Western Europe, their GDP growth will, in turn, begin to decline unless they find ways to become substantially more productive, and do ‘more with less’.

Australia’s population is expected to grow 24% to 31.4 million by 2034, meaning over the medium term our GDP figures should continue to be propped up by this increase. However, if productivity and population growth were to decline at the same time, we might need to reconsider how we measure economic success, particularly if gross GDP numbers become consistently negative year in, year out.

 

Population growth and productivity

It takes, on average, 2.1 children born per woman to maintain a country’s population – this is known as the replacement rate. The current global fertility rate sits at 2.44 children per woman. However, since the 1960’s, the rate has halved and is below the replacement rate in most western countries.

Presently, just under half of the world’s population live in countries with a fertility rate below the replacement rate. Because these countries are not repopulating fast enough to maintain their current population, an imbalance is emerging between the ratio of elderly dependents to working-age people. This is set to intensify over coming decades.

The United Nations predicts that by 2100, almost 30% of the population will be aged 60 or older. As life expectancy continues to increase steadily, dependents will live longer. This will have a range of economic impacts.

Healthcare costs will strain resources, while smaller working populations will struggle to produce enough income tax revenue to support these rising costs. If left unchanged, this will likely cause spending power to decrease, consumerism to decline, job production to slow, and ultimately, the global economy to stagnate.

Immigration has been a solution for many countries, particularly Australia and the United States. In 2017, Australia’s net migration figure was 263,300, which represented 1.07% of the population, while the US figure was 4,774,029, representing 1.47%.

Several nations are already experiencing the effects of an ageing population with existing elderly dependents. A quarter of Japan’s population is currently over the age of 65. With a far lower net migration rate (357,800 in 2017, representing just 0.28% of the total population), Japan is attempting to utilise R&D and technology to substantially increase productivity and offset the demographic driven slowdown of its GDP.

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March 10, 2020

The emergence of build-to-rent in Australia

Build-to-rent could offer institutional investors a stable asset class and fill a substantial gap in the country’s housing stock, but tax hurdles remain an impediment to the viability of this emerging sector.

What is build-to-rent?

Build-to-rent refers to a residential development in which all of the units are retained by an owner or developer and leased out, as opposed to being sold off to multiple owners as per the traditional build-to-sell model. The developer owns and manages the units as long-term income generating assets, typically benefitting from economies of scale when it comes to maintenance, repairs and other general upkeep.

As Australia continues to urbanise and inner-city land values increase, owning a house can suddenly become a more distant dream for many. Confronted with this reality, there is a new generation prepared to rent for longer in order to continue to access the lifestyle, location and amenity-rich environment that they are attracted to, and that build-to-rent can provide.

 

A new asset class for investors

For institutional investors, build-to-rent provides diversification from traditional asset classes by providing a secure revenue stream with a new and growing customer base. Institutions deploy capital into the build-to-rent sector overseas in order to diversify their portfolios and achieve a low-risk, stable, long-term income return for their investors.

Growth in the sector will be underscored by build-to-rent helping address Australia’s housing supply deficit as the population continues to grow. Unlike other commercial assets, which are generally comprised of a small number of long-term leases, build-to-rent developments are comprised of hundreds of diversely structured rental agreements that turn over on a rolling basis.

The appeal of the sector is based in long-term returns similar to aged care and hotels, which compare favourably with both equity market and commercial returns, along with providing lower volatility. As demonstrated across the US build-to-rent sector, during an economic downturn, rents are more resilient, decline less and improve more rapidly than other commercial sectors.

 

Where build-to-rent differs from traditional rental accommodation

Similar to commercial assets, profit from a build-to-rent development is derived through rental income. High tenant turnover and long vacancy periods are therefore detrimental to income, and as a result, build-to-rent developments incorporate elements designed to attract and retain tenants.

The emergence of build to rent Traditional rental accommodation chart

Required reform in Australia

Build-to-rent’s lack of presence across Australia can largely be attributed to a number of tax-related hurdles the sector faces.

Firstly, a managed investment trust (MIT) is a type of trust in which investors collectively invest in passive income activities, such as shares, property or fixed interest assets.

MIT’s are common structures in the commercial real estate sector. For example, an office building may be purchased by an institution, such as an industry superannuation fund, through an Australian MIT. In turn, this provides the super fund with access to a share of an income stream, such as the rent paid by tenants.

MIT’s are also popular with foreign investors, as income from this type of trust can enable a relatively low rate of tax, and tax simplicity for partial ownership of certain Australian assets.

In the case of an MIT with entirely commercial asset holdings, payments to all investors have tax withheld, generally 15%. However, the withholding tax on residential real estate, including build-to-rent MIT income for foreign investors is 30%.

Alongside the MIT withholding tax on foreign investors are additional surcharges, as well as high land tax costs for institutional investors across the board, plus high upfront GST costs. This is illustrated in the example below.

An (im)practical example

Matthew Cridland, a tax lawyer and Partner at K&L Gates provided an example of how build-to-rent taxes would rack up in New South Wales.

Firstly, duty applies at a premium of 7% for vacant land purchases above $3 million. If the party acquiring the land is foreign, an 8% ‘Surcharge Purchaser Duty’ also applies, lifting the total duty to 15%.

An MIT is considered a ‘foreign person’ if an overseas company holds a 20% or more interest. On a $20 million vacant residential development site, total duty costs – including premium rate and surcharges – would be $2,940,490, or 14.5%

NSW also imposes a land tax surcharge of 2% on residential land owned by a foreign person, wherein no thresholds apply. Australian-based, foreign-owned developers are exempt from these surcharges, but only if they are developing new homes or residential lots for sale. The exemptions do not apply to foreign institutional investment in new residential developments which will be held for lease – regardless of the economic benefits such projects may provide.

Beyond the aforementioned surcharges, the existing land tax rules also work against institutional investment. In NSW, a premium land tax of 2% is applied to a site with an unimproved land value above $4,231,000. As such, for build-to-rent projects, it is reasonable to anticipate the 2% tax will be applicable.

For an unimproved $20 million development site, land tax would be $372,104. Surcharges would likely increase this by $400,000 to $772,104. However, unlike duty, this is an annual expense that varies as land values fluctuate.

By this point in the example, it should come as no surprise that GST also works against the build-to-rent sector. For a build-to-rent project involving total costs of $110 million, no credit is available for the $10 million of GST. However, an identical project, differing only through the intention to sell rather than lease upon completion, would allow the developer to claim a $10 million credit and have a net cost of $100 million.

These surcharges and taxes may vary on a state level, but the impact they have, in addition to the 30% withholding tax rate, means the sector faces substantial headwinds.

Potential flow-on effects

Potential exists for a number of positive flow-on effects from a burgeoning build-to-rent sector.

Increased capital means greater stock

Overseas capital investment is vital to the success of the build-to-rent sector in Australia. In the commercial sector, foreign capital reached $11.5 billion in 2019, which was a third of all investment activity. A greater level of institutional capital will inevitably lead to more development activity and stock coming online.

Higher-density living

It is anticipated build-to-rent developments will be high-density buildings, typically exceeding 200 dwellings in inner city and well-located capital city locations.

In the UK, the average size of build-to-rent developments is growing, which indicates the confidence from investors in the sector. In Q3 2019, the average size of each development was 133 units, while projects under construction increases to 245 units, which grows again to 325 units for those in the planning phase.

Lower rents from increased competition

Hypothetically, competition amongst build-to-rent providers could create competition to attract tenants. This is the case in the commercial office space, where institutional investment has enabled the delivery of premium amenity to appeal to tenants.

Institutional investment in the residential sector could therefore create better rental conditions, such as more responsive building management, or slower rental increases.

Success in the US

Over a third of the US population lives in private rental accommodation, and of this, 36%, or approximately 10% of the total US population live in multi-unit rental communities. As such, the build-to-rent, or as it is known locally, ‘multi-family’ sector is large, well established and liquid.

The emergence of build to rent Breakout chart Multi family

According to the National Multi-family Housing Council, the sector is worth a total of US$3.3 trillion, with the majority of this capital provided by banks, life insurance companies, commercial mortgage-backed securities or government-backed lending programmes.

The sector also has a significant economic impact. In 2016, the most recent year comprehensive figures are available, multi-family apartment construction generated over US$150 billion in economic activity, as well as over 750,000 jobs.

Best case scenario

In order for Australia’s build-to-rent sector to compete with some of the most successful countries globally, tax conditions must change to level the playing field for foreign investors. The most important change to facilitate the success of this emerging sector would be to reduce the MIT withholding tax to 15% across the board. Additional positives would be revised land tax and duty surcharge revenue and to level the land tax playing field for all residential investors.

The build-to-sell model has dominated the Australian residential landscape for decades, with policy based around this. However, with more people renting, cities growing rapidly and people wanting a greater choice in their housing options, it is clear there is demand for build-to-rent. It is now up to state and federal governments to ensure policy frameworks allow supply to match demand.

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December 9, 2019

Suite dreams are made of these: Hotels hit the big time

Hotels have long been grouped into the category of ‘specialty’ property, alongside the likes of seniors’ living, student accommodation and even data centres. However, as investors continue to look for alternatives to the mainstay real estate sectors, the hotel market has become an increasingly acceptable option for many institutional investors.

Hotel service classifications

Hotels are categorised in numerous different ways, including star ratings, size of hotel and number of rooms, location, ownership and affiliation, and also the type of hotel which is aligned to its offering.

The most common types of hotel markets include business, airport, resort or leisure, casino, convention and conference hotels.

Hotel classifications spreadsheet

 

Hotel dynamics

The hotel asset class possesses a number of key differences when compared to some other real estate sectors.

Owner or operator

All hotels require an operator, but whilst the operator and underlying investor (or owner) can be one and the same, particularly for boutique hotels, this is not necessarily always the case.

Many larger branded or chain hotels tend to have a mix of several ownership types including direct ownership, management contracts or franchise arrangements. For example, just because the name says Hilton, does not mean the Hilton Company owns the property.

Hotel rooms are perishable goods

A hotel room, like an airline seat, is a perishable good. That is, once a specific date occurs, every room not booked for that night perishes. Similar to airline seats, there is no market for yesterday’s rooms.

This presents a challenge as every hotel obviously wants as many rooms as possible booked each night, albeit the temptation is often to discount the room. Ongoing discounting, however, can damage a hotel’s brand and lead to other challenges.

Pricing fluctuates greatly

Hotel prices are put through a rigorous prediction process. Pricing rooms is not as simple as knowing when peak and off-peak seasons are. Rather, the hotel looks at the past year’s demand and compares it to larger trends correlating with the wider hotel industry. These include the economy of the country in which the hotel is situated, competitors’ prices for similar rooms, and even weather patterns.

A hotel will also look at its booking history. In doing so, the hotel seeks to identify the ‘booking curve’ in order to understand the optimal number of rooms that should be booked at certain intervals in advance (generally one, two and/or three months).

The overarching goal for every hotel is to ensure the most rooms are booked per night, at the highest price possible. As such, during stretches of lower demand or if actual bookings are lower than projected, room prices can be decreased to incentivise last-minute booking. On the other hand, prices are generally raised when demand is high.

Booking platforms are important

Online booking platforms have become an important tool to ensure the greatest possible number of rooms are occupied on a nightly basis, particularly when demand is low during off-peak times.

Third party agency sites such as Booking.com act as an intermediary between guests wanting to make a reservation and a hotel. These platforms also have a broader reach compared to a hotel’s own website, so while they can direct additional bookings to a hotel, they also charge for the privilege. This, in turn, eats into the hotel’s profit – hence why hotels usually advertise that the best rate is obtained by booking direct.

Loyalty programmes

Almost every major hotel chain has a loyalty programme to encourage travellers to stay with their chain wherever they travel across the globe. Similar to airline loyalty schemes, their hotel counterparts offer varying levels of membership and rewards for staying with a particular chain, or group of hotels.

Global hotel market summary

While slower global economic growth is expected to provide a headwind, hotel investment volumes are expected to hold steady in 2019 as a result of pressure to deploy capital, hotel occupancy and room rates remaining positive and the attractive yield profile hotels generally offer compared to other sectors.

Volume in the Americas is expected to be flat, while an increase in Asian markets is expected to offset a slight decline in Europe. It is expected that total transaction volumes will be US$67.2 billion, essentially unchanged from 2018’s US$67.7 billion.

Global hotel transaction volumes forecast spreadsheet

Europe

Single-asset deals are expected to dominate in the near term. The lower volatility in the return profile of hotels reduces the volatility of funds, while slightly increasing the returns. As such, hotel assets provide a stabilising effect to the diversified funds to which they are added.

Overall, transaction volumes are anticipated to drop between 5% and 10% on 2018, to just over US$21 billion. However, the sentiment towards the asset class remains largely positive, as demonstrated by the acceleration in hotel development activity.

Germany and the UK account for nearly 60% of rooms under construction across Europe. These two markets are expected to absorb the additional supply across the medium term off the back of the strong tourism growth forecasts.

In 2018, Europe received the largest amount of cross-border investment, largely attributed to Asian and Middle Eastern investors. The region is expected to remain an active destination, particularly from Asian investors who are keen to take advantage of currency benefits.

Asia Pacific

Diverse sources of core and core-plus capital are increasingly weighing up investment into hotels. Japan is one of the most active markets due to the Rugby World Cup and Tokyo 2020 Olympics, but China and Singapore are also on investors’ radars, with the positive trend in hotel trading performance set to drive prices upwards.

APAC activity is expected to see a 15% year-on-year increase in 2019, although transaction volumes will still be a modest US$9.5 billion.

All eyes on Japan

Through the first half of 2019, Japan’s hotel market recorded the highest domestic transaction volumes in Asia Pacific at US$1.14 billion. Japanese REITs accounted for almost half of this investment, with demand rising off the back of low borrowing costs and expectations of continued market growth as a result of large-scale events such as the 2019 Rugby World Cup, Tokyo 2020 Olympics and the 2025 World Expo.

The Rugby World Cup is responsible, in part, for the 12% increase in international visitors forecast to descend on Japan throughout 2019. It is reasonable to anticipate an even greater increase in 2020, as 10 million visitors are expected to attend the Olympic Games.

Even though Tokyo will have 170,000 rooms in 2020, up from 30,000 in 2017, a number of prominent hotels are already hanging ‘no vacancy’ signs for the Games, illustrating continued strong demand for at least the next few years.

Americas

In the US, large portfolio deals are expected to dominate investment. Transaction volumes across the Americas in 2019 are forecast to meet the $36.5 billion mark set in 2018. Despite no year-on-year growth, this is still up significantly on the region’s US$28.2 billion transacted in 2017.

2018 represented the tenth consecutive year of growth in North America’s hotel performance, although it appears as though the development pipeline has reached its peak and begun to slow. This has resulted in increased confidence amongst investors, particularly in major markets such as New York.

Key growth drivers and future trends

Mixed-use: Work, stay, play

Mixed-use buildings, combining hotel, residential, office and/or retail space in a single building or precinct have gained increased traction in recent years. Mixed-use buildings increase diversification for investors and allow them to blend their offerings to meet the increasing demands of their guests.

Millennials moving in

Demographics are a major consideration for all hotel investors and operators. In Australia, millennials on average spend the most on accommodation per night. This gives rise to an emerging challenge, particularly given the growing rise of Airbnb amongst this demographic. Hotels must create a point of difference to ensure they continue to attract customers in the face of this popularity.

Rise of the global middle class

The rise of the global middle class also shows no signs of slowing, increasing from 1.8 billion people in 2009, to a forecast 3.2 billion in 2020 and 4.9 billion in 2030. The bulk of this growth comes from Asia, which will represent two-thirds of the global middle-class population by 2030. As a result of this rapid rise, the sheer number of people looking to travel, and stay at a hotel, is growing quickly.

The experience economy

Consumers are also placing less emphasis on acquiring material goods, and more on seeking out experiences. This is particularly evident in the global luxury travel market, which is forecast to reach US$1.1 trillion by 2025, representing a compound growth rate of 4.3% between 2017 and 2025.

This growth is driving demand for hotel stays and investors are looking to capitalise. In 2018, the US saw luxury hotel transactions rise by 76% year-on-year. In Europe, investors are looking to deploy capital to meet this demand in key destination cities such as Paris, Rome and Florence.

Investor diversification

Investors are also seeking alternative options to the traditional real estate sectors of office, industrial and retail to diversify their returns. As pressure mounts to deploy capital, the positive longer-term dynamics continue to heighten the appeal of hotel assets. Across the five years to 2018, 70% of hotel investments were made by investors looking to diversify, rather than those seeking hotel-specific funds.

Hotels, like any other asset class, have positives and negatives as an investment option. However, there is a lot to like about the sector, including its ability to diversify investor portfolios and sustained medium-term growth in demand off the back of the experience economy, tourism boom and continued rise of the global middle class.

Hotel infinity pool with two people looking at the view of the city

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December 9, 2019

The US$80 trillion world economy at a glance

The infographic below shows the composition of the US$80 trillion global economy in 2017, the most recent year in which comprehensive figures were available. In nominal terms, the US still has the largest Gross Domestic Product (GDP) at US$19.4 trillion, making up 24.4% of the world economy, nearly 60% larger than China at US$12.2 trillion.

However, in 2016, the International Monetary Fund called the Chinese economy the world’s largest when adjusted for purchasing power parity (which allows you to compare how much your money can buy in relative terms).

Perhaps a more telling statistic is that per capita disposable income is US$39,513 in the US and just US$2,993 in China. This more aptly illustrates just how far China has yet to go to give its citizens a similar quality of life.

The next two largest economies are Japan (US$4.9 trillion) and Germany (US$4.6 trillion). It’s India (US$2.6 trillion), however, which has now passed France and, given Brexit, probably also the UK, which is increasing the fastest. Brazil, despite its very recent economic woes, surpassed Italy in GDP rankings to take the number eight spot overall. Canada rounds out the top ten.

Australia’s GDP was US$1.32 trillion or 1.67% of the global economy, which just about puts it on par with Spain. While punching above Spain and most others in terms of GDP per capita, Australia remains a relatively small economy in global terms.

The infographic below shows the composition of the US$80 trillion global economy in 2017, the most recent year in which comprehensive figures were available. In nominal terms, the US still has the largest Gross Domestic Product (GDP) at US$19.4 trillion, making up 24.4% of the world economy, nearly 60% larger than China at US$12.2 trillion.

However, in 2016, the International Monetary Fund called the Chinese economy the world’s largest when adjusted for purchasing power parity (which allows you to compare how much your money can buy in relative terms).

Perhaps a more telling statistic is that per capita disposable income is US$39,513 in the US and just US$2,993 in China. This more aptly illustrates just how far China has yet to go to give its citizens a similar quality of life.

The next two largest economies are Japan (US$4.9 trillion) and Germany (US$4.6 trillion). It’s India (US$2.6 trillion), however, which has now passed France and, given Brexit, probably also the UK, which is increasing the fastest. Brazil, despite its very recent economic woes, surpassed Italy in GDP rankings to take the number eight spot overall. Canada rounds out the top ten.

Australia’s GDP was US$1.32 trillion or 1.67% of the global economy, which just about puts it on par with Spain. While punching above Spain and most others in terms of GDP per capita, Australia remains a relatively small economy in global terms.

 

Why diversify?

Australia has often been called the lucky country, given its more than 25-year run without recession. Luck, however, is not a strategy, nor is it sufficient to build a business, execute a strategy or pay distributions. Luck can run out and, diversification, whether or not it’s for personal investing or growing a business, is important.

Diversification doesn’t mean turning your back on what you know or are familiar with (Australia), but it does mean prudently assessing opportunities which can diversify investment portfolios or business income streams both by sector and by geography.

The European real estate market, for example, comprises approximately 350 million sqm of office stock, over 14 times more than the Australian equivalent. The market comprises more than 34 different individual office markets, each with more than 2 million sqm of office space.

To put it in perspective, that’s 34 different markets the size of Brisbane or Canberra that you can choose to invest in. All of these locations will have different local market dynamics, are at different points in the real estate cycle and are in differently performing countries, some of which, like Poland, currently have better prospects than Australia. Diversification matters.

 

World economy GDP by country

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December 9, 2019

The importance of catchment in retail

In Insight 27, we provided an overview of the changes currently being experienced by the retail sector globally. The retail landscape varies dramatically from country to country. However, across all borders and economies, understanding the importance of catchment is vital.

Catchment refers to the sphere of influence from which a retail location – for example, a shopping centre – is likely to draw its customers. The general concept of a retail catchment area comprises three major considerations – supply factors, demand factors and consumer interactions.

On the supply side, there is the strength of the offering in terms of a centre’s quality, age, size, location and tenant mix. Alternatively, demand factors include location, population and demographic makeup of the catchment area. The supply and demand factors, in turn, dictate consumer interactions. A centre with a better offering will draw consumers from greater distances than centres with few points of difference to its competitors.

There are, however, a number of other important catchment-related considerations. Firstly, the position of a retail centre within the hierarchy of other local retail centres. This is determined by the format and size of the centre, population density of its catchment, the competitive intensity, and how well its proposition fits the needs of the consumer base.

For example, a high-end boutique centre with luxury fashion retailers would more than likely fare poorly in a low socio-economic area.

Generally, a catchment with a large population will have a greater retail offering, to the extent it acts as an employment hub and economic driver, thereby attracting customers from a wider area. A smaller, or remote catchment, will more than likely serve a different function, be more embedded in local economies and be patronised more frequently by local communities.

In Australia, the Property Council of Australia sets out classifications for shopping centres, which are closely aligned to the concept of ‘catchment’. This is shown below.

The importance of catchment cannot be overlooked. It is vital shopping centre investors and managers understand their catchment area in terms of socioeconomic status, size and demographics, and are able to tailor their offering accordingly.

Property Council of Australia shopping centre classifications spreadsheet