Once upon a time, the property industry at large didn’t spend too much time pouring over local authority real estate strategies. A shopping centre here, a regeneration project there to bolster the borough and keep the local area fresh was all well and good – but hardly much to write home about.
How times have changed. Over the past two years local authorities have emerged as heavyweight property investors as councils have invested £1.8bn across all property sectors since 2015, according to EG data.
With access to preferential rates through the Public Works Loan Board and with mounting pressure from central government to diversify their income streams by 2019/20 to prepare for cuts, councils have been forced to change tack when it comes to their investment strategies.
And when Spelthorne District Council in Surrey splashed a massive £360m on BP’s Sunbury business and technology campus (above) at the end of last year, the extent of the shift became clear. Now, data from EG reveals that office investment has outpaced retail spend over the past two years as local authorities have scrambled to rethink their strategies.
So does the switch in asset preference make sense? And is this the sign of a temporary shift or a long-term recalibration?
Pace of spend
The EG data reveals that, over the past two years, the retail and leisure sector has made up £723m – or 40% of the £1.8bn total local authority spend since 2015. Office investment was worth £822m, 45% of the total; and industrial was £249m, or 14%.
But when you look at the pace of spend, it is clear to see investment in the office and industrial sectors accelerating, the former up by 98% in terms of spend year-on-year, and industrial up by 67% for the same period. And a period of intense retail investment is slowing down, up by only 2% on what was an extremely active 2016.
The biggest investors
Offices
■ Spellthorne District Council £360m
■ Runnymede Council £75.2m
■ Leeds City Council £43.7m
Retail
■ Northumberland City Council £114m
■ Surrey Heath Borough Council £86m
■ Stockport Metropolitan Borough Council £80.3m
Industrial
■ Runnymede Borough Council £30.5m
■ Plymouth City Council £23.1m
■ Portsmouth City Council £22.3m
Overall top three
■ Spelthorne District Council £367.1m
■ Northumberland City Council £114m
■ Runnymede Borough Council £105.7m
The changes in pace make sense says Tony Martin, head of investment advisory at CBRE: “The authorities have been tasked by central government with increasing their income over the next few years and that’s what they are doing,” he says. “This is not them saying ‘Oh, we want to earn more money and offices look good for returns’, this is what they need to do to pay for the services they have been asked to provide.
“If you look at local areas there are often only a few shopping centres, or even just one. So when it comes to income return and local employment, offices and industrial will have a much greater impact. And if you look at bringing brownfield space back into use and the opportunity for good BREEAM metrics, there are many reasons to invest in offices and industrial over other assets and sectors at the moment.”
Alan Harris, development consultancy partner at Montagu Evans, is advising a number of local authorities on their investment strategies. He agrees that pressure from cuts has forced councils’ hands. He says investment into the offices and industrial sectors is a savvy move.
“The reality is that they have no option here,” he says. “If they want to be in a position to provide these services then property is a good way to commercialise. It is reasonably secure against inflation and relatively hands-off in terms of management.
“In terms of where they are investing, an office investment will probably mean just one or two tenants and a long-term lease. And you don’t really get that with retail and leisure assets. I don’t think councils have suddenly decided ‘oh, we like offices.’ It is more that they have realised they can get the investment characteristics they like for the long term.
“It’s the same story for trade parks and industrial assets. Long 10-15 year leases, rental growths you don’t get in retail and leisure, easy to manage. You can basically lock all of your problems away for a long time. So why not?”
James Child, retail research manager at EG, adds that the data reflects the fact that low prices and access to cheap debt have given local authorities the scope to diversify their portfolios.
“Councils initially invested heavily into retail schemes and locations. The majority of those being in need of regeneration. These were the assets that traditional REITs weren’t willing to touch as most of the schemes were in regional areas and were subprime. Not trophy assets that big domestic or overseas buyers were after,” says Child.
He adds: “The lull in the market over the past year thanks to Brexit has left price points low and has enabled councils to use these conditions to their advantage. Now they are looking at more secure assets for returns on investment and offices present the clearest form of a return on the physical side with average yields moving inward to 6.7% over retail and leisure, which average around 7.3%.
Diversificaiton
As to whether councils should be diversifying to such a degree, giving institutional investors a run for their money, opinions are mixed.
Alan Pemberton, managing partner of building surveyor Tuffin Ferraby Taylor, says that it is difficult to quantify the impact it could have in the long run. “It makes sense as a means to an end,” he says. “For councils to be coming more to the fore and to have greater control over the destiny of land use in their local areas. It means they can become more entrepreneurial. But what does it all actually mean in the long run? It could mean we see an uncompetitive playing field, given councils’ access to preferential rates through the Public Works Loan Board. Perhaps more JV/quango/public private investment companies will become the norm. But then what does that leave the institutional investors?”
But Montagu Evans’s Harris says this trend of a new wave of big ticket investors in the shape of local councils could be here to stay.
“I think we will see more big local authority deals this year and next year,” he says. “I think we will also see more out of borough investment and more granular deals as councils continue to think ‘how can we diversify?’. I am noticing that a lot of them are putting governance structures in place to handle this change. They are dedicated to finding secure assets. A lot of them have made all of the cuts they possibly could have done. So what other option do they have left?”
To send feedback, e-mail emily.wright@egi.co.uk or tweet @EmilyW_9 or @estatesgazette
