by Chris Booton and William Krueger
Japanese involvement in the UK real estate markets has attracted considerable attention over the past four years. In certain market areas, particularly the City of London, Japanese investors have been noted for their acquisitions of larger and higher-quality investment properties. In the development sphere, their construction and real estate companies have been similarly aggressive.
While Japanese activity has been very important in UK domestic markets it needs to be set in an international context. For most Japanese investors, the UK is just one part of a wider European market, which in turn needs to be judged against those of North America, Asia and Australasia. Compared with some of these areas, penetration into the UK has been comparatively minor.
In global terms, what is the significance of overseas Japanese real estate investment? Which organisations are looking for opportunities outside Japan? Why are they doing so? What kind of properties are being acquired? What is the scale of overseas real estate investment activity, and how are existing investment patterns changing? The object of this article is to look at these questions more closely and to provide an overview of Japanese real estate activities around the world.
Japanese life companies
In Japan the life insurance companies are among the more important investors in property, especially for prime situations. About 6% of the total assets of the Japanese life companies are held in real estate, with the majority located in that country. Although no accurate statistics are available, it is likely that only a small percentage of real estate assets are in the North American, Asian, Australasian and European markets.
The prime motivating factor behind institutional property investment strategy in Japan is long-term capital appreciation. Current returns in a market where rent increases are limited and security of tenure is strong are notoriously low, but the underlying rate of capital growth in the value of land has been more than enough to compensate for the lack of income from buildings.
When it comes to overseas investment strategy, the same principles of long-term security and capital gain still apply. The life companies have concentrated their activities on established and proven markets, seeking out the best locations in any particular market area. The intrinsic value of the land, rather than the buildings on it, is central to this investment philosophy. Sumitomo Life’s and Asahi Life’s purchases of Morgan House and Leadenhall Court in the London market demonstrate this, as does Sumitomo Life’s acquisition of the Sheraton Hotel in Perth for about $A50m in 1989 — the first Japanese life company transaction in the Australian market.
Despite the concentration on underlying land value, the importance of income must not be completely discounted. The running yields available on even prime properties in North America, Australasia and Europe (5% to 6% and over) are very attractive when compared with rental returns in Tokyo (under 2%).
The major life insurance companies also wish to diversify the geographic spread of real estate assets as part of their global risk-management strategy. In physical terms, fund managers may talk light-heartedly of a major earthquake in Tokyo, but it is thought to be overdue and its ramifications could be enormous.
There are also currency issues to consider. Between the first quarter of 1982 and the first quarter of 1988, the yen appreciated about 100% against the US dollar and about 80% against sterling. Since then, it has depreciated again by approximately 25% against the US dollar and 15% against the pound. Many commentators see the yen being less strong during the next few years, which has increased the impetus to hold foreign-denominated assets.
Lastly, there are issues of national and corporate pride at stake. There is considerable prestige in acquiring “trophy” buildings, which reflect well on Japanese institutions in their own market.
Major real estate companies
After the life insurance companies the next most significant group of investors are the publicly listed Japanese real estate companies.
As with the life companies, most of the assets held by the large real estate companies are located at home. Mitsubishi Real Estate’s 43-acre holding in Marunouchi is particularly significant. In recent years, however, overseas activities have become steadily more important.
The major Japanese real estate companies, like the life insurance companies, have generally concentrated on long-term security and capital appreciation, again with the emphasis on the underlying land value. In part, this reflects the reality of the Japanese market, where opportunities for high current returns are virtually non-existent.
When it comes to overseas acquisitions, the larger property companies have tended to be slightly more flexible about building quality, although location is still a critical consideration. As a result, income returns have generally been higher.
There has also been a willingness to buy into development as well as investments, as witnessed by Mitsui Real Estate’s development of the 1m-sq ft Sanwa Bank Building in Los Angeles (at its outset a speculative scheme) and Kowa Real Estate’s involvement in the 600,000-sq ft Montparnasse scheme in Paris.
Construction companies
The major Japanese contractors, with their good reputation for completing new projects to a high standard, on time and within budget, have been aggressive purchasers of development opportunities in the major overseas markets. Although not usually long-term investors in their home market, these companies have pioneered the way for other Japanese investors overseas. They are likely to look to sell on their completed schemes to long-term investors.
Notable construction company purchases and developments have included Kumagai Gumi’s scheme at Whitefriars and 55 Bishopsgate in London, and Hazama Gumi’s participation in 90 Collins Street in Melbourne. Kumagai Gumi, through their United States subsidiary, KG Land, have also participated in a series of deals in Manhattan with William Zeckendorf.
Smaller and private property companies
Following the major property companies, there are a raft of smaller and privately owned ones. Again, quantifying the assets held by these companies is not possible, but as a group they are significant owners within Japan and have had a considerable impact on selected overseas markets.
For many of these companies income returns are more important than long-term capital appreciation, although capital growth is still a significant factor. This reflects the level of gearing which some of these smaller companies carry, and the need to meet interest payments out of rental receipts.
The emphasis on income, combined with a lack of opportunities in Japanese domestic markets where turnover is low and larger corporations are dominant, has led many smaller real estate companies to look overseas. Generally, these are less risk-averse than their larger brethren, especially when privately controlled. There have been some large and adventurous purchases in London, for example EIE’s acquisition of Britannic House West. Elsewhere EIE have acquired the Bond Centre in Hong Kong and Sanctuary Cove, a mixed-use resort development in Queensland, Australia.
Often prestige and status are important motivating factors for these smaller and private property companies. Relative lack of size in Japan can be made up for by the assembly of an overseas portfolio.
Leisure operators
The larger Japanese hotel and leisure companies (for example, Seibu Saison) are very active in selected overseas property markets. Generally, the driving force behind overseas acquisitions is Japanese tourism. Overseas tourism has grown very sharply during the past few years, with about 10m Japanese expected to take their holidays outside Japan in 1991. As disposable income continues to increase, and pressures for a shorter working week build up, this trend looks set to continue.
Many hotel companies and other recreational-orientated corporations set out to provide Japanese holiday-makers with all the facilities which they need in their chosen destinations. In Hawaii, which is very popular for honeymoon couples, the majority of hotels are now Japanese-owned. Along Australia’s Gold Coast, where there is a considerable Japanese package-tour industry, Japanese owners have also built up a sizeable presence.
As well as hotel companies, many other organisations are taking an interest in leisure-related properties. Active participants include brewing companies, specialist leisure operators, airlines and consumer companies, as well as passive investors. Golf courses in particular have proved very attractive in many parts of the world, with Asahi Breweries undertaking golf-course developments in the UK and France, and many other acquisitions in North America, Asia and Australia.
Other corporate investors
Other companies and corporations, whose main business activities are not related exclusively to real estate, have been active participants in both the Japanese and overseas property markets.
Japanese trading companies have been prepared to trade in overseas real estate in many overseas markets. Prominent trading companies include C Itoh, who have acquired a considerable amount of office, hotel and retail property in the USA and Australia, Nissho Iwai, who have been more active in Hong Kong, and the fast-growing Toyomenka, who have taken on hotel and resort projects in San Francisco, Guam, Thailand and Portugal.
Companies have also invested in real estate as part of their overall investment strategy. In Japan there is a philosophy in which real estate is regarded as a store for accumulated profits and wealth. In good times, companies will build up their land holdings to increase their asset base. When conditions are less favourable, land assets can be sold. This use of real estate as a long-term store for wealth reflects the cultural and commercial importance attached to property ownership within Japanese society and the business community.
Private investors
Finally, the importance of wealthy private individuals should be recognised. Perhaps to an even greater extent than their American and European counterparts, private investors are active participants in both the domestic and international real estate markets. Their involvement can take the form of pooled investment vehicles, or direct acquisitions in their own right.
Most private Japanese property investment is guided by the country’s Trust Banks and larger City Banks. Monitoring overall levels of investment is not possible, but there have been some significant purchases during the past few years, especially in the United States.
Patterns of overseas investment
Despite short bouts of discord, brought to the surface again earlier this year by the latest round of the Strategic Impediment Initiative talks, Japan feels a close affinity with its major trading partner, the United States. Not surprisingly, the USA, with its highly developed economy and its political stability, was the first area to be exploited by Japanese investors looking beyond their own shores.
Official figures compiled by the Japanese government show a total of 69 direct real estate investment transactions with a total value of $135.6m in 1981. By 1988, the last year for which statistics are available, the total value of officially recorded transactions had risen to $5,574.5m, made up of 830 separate purchases. The official figures, however, are widely acknowledged to be highly inaccurate. Unofficial estimates for 1988 put total inwards investment by Japanese organisations into the USA real estate market at about $15,000m.
During the past year, there has been a general perception on both sides of the Pacific that the annual level of real estate investment purchases in the USA by Japanese organisations has dropped off slightly. This reflects both the general weakening of many USA property markets and the extreme sensitivity to local criticism, which surfaced again when Mitsubishi Real Estate acquired the Rockefeller Center in New York.
Investment into the USA and the neighbouring Canadian markets has involved all groups of investors and all types of property, from top-quality office buildings to residential condominiums, hotels and leisure facilities. A notable transaction in Vancouver was the purchase of the Hongkong & Shanghai Bank building by Sun Enterprises in 1989 for a price in excess of $C100m.
Investment into the Australian property markets did not start in earnest until the mid-1980s, and by 1989 had reached a level of about $US5,000m a year. Both the range of investors and the type of investment made have been more concentrated than in the USA. The greatest impact has been made by hotel owners and leisure facility operators exploiting growing levels of Japanese tourism. Institutional purchases of purely commercial investments have been limited.
Again, as with the USA, the level of Japanese investment activity, especially for commercial property, is starting to fall off again, reflecting the declining fortunes of the property market in Australia.
In Asia, the Japanese have been active in Hong Kong, Singapore, Malaysia, Indonesia and Thailand. Total investment into these markets was about $2,000m last year, with further growth expected in the immediate future. In these markets, Japanese buying power, their scale of operations and their development expertise have been particularly significant.
Investment in the United Kingdom, starting with Mitsubishi Real Estate’s acquisition of Atlas House in 1985, has opened up continental Europe for a wide range of institutional, corporate and other investors. Nearly all the major life companies have acquired property in London, and Meiji Life led the way into France in 1989 with the joint purchase of the former Les Trois Quartiers department store in Paris.
As well as the life companies and major property companies, European opportunities have attracted many trading companies, hotel operators and other developers.
Future directions
Generally, the recent upheavals in the Tokyo financial markets are likely to have a limited long-term impact on future overseas real estate policy for larger investors, although for smaller companies and private individuals activity will be more restricted in the short term.
For the life companies, who will continue to take a long-term view, events so far this year have done nothing to change the fundamental rationale behind the acquisition of overseas property. Pressure from the Ministry of Finance, wary of stirring up anti-Japanese sentiment, may encourage more partnership deals with local institutions, but that is a separate issue from the recent stock market corrections or interest rate rises.
The major property companies are also likely to continue on their present course, despite the decline in their market capitalisations in Japan. Again, for these organisations, the fundamentals have not changed. The same is true for the large contracting companies, who are set to continue their development activities as local opportunities in particular markets arise.
Smaller and private property companies, who are much more reliant on commercial borrowing in Japan, are likely to have to curtail their activities in the immediate future. Their chief difficulties are not only the cost of money, which has doubled over the past year, but the restrictions being placed on property lending by the Ministry of Finance in Japan. In the immediate future, so long as the cost of the yen remains high, they are likely to look to fund property purchases using overseas sources of finance.
In terms of market opportunities, the United Kingdom and the rest of Europe is now looking increasingly attractive in relation to other markets around the world. Most cities in the United States are seriously oversupplied with commercial space, while the Australian markets have been falling during the past 12 months. Asian markets remain buoyant, but in world terms are still very new, small and (at the moment) expensive, especially in comparison with European cities.
Japanese property investment into Europe is currently running at about $2,000m a year. The imminent completion of the internal market, events in Eastern Europe and the inherent stability of well-developed real estate markets should serve to boost property investment in Europe considerably over the next few years. In the medium term, Europe could rival the USA as the primary market area for overseas real estate investment from Japan.
