Business park specialist Arlington is strolling into 2003 with a smile and a ticket to Europe in its pocket. But, as Jane Roberts reports, chief executive Patrick Deigman faces tough times and a change in ownership
Developing office parks, especially in the South East, must be up there with City offices as one of the worst property sectors to be in now.
Demand for space is at rock bottom, and many companies that expanded into shiny business parks in the late 1990s are desperate to hand the keys to someone else to cut costs. Surely the outlook for the UK’s biggest business park developer is grim?
Arlington Securities does not have to contend merely with the weakest tenant market for years. It also faces the uncertainty of a change in its ownership, with PRICOA, the Pru of America’s European private equity vehicle, exploring offers for its one-third holding and a second shareholder, Abu Dhabi Investment Authority (ADIA), looking to cut its one-third stake.
Yet Arlington chief executive Patrick Deigman is unfazed, and the company is instead on the verge of massive expansion. In 2003, it is to move decisively into Europe, buying at least one and possibly three business park sites on the Continent in a bid to control at least 15m sq ft there within the next five years. “If not, we won’t have achieved what we want to,” Deigman states firmly from the sofa of his office at Reading Business Park.
He is also confident that by the time MIPIM comes round in March, his team will have clinched the first prelet at Paris Val d’Europe, the firm’s first European park, which has just started on site in partnership with Disney.
Closer to home, he expects this year to land at least one corporate deal in the UK that will add another big park to Arlington’s portfolio of 22 in England and Scotland.
And he sees the weak market not as a disaster but as a buying opportunity for the next 18-24 months, which may bring the chance to buy parks in the last strategic gaps for the company, Edinburgh and Leeds.
Arlington has already expanded overseas, to Shanghai as well as Paris, and gets offered new opportunities all the time. “This one’s Malaysia,” Deigman beams, picking up a gold folder from his tidy desk and waving it.
Fervent about the company
Yet Deigman does not seem the megalomaniac type. Rather he comes across as a risk-averse Scot – years of living in the South have done nothing to soften his accent – who need never raise his voice because he could skewer you with his intelligence.
He is fervent about the company he has nurtured for nearly 20 years and evangelical about its service culture. A practising Christian, he would perhaps have made a good missionary in another era. Instead, he appears just the kind of person to steer a business with a long-term view.
And Arlington has a very long-term view. European expansion was in the business plan before the change of ownership in 1998, when British Aerospace sold the company to PRICOA and co-shareholders ADIA, and subsequently Legal & General. In other words, the strategy is not a knee-jerk response to the downturns in demand and development activity in the UK.
In 2001, Insignia Richard Ellis carried out research for Arlington into the best European locations, and last year Arlington created a European division led by former UK development head Nick Murray.
Another part of the plan is that everything will be done with local partners. Deigman does not intend that Arlington should go the way of companies which, in previous UK property recessions, came unstuck when they went overseas for something to do. “We are very aware of people who tried before and failed,” he says.
The imminent first letting at Val d’Europe is to one of Arlington’s 375 existing UK tenants. This is the key to Deigman’s confidence that the brand will travel: while the pull of Europe is the opportunity for long-term growth, the push in that direction comes from existing customers.
“People kept asking us why we weren’t doing things in Europe, because more and more of the companies we are working with are expanding into Europe,” he says.
“And moving into Europe is a completely different ball game – it’s so complicated. We have got companies that are on three, four, possibly five different business parks, and if we had a business park in Europe in an area where they were expanding, they would come to us rather than go anywhere else.”
Winning repeat business
So customers do repeat business with Arlington in the UK – especially companies sold on business parks. And not just because, as Deigman reveals, IPD research for Arlington will show shortly that the company has a domestic market share of nearly 40%.
But will occupiers stay loyal in Milan or Madrid? Certainly, replies Deigman with the assurance of a true believer. For he claims no one else is doing business parks well in Europe, just as they weren’t in the UK 20 years ago when Arlington founders Raymond Mould and Patrick Vaughan imported the concept from the US – typically, by buying one in California first to study the beast.
“No one in Europe actually does business parks the way the UK does,” Deigman explains. “No one’s doing comprehensive development. So there’s a massive marketplace for us.”
But could the prospective change of ownership destabilise everything? No, Deigman says. “When Prudential came in it said it was in for a three- to five-year cycle and that it would be appointing someone to look at its investment in 2002. It may or may not do something, but the important thing is it doesn’t change where the business is going.
“When the existing shareholders came in we told them two things: that it was pointless if they couldn’t back us on building a service business and expanding into Europe. Anyone coming in would have to buy into that ethos, otherwise it would not be a good investment.”
The sale is poised at a delicate stage, with negotiations led by PRICOA and its adviser JP Morgan Chase still going on with more than one party. It is understood that a decision will be made in the next few weeks that could lead to one or more large institutional investors buying 55% of the business for about £275m, based on its £500m net asset value.
Investors set to make huge profits
This would be a phenomenal price. BAe, which bought Arlington from Mould, Vaughan and others in 1989 for £278m, sold it to the current trio at a loss, for an undisclosed figure thought to be just over £200m. It’s clear that PRICOA’s equity investors will have made a huge profit on their original stake, which may explain why ADIA aims to take some profit now – but stay in longer by keeping part of its stake.
The huge increase in Arlington’s value has come from several quarters. Arlington’s investments were worth £485m in 2001 and are expected to be valued for 2002 at nearly £700m. This feat generated returns of around 20% pa. NAV rose from 101.3p per share in 1998 to 150.4p in 2001.
At the same time, gearing has risen steadily, from 59% in 1998 to 117% in 2001 to boost returns and fund the development programme that in the old days was bankrolled by selling the buildings as they were let. Cash from the £70m sale of four investments at Christmas (News, 4 January, p11) will be used to pay down some debt, and selected sales of mature investments will continue from time to time as Deigman says the portfolio is now big enough to trade.
He also wants to keep a balance of around 20% of assets in development rather than investment properties, “otherwise we would lose our main skills for adding value”.
These skills include the services offered to park tenants through Arlington Business Services, of which Deigman is so proud. They are not yet a big cash generator but the chief executive believes they will be. In 2001, this division turned over £10m and made a profit of £600,000; the results for 2002, due out in a few weeks, will show further growth.
Tenants can get anything from design and fit-out to Total Workplace Solutions, which will run everything in their buildings for an all-in rent on three- or five-year contracts, often on short leases.
On ArlingtonOnline, launched in 2000 at an undisclosed cost, companies can do anything from requesting a plumber, paying and being invoiced to booking travel. Part of the role of managing director Simon Hawkes, who joined Arlington from Debenhams in December, is to develop revenues from the website, including licensing to third parties. Institutions are an obvious target.
“Although we make money out of the services side, the greatest benefit comes from the knock-on effect to the core business,” says Deigman. “Last year and the year before about 40% of our lettings were repeat business and we’re convinced it came to us because of the services we’re providing.”
With experience of 36m sq ft of space either developed or with consent, Arlington’s boss has come to believe that flexible services are more important than flexible lease terms to most customers. Arlington offers shorter leases – about 10% of tenants opt for five years – but 85% take 15 years or longer, especially specialist companies that spend a fortune equipping their offices.
Investment portfolio proves very healthy
Arlington Development Management, set up three years ago to work for non-competing third parties, is also profitable (see box above). But the biggest revenue stream by far is the investment portfolio, which the company has built up from almost nothing five years ago after a bumpy ride in the early 1990s as a developer trader. As mentioned above, the 114-asset portfolio is now looking very healthy.
When PRICOA bought a stake in Arlington, pundits said the firm would be fattened up for flotation. It has indeed been fattened, but a float seems unlikely in the current climate. Deigman says creating limited partnerships to fund future development and spread ownership is a certainty in Europe “where we are starting with a clean sheet” and is also likely in the UK. Uxbridge Business Park may be the pilot, followed by Manchester.
Perhaps one day Arlington will become a quoted REIT. This could be a real possibility on the Continent, where France is introducing legislation for REITs this year.
Nine years ago, when Deigman was interviewed by Estates Gazette, moving abroad was a low priority, partly, he said, because the cultures were too different.
“We looked at a project near a major Mediterranean city and there were two sites, on different sides of the airport,” he recounted then. “We thought we’d pick the one further from the city centre because it would be cheaper. But our local adviser said that would be no good because the chief executives wouldn’t have time to visit their mistresses over lunch.”
Arlington is about to find out whether the Continent has changed as much as the company has in the intervening years.
PRICOA’s head, Jonathan Short, believes Arlington will crack Europe. “It will have to be careful about how it expands in Europe, but there’s real demand for it. There isn’t anything of the quality of an Arlington park in the Netherlands, Benelux countries or Germany, where we have other investments, and there’s potential in France, Spain and Italy. And it has the brand. Deigman is very hands on, and has a good feel for the business and a good team. It all makes Arlington the best business park developer by a mile.”
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The thoughts of Patrick Deigman |
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On landlord-tenant relationships “Our aim has been to create a service-driven property company. “We started this journey in the early 1990s and it’s a long journey, because it is difficult for property companies to go from being pure property companies to being service providers. As a property developer, we are used to dealing with programmes and budgets and things you can touch. As a service company, you’re dealing with people’s expectations.” On good service “We offer tenants a menu. You can pick one item off the menu or you can pick all 85. What we don’t do, as many FM companies do, is say ‘buy the package’. We probably provide a different service for every single one of our customers.” On the competition”Hammerson and Grosvenor are making the effort to become service-driven. They are behind us, but going in the right direction.” On development pressure in the South East “We’ve expanded from the south of England to the West Midlands. The West Midlands is getting to saturation point. There will come a time when things start to move east. It’s been slow to happen and the dip we’re having at the moment will slow it down but if you look at the workforce there, house prices, the infrastructure going in, that growth will happen. It’s inevitable.” On business park tenants”One of the first things we do with every new park is get the map out and look at our customer base of 375 companies and see how many of them are there. We put the pins in. “We know who our customers are. And we know the people who won’t go near a business park.” On European business parks”Business parks in Europe today are where they were in the UK in the late 1980s. And there is the same challenge: explaining the product to people.” |
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How Arlington handles its 3.1m sq ft portfolio and its tenants |
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Patrick Deigman says people assume business park lettings are big and sexy. Yet over 80% of Arlington’s lettings are for under 25,000 sq ft, “so last year we kept plodding away at our core business”. It had to do a lot more to clinch those deals: last year it let space to Hutchison 3G at both Manchester (38,000 sq ft) and Birmingham (35,000 sq ft), but allowed Hutchison to sublet back a third of the space at both locations for three years. Not all the deals were outside the troubled South East – which makes up over half Arlington’s investment portfolio. It secured Parexel in Uxbridge in April, for example, in the face of fierce competition. |
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Despite downturn, the company is still racing into action |
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The six main divisions of Arlington Securities cover development, investment, FM and bespoke building projects |
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Arlington Property Developments runs the entire UK development programme, and is headed by Jim Johnston. Bruce Usher joined this month from Slough Estates to head sales and lettings. A director of land acquisition and planning is to be appointed shortly to build up the UK landbank. The biggest site in the landbank is at East Midlands airport, where Arlington has 800 acres under option. Thirteen of the firm’s 22 UKparks have consent for more development. Arlington European Developments was set up last year to concentrate on Europe and is run by Nick Murray. Patrick Deigman also looks after Arlington International Developments, which has consent for a 500 acre park in Shanghai. Arlington Property Investments looks after the £700m investment portfolio (see charts, left) under Chris Carter Keall, while Howard Bibby is managing director of Arlington Business Services.Three years ago the company set up Arlington Development Management. Led by Windsor Richards, it runs projects for non-competing firms, including the 600,000 sq ft HQ for motor racing group McLaren. The project includes an array of facilities from the McLaren International grand prix team to a production site for TAG McLaren’s £200,000 Mercedes SLR sports car. The buildings are about to be handed over for fitting-out, and will open later this year. Arlington does seem to be weathering the severe fall in occupational demand. “Look at our track record,” says Deigman. “We never build more than one phase at a time on any park.” In the 12 months to July 2002, the team managed to let 1.2m sq ft. |
