How can asset repurposing turn around the fortunes of underperforming properties? Here we explore the top five drivers influencing this trend in the APAC market. 

Many structural shifts within the real estate industry have been ongoing for some time prior to 2020 such as the disruption from e-commerce on brick-and-mortar retail.

Covid-19 has accelerated these shifts by several years and in some cases, brought these disrupted sectors to their knees.

We are starting to witness a two-tiered market forming as the more resilient prime assets continue to hold their values, while the non-prime assets start to see their values deteriorate as functional obsolescence takes hold.

A shrinking pool

Investors are increasingly gravitating towards newer assets that are less than 20 years old, indicating the pool of buyers for older assets is fast shrinking.

Knight Frank analysis, in 2018, showed that the proportion of all transacted properties that were 20 years and older across Asia-Pacific stood at 46%, though this came down to 37% in 2020.

In Singapore and Hong Kong, the office market inventories have gradually shifted towards a greater proportion of Grade-A assets, rising from 22% to 33% in Singapore and 64% to 65% in Hong Kong from 2016 to 2020.

Across sectors, there are bifurcations in the capital returns as well. Australian annual rolling capital returns for industrial assets rose to 7.9% by the end of 2020, while the retail sector struggled amid the pandemic, falling 13.9% in the same period.

Repurposing assets

As property incomes and market values come under pressure, asset owners who have been slow in repurposing underperforming assets pre-Covid-19 are now jumping on the bandwagon.

The key benefits include acquiring assets at a discount to the price of the finished product, reduced competition from investors who are only interested in passive strategies and speed to market.

Across the region, we are witnessing massive moves to repurpose assets and bring them to relevance in the evolving landscape.

There are five demand drivers influencing this trend:

1. Uncertainties around occupier demand over the medium- to long-term.

One big push factor in driving asset repurposing is the uncertainties around occupier demand assessment. 75% of the significant global occupiers surveyed by Knight Frank indicate that COVID-19 will have a long-lasting impact on their real estate over the medium- to long-term.

Landlords, particularly those holding older assets, are especially vulnerable. With the adoption of hybrid working models likely to lead to a reduction in occupiers’ footprints, quality is likely to come into focus, driving a flight-to-quality trend. The shift towards more collaborative spaces and more health and wellness-centric buildings have also resulted in a compression of a building’s life cycle and an accelerated rate of obsolescence.

In Kuala Lumpur for example, a structural oversupply of office spaces has put pressure on office rents and occupancy for years. Wisma KFC, the main office of the Kentucky Fried Chicken company in the 1990s, had become vacant since 2017. Instead of continuing to face the increasing competition in the office leasing market head on, the new owners decided to convert the long-vacant property into a 430-room luxury hotel instead.

2. E-Commerce disruption rendering retail assets obsolete.

Covid-19 and its resultant lockdowns ensure that nearly all forms of retail need to have an online presence. Despite movement restrictions largely being lifted in many regional countries, consumer behavioural changes will likely outlive the pandemic, the subsequent recovery in footfall at physical stores across the region has been less than expected. This profound shift means that retail properties, especially those that were struggling before the pandemic, may never regain their pre-Covid values.

3. Prolonged weak international tourism impacting hospitality assets.

For many major tourism destinations in APAC, the lack of international travel has had devastating consequences. International tourist arrivals for the APAC region slowed to a trickle in 2020, plunging by 84%. Tourist arrivals in Hong Kong and Singapore declined by 94% and 85% year-on-year in 2020. Pre-Covid within the APAC region, mainland Chinese tourists made up around half of inbound arrivals in South Korea, Vietnam, Japan and Thailand, while they account for up to 80% in Hong Kong.

Hotels naturally took the hit with occupancies across the region averaging between 20-30% throughout 2020, leading to significant declines averaging more than 50% in revenue per available room for most major hotels in Asia-Pacific.

4. The growing importance of Environmental, Social and Governance (ESG).

ESG factors have, for the longest time, been seen as desirable by many investors and assets owners globally. However, as institutional investment criteria evolves further and ESG requirements become more of a necessity rather than a vanity, the real estate sector, being one of the largest contributors of greenhouse gasses, needs to itself evolve to stay relevant.

With the focus on sustainability and constant drive to reduce downtime, repurposing of the buildings rather than demolitions is becoming the preferred option both socially and economically.

The approach to repurpose the non-ESG compliant stock also leads to mixed-use developments, which provide for better live-work environments and unlock a property’s unrealised potential by switching to sectors that have a better long-term growth prospect.

5. Emergence of sectors with structural tailwinds.

While the pandemic has not entirely negatively impacted the real estate sector, traditional commercial sectors such as office, retail and hospitality have received the short end of the stick.

The industrial sector is an obvious winner, as the boost in e-commerce consumption has bolstered the demand for logistics space and data centres, while the greater importance placed on life science has increased the need for high-spec biomedical manufacturing facilities. These are the significant pull factors that have drawn asset owners to the repurposing journey to extract higher value from underperforming asset classes.

For instance, the rising demand for last-mile logistics due to rapid e-commerce growth in the market has led to a supply constrain in the inner-West market of Sydney. The Auburn Redyard Centre is a former retail-cum-leisure centre that is now being planned to be transformed into a last-mile logistics hub in the area. The big box format of the asset means that the physical specification of the property is close to that of the typical prime logistics facility.

No one-size-fits-all approach
There are real opportunities for investors and developers to repurpose some of their assets for alternative or mixed-uses. While there is no ‘one-size-fits-all’ approach, location, demand and local infrastructure will inform what is viable, repurposed uses are likely to range from healthcare, co-working/flex space to residential (including build-to-rent) and logistics use, based on case studies we have gathered from across the region.

We also expect to see more opportunities to acquire underperforming assets at reduced values from sellers who are either moving away from the vulnerable sectors or seeking to rebalance their portfolios away from brick-and-mortar asset classes of the old economy into the new economy assets.

While the viability of repurposing each asset will be different, we believe this is an exciting opportunity for both investors and developers looking for sites with potential to meet a new, evolving demand in the market.

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