Trees don't climb to the sky
Adjusted for inflation and accompanying measures, prime rents in inner Paris, the alpha and omega of the industry, have been remarkably stable over the past 20 years, confirming the effectiveness of commercial real estate as a hedge against inflation... but at the same time contradicting the industry's predictions that the symbolic €1,000 ex. tax/m² mark will soon be crossed in Paris.
The Paris region office rental market is not growing, but changing.
Aside from certain transactions acting as "markers" (for example, Goldman Sachs' lease of the Avenue Kléber complex owned by SFL for a "prime" rent of €940 ex. VAT/m²), when will we see market statistics showing the evolution of demand in value terms, adjusted for inflation and accompanying measures, which would be the least we could do for a Parisian market described as hyper-transparent?
The market indicators currently provided by French operators, applied to a carmaker, would be akin to providing the price of its top-of-the-range model with the best options... by way of "guidance" on the trend of its sales or profitability! It's hard to form convictions under these conditions...
A confirmed disconnect between rental value and market value
The phenomenon of desynchronization between the evolution of Paris office market values and the situation of the real economy continues. It is essentially fuelled by the very low level of interest rates, and not by the quality of rental conditions.
Firm leases are no longer firm in name only.
In 2020, as after every crisis (2000-2001, 2008-2009, 2015), renegotiations during the course of a lease have featured prominently on the agenda of senior management looking to cut costs.
How long will this phenomenon last? Patrick Artus answers: as long as interest rates are very low... and they will be for the next five years...
Hotel conversion: the new Eldorado?
While the redevelopment of office space into residential accommodation, while attractive on paper and politically, is proving complex and costly to implement (successful examples are still few and far between), the question of the future of many hotels, particularly in Paris, hit by several months of closures, will be raised.
In the Paris region, 2,300 hotels will change hands over the next ten years due to the age of their owner-operator.
In Paris and the Paris region, many hotels are still privately owned. Over the next ten years (source: CCI), 2,300 hotels with fewer than 50 employees (71% of which are located in Paris) will be transferred due to the age of their owner-operators.
The harshness of 2020 could accelerate this trend: the conversion of hotels into accommodation or offices, which we have studied in recent real-life cases, is proving to be fairly straightforward, apart from the question of personnel. For the time being, we see few forced sales, but rather an adjustment of values, in the expectation that the walls of these companies will be sold, perhaps to turn them into something other than a hotel...
Coworking is dead, long live coworking!
Similar to the SaaS (Software as a Service) revolution, which in the 2000s supplanted software architectures based on stacked layers (server/license/maintenance/integration), the emergence of coworking has strongly shaken the real estate industry between 2015 and 2020, well beyond the modest 3 to 4% its share of the stock in major international metropolises reached (before Covid).
Threatened in its renaissance by the levels of density its business model requires to be profitable (see WeWork 's move to refocus on city centers, to compensate for the de-densification of its spaces with higher prices per shift), post-Covid coworking will have to play the outsourcing card rather than the flexibilization card. Indeed, faced with telecommuting, which adds an extra dose of complexity to workspace management, and the technological enrichment of square meters, companies will want to outsource the management of their buildings (and associated staff) to "turnkey" operators.
Promising to manage complexity rather than flexibility: that's the industry's new martingale.
This is where the industry's future lies, and consolidation movements are likely to take place in the coming months, driven by owners, property management players or intermediation companies looking for less risky growth drivers than the transaction business, in the same way as they have initiated in facilities management.
The return of sale and leaseback
Swimming in a sea of cash, companies - including the least healthy among them - are paradoxically rediscovering the virtues of sale and leaseback operations, in response to the repayment of PGEs and falling margins.
In the United States, sale and leaseback transactions are as important as the real estate investment market in Germany... They are a financing method in their own right, and not a lifeline for distressed companies, as they are perceived to be in continental Europe.
Much more than a hive-off, sale and leaseback is a very long-term financing method (20 to 25 years), backed by lease contracts, the plasticity and ductility of which we reiterate in the next section.
At a time when banks, faced with an inevitable rise in their risk provisions in 2021, will be restricting and tightening their credit conditions, companies will be turning to these alternative financing methods, including to finance turnkey operations.
Confirmed flexibility of lease contracts
One of the key words of the year was resilience. Our good old commercial lease is a good illustration of this word. Despite being over 60 years old, this legal instrument is proving its plasticity and ability to reflect market trends.
The supposed "rigidity" of the commercial lease stems much more from deeply rooted market practices than from the constraints inherent in this type of contract.
The supposed "rigidity" of the commercial lease stems much more from deep-rooted market practices than from the constraints inherent in this type of contract. Its supposed rigidity stems above all from "market practices" that vary according to the balance of power between lessee and lessor, and which need to be challenged through well-managed negotiation processes and with the help of advisors. As for legal support, it can be adapted to just about any requirement and configuration... and meet every need.
As soon as appraisers stop capitalizing on rental income ad infinitum while ticking off the presence of a few standard clauses, the sacred cow that is the triple net investor lease will be replaced by more diverse and hotel-like indicators, much better able to reflect the quality of a real estate asset: level of square meter utilization, average Ebit of the building's tenants, alignment between contracted and actually observed Walt's, time to market for vacant space, energy performance, and so on.
Telecommuting becomes a reality
How long ago (2017) the time of the Labor Law or El Khomri Law when the right to disconnect was presented as a major social advance! Officially appearing in Europe in 2002 in the form of a framework agreement, telecommuting really took off in France in 2020.
Evolving from the status of a facility granted to deserving and reputedly hard-working employees to that of a more appreciable, accepted and widespread modality, telecommuting became a social, economic and organizational reality at the end of the gigantic two-month "Proof of Concept", occasioned by the first confinement.
Beyond the debates between the old and the new, one thing is certain: the long-term anchoring of telecommuting in practices, at the rate of one or two days a week, will have a lasting impact on demand.
Over and above the debates between the "officeists" (advocates of the all-office approach, led by the major real-estate companies who make "small talks" around the coffee machine the raison d'être of their offices) and the "teleworkers" (advocates of the total virtualization of social relations), telework will find its cruising speed, around a gauge frequently estimated at two days a week... Neither the big night, nor the status quo, but the reinforcement and amplification of a trend that dates back several years.
What's new? It's the fact that these two days a week will be more systematically taken and teleworked. The lessons learned by Sodexo and its RIE competitors, for example, include a sustained 25% drop in the number of people using their facilities, and serious strategic rethinking. If RIE operators are seeing 25% fewer customers in their facilities, what about office owners?
Fewer square meters, but more functional square meters
The two periods of confinement struck a chord with senior management: as they walked across empty floors, they realized how much their office space could be like expensive capital, because it was being misused.
This realization, coupled with the deployment of telecommuting, is bound to have a deflationary impact on take-up. Barclay's, in a study dated September 2020, estimates this at -10 to -20% of demand for square meters over the next ten years in Europe, and Capital Economics at -20 to -25% on revenues for the European real estate industry over the next five to ten years.
Fewer square meters, but square meters that are richer in technological content and therefore more expensive.
However, these lower volume requirements will translate into a higher cost for these square meters ("less therefore, but better") due to the more systematic deployment of technologies and services enabling :
- measure the use of these areas ;
- facilitate the use of these spaces by employees, who now understand them in terms of what they need to do in them;
- work more fluidly in hybrid mode.
By way of illustration, the use of sensors coupled with a workstation reservation application increases the cost of a workstation by around 13%. Similarly, equipping meeting rooms with audio-video systems, facilitating face-to-face and remote team meetings, reduces the cost of partitions to chump change.
Beyond the volume and value of square meters, the question arises of the limits of services and the contours of the real estate owner's offer. Without going into detail on the next point, we are convinced that property owners and investors will benefit from broadening their range of services for businesses, and marketing equipped, ready-to-use buildings where appropriate, rather than bare shell & core platforms. Covivio's success with a recent project in the 13th arrondissement of Paris is testimony to this.
Property owners and real estate companies: the service revolution?
Covivio with Wellio, Icade with Imagin'Office, AG Real Estate with its Plug & Work concept, Primonial with the appointment of a Head of Customer Relations: examples of marketing and sales initiatives by real estate companies aimed at rebuilding their relationships with users, now promoted to the rank of customers, are flourishing, with a definite acceleration over the last 18 months.
The importance of this new "Customer Centricity" is reinforced by the shocks suffered by Unibail-Westfield, which remind us that stone does not immunize against shareholder slings and strategic reversals, even among the most powerful and established.
If real estate companies don't want to go the way of the banks, they will have to move from marketing supply (I have a building in the right place) to marketing demand (how can I address your needs and become your "Trusted Landlord"), experimenting as much as possible, as many of them are doing, without seeking their salvation in the simple acquisition of start-ups, which will enable them to polish up their annual report.
From this point of view, all the initiatives and transformation plans deployed by the social housing sector are interesting. The sector has quietly embarked on its radical transformation, and many of the lessons to be learned from this are fruitful for "capitalist" property companies.