by Adrian Silver, Executive Account Manager & Harris Cohn, Vice President, Commercial Real Estate
As the commercial real estate industry begins to claw its way out of the COVID-19 pandemic crisis and into a new normal, how can investors make strong investment decisions for new acquisitions?
While there are historical parallels to our current situation – this is neither the first economic depression nor the first pandemic – we are in uncharted territory in terms of reach and scale. Amidst great uncertainty, investors can and should first focus on what’s in their control, and then prognosticate the future of the industry writ large.
For the last few months, investors have been almost universally focused on triaging their portfolios: fielding requests for rent relief while determining which tenants are truly needy or simply opportunistic; re-tasking acquisitions teams to help with asset management; and, in the worst-hit sectors of hospitality and retail, doing damage control like furloughing staff and restructuring debt via loan workouts.
What comes next? Predictions run the gamut: for example, some assert that demand for office space will increase with needs for social distancing, while others believe that office leasing will suffer as companies allow employees to work remotely. McKinsey outlines the various behavioral changes that could outlive this crisis and affect certain asset classes: shoppers turning towards e-commerce (a hit to retail, and a boon to industrial); baby boomers declining to move into senior living homes; and finally, perhaps saying goodbye to the dense open office plan.
Most firms have decelerated or completely paused acquisitions for the time being. Property sales for the second quarter will undoubtedly suffer, despite there being a record amount of dry powder (US$330 billion) available. There are a few exceptions, with some institutional investors actively raising distressed funds to take advantage of the market dislocation. Regardless, activity will eventually pick up, perhaps in a record-shattering way, and it will be interesting to see which investors can adapt their acquisitions process to deliver consistent overperformance compared to market movements
COVID-19’s shelter-in-place mandates have uncovered many of CRE’s technological vulnerabilities in asset management – but the pandemic will likely serve as a technological inflection point for the industry as zero to low occupancy gives investors an opportunity to re-evaluate immediate and long-term strategies – and that includes acquisitions strategies. Just like post 9-11 operations increased demands for building security, COVID-19 will heavily incentivize remote acquisitions and further digitization of acquisition operations and planning. Investors must look to add to their playbook of well-established best practices. Savvy investment managers have an investment thesis prebaked — leveraging big data trends other investors cannot see; using augmented reality asset visits and construction design mock-ups for lobby upgrades and amenitization to push rates and attract higher credit tenants; using tenant improvements to unlock additional rentable square footage by reclaiming mechanical space with better MEP design. Regardless of the strategy, effective digital acquisitions have never been more important to adapt to a rapidly shifting industry.
The oft-neglected back-of-house operations can also be a treasure trove of new NOI. For example, leveraging our AI technology platform, CLUES®, Carbon Lighthouse can deliver a range of contractually guaranteed OpEx savings averaging ~$0.30/SF at a minimum financial return. We leverage more than 100 million square feet of anonymized energy data from existing assets on our platform to pinpoint the NOI to be gained. The scope of the guaranteed savings – which our engineers will implement once the acquisition closes – often dovetails with upgrades that otherwise had an unclear ROI, and can thus be baked into the business plan from the jump, at the time when investors have the lowest cost of capital.
Here are more acquisitions best practices developed by ULI to embed sustainability into real estate transactions and capture increased asset value. This can be just the beginning of modern CRE acquisitions, with more tech-savvy, resilient and cleaner buildings. As the industry is being reinvented and ESG is demanded with redoubled vigor, the pandemic can be an opportunity to modernize commercial real estate for the future.