Asset managers need staying power for residential property

- Refurbishment of older residential properties currently only pays off in prime locations
- Standards expected to drift apart between locations
- Return on investment not achievable in just a few years
- Investment horizon of several decades ideal

The average age of German residential property portfolios is high and the refurbishment backlog is immense. In addition, the requirements for climate neutrality are taking shape and putting pressure on owners of older residential property. At the same time, property values are weakening, especially for older properties in need of refurbishment. Can residential property portfolios still be managed to increase their value? Four experts discussed this at an online panel organised by RUECKERCONSULT: Arnaud Ahlborn, Managing Director of INDUSTRIA, Dominik Barton, CEO of the Barton Group, Gerhard Lehner, Head of Germany at Savills Investment Management, and Einar Skjerven, CEO of the Skjerven Group.

Huge refurbishment backlog, but properties still lettable.

The residential property market is currently characterised by opposing trends: on the one hand, property values are under pressure following the turnaround in interest rates, while on the other, demand for residential space is enormous. ‘In my home market of Berlin, for example, there are no vacancies. So - unfortunately - even unrenovated properties are easy to let,’ says Einar Skjerven. But is this also sustainable? ‘For many years, residential property was too easy an investment. Many owners have invested very little in their properties for decades. For this reason and due to the high average age of existing buildings, comprehensive refurbishment is absolutely essential,’ explains Gerhard Lehner. Dominik Barton adds: ‘Although the ESG regulations have been tightened, the tough refurbishment obligation has been softened. Nevertheless, it is the owner's responsibility to keep their property up to standard.’

High service charge burden in unrenovated properties.

Under normal circumstances, extensive refurbishment would be carried out to increase property values. But is it currently worth refurbishing residential buildings? ‘Due to the higher rent levels, complete refurbishments generally pay off in A or B cities, but not necessarily in C cities due to the lower rents there. They will suffer from the fact that there may be less investment in existing properties,’ says Barton. Lehner agrees with him: ‘It won't be possible to increase rents in the weaker locations quickly enough to realise a return on investment within two to four years. But we all have a social responsibility to create a certain level of living comfort for everyone. That is the S in ESG.’ Ahlborn also points out the social component of this development: ‘Investments will not be made in properties that are already of a poor standard and where the basic rent is low. The residents, who are often already under financial pressure, will be burdened with higher ancillary costs on top of this. I can only appeal to the sector to find ways to invest in locations where refurbishment is not immediately profitable. We also need to influence politicians here.’

The call for government support was otherwise rather muted among the panellists. Barton: ‘I think the private sector has to realise this on its own. Government support is also currently fraught with uncertainty. Ultimately, however, every investment must pay off and generate a corresponding return.’ Skjerven: ‘In Germany, there is much less planning security for state subsidies than in other countries.’ This is also noticeable in the demand from international investors. Nevertheless, the German and especially the Berlin residential property market remains attractive for international investors. There is particular interest from institutional investors from the UK, the USA and the Far East.

ESG investments do not pay off immediately, but in the long term.

Even without an immediate refurbishment obligation, the sector is under pressure: according to the European Green Deal, the building stock must become climate-neutral by 2050, which will entail extensive investments in the medium term. Institutional investors certainly have this in mind, even if ESG investments are often not immediately profitable at present. ‘We have investors who are currently very keen to modernise the energy efficiency of their housing stock. Investors are asking us to draw up multi-year ESG capex plans,’ reports Lehner. This is one of the reasons why investments in residential property should always have a long-term horizon, at least ten years, ideally several decades.

Ahlborn: ‘Our institutional investors also generally have a horizon of at least ten years. This makes it possible to draw up business plans with extensive investments over several years. Firstly, the locations of the individual assets in a portfolio are relevant, as this is decisive for future rental development. Secondly, the lease structure is decisive: whether or not it permits modernisation levies. The third elementary factor is whether what is planned can also be realised technically.’

Barton explains: ‘The days of just “flipping” a property are over. You have to think of a residential property fund more as an evergreen. Residential property is not the yield driver in a portfolio, nor should it be, but rather serves as an anchor of stability. Today, you can no longer focus solely on value appreciation. Rent increases and indexation are essential in order to be able to work against a falling market and generate a net return.’

Skjerven adds: ‘We have to consider the debt side as well as the equity side. Banks are currently taking a very close look at energy performance certificates, for example. It is also a form of value add if you can get a higher loan-to-value ratio or better financing conditions by investing in energy efficiency.’

Asset managers need digitalised property managers.

Property management is a key success factor for property management. This was emphasised by all participants in the discussion. Ahlborn put this in concrete terms for INDUSTRIA: ‘We have converted five of our eight special funds into Article 8. This was only possible at this speed because we have in-house property management. Because you have to know the details of every single property.’ The demands that asset managers place on property management have changed: ‘We need a focus on ESG. Digitalisation is also an important requirement that we have. Some providers are now falling through the cracks,’ says Lehner. ‘The good thing is that tenants today are much more tech-savvy than they used to be. This is because many routine tasks can be carried out digitally, for example with chatbots, especially in tenant communication. Speed is an important issue in property management, especially when changing tenants,’ says Skjerven. The Barton Group provides most of its facility management independently. Dominik Barton comments: ‘The facility manager is essential when it comes to ensuring direct tenant support on site.’