Property by Property Analysis
The current situation highlights the importance of three key factors in valuation; firstly looking at each asset on a case by case basis, secondly focusing on the known facts which will primarily be understanding what is happening occupationally and thirdly reflecting the transactional evidence where it exists.
Near Term Impacts versus Slower Burn
The impact has had some very visible and immediate effects on retailers and leisure operators but we are aware that it is only a matter of time before the stress placed on businesses that occupy industrial, logistics as well as offices will become apparent despite the best efforts of the Government to provide support.
Valuation Movements at the March Quarter
Valuers have just been reporting to clients the March quarter figures and my strong expectation is that all sectors bar Central London offices and the best industrial and logistics units will see a marked downgrading in value – expect on a balanced portfolio about a 5+% shift vs valuations reported at the end of December 2019.
There are still some transactions taking place which help benchmark values but these are in a limited number of sectors, notably Central London offices, long let supermarkets, multi let industrial and logistics. The approach that valuers have taken is to focus on the occupational story as this provides the most immediate insight and the rent collection figures are a key metric that we are tracking.
Valuers have looked at the likely impact of rent not being collected and deducted as a capital sum the equivalent of between three and six months of the rent roll, as well as adjusting estimated rental values, increasing voids for empty units and lengthening void period for units which have lease expiries or tenant break options in the next 18 months and finally adjusting yields to reflect the further deterioration in sentiment.
Out of town retail has, in relative terms, faired better albeit we expect value drops to be in the order of 5-10% unless they are anchored by a supermarket unit paying a substantial part of the rent roll as well as being let on a long lease. The valuers approach has been very similar to that applied to the shopping centres but deduction for estimated rent losses have typically been lower at the equivalent of around three months.
There is the expectation that offices outside London will see the largest diversity in valuation conclusions driven by the lack of visibility on the occupier side at this stage and as a result the fall in valuations is likely to be less pronounced in the negative 3-5% bracket versus the end of December with larger falls associated with those properties in peripheral locations as well as those with high vacancy or near term lease events. Valuers will typically be extending void and rent free periods, adjusting rental values and moving yields outwards.
Valuers will be paying close attention to the rent collection figures as they represent a key forward indicator. In this fast moving environment use of the usual measure of covenant strength is no longer reliable as it does not reflect the reality of the challenges faced by many businesses.
Based on our intelligence of the rent collection at the March quarter unsurprisingly the retail sector is lagging with a rate of between 30-40% but even the industrial sector where capital markets transactions have continued to demonstrate robust pricing collections statistics are down at around 70% and offices are to date showing the most resilience with collections averaging between 70-80%.
However, we expect more pain to come which will be reflected in the June quarter valuations and this will mean analysis at a property level will be absolutely key. This is particularly apparent as the capital markets slow further as the sales in advanced stages complete, or are put on hold and very limited new stock is brought to the market.
A Disclosure Not a Disclaimer
The use of a Material Uncertainty Clause in valuation reports is controversial and is now in all reporting that we and other major valuation houses are issuing. The purpose and effect of the clause is frequently misunderstood with the often quoted criticism that it renders the valuations meaningless or that undertaking a valuation is not possible.
The clause is designed to be used in unprecedented circumstances and its purpose is to ensure clarity and transparency for all parties. Crucially it is a disclosure not a disclaimer. All valuations are estimates built upon multiple layers of fact and judgement and in the current circumstances it is both fair and reasonable to note that currently less certainty can be attached to valuations than would otherwise be the case.
We will continue to monitor closely the use of this clause in order to ensure that it remains valid. Our expectation is that certain properties such as annuity class investments let to Government tenants and Central London geared ground rents will become exempt from its use before others.