The property industry needs to change. That’s nothing new. However, COVID-19 is a spark that is likely to set a fire under much of what we know.
When I joined the industry 15 years ago, much of the sell was that ‘this is a people business’. More critically, I was told that surveying is what you end up doing if can’t get into banking. I don’t think that’s fair. As a reformed lawyer, I have found those in real estate to be quick minded, commercial and entrepreneurial. However, the same cannot be said of the industry as a whole, which fairly earns its attribution as sleepy and backward looking.
Perhaps because the industry has historically offered a quality of life above many other careers, whilst combined with decent earnings potential, there has been little incentive for people to change. Similarly, for businesses, whether on the advisory or principal side, positions have been cosseted.
For investors, there is limited genuine competition on product. Most make their money on timing things well and spotting under-pricing; the word ‘customer’ is a relatively new concept. For occupiers, a group with more liberty to innovate, an overwhelming focus on cost has crowded out the discussion on the value of space. And in this context, advisory practices have had limited cause to adapt. Success in real estate advisory relies at it always has, on personal relationships, experience and tenacity.
The barriers around our industry have also restricted the gene pool. We are well behind other industries in gender, ethnicity and socio-demographic diversity. Equally troubling, we have limited our diversity of skills to those needed to do jobs that we largely designed 30 years ago. All of this inhibits innovation and gives rise to the spectre of disruption.
And so, in spite of radical change in other sectors, one might be forgiven in mistaking the real estate industry of today for that of 10 years. Nevertheless, an undercurrent for change has been building momentum for some time.
This has typically arisen from one of three sources.
Firstly, big personalities. Over my career, I have worked with several personality driven organisations that are willing to shake up the status quo. Founder owned business can innovate in a way that public businesses and institutions, weighed down by governance and reporting, find more challenging. However, increasingly, these are few and far between. Consolidation in all areas of the industry has led to fewer, bigger businesses, and typically it is these large cost-efficient businesses that are dominating the industry.
Secondly, exogenous influences. In recent years, several businesses have peered into our industry and found something lacking. Particularly the tech sector and those with platform models, have tried to export these principles to real estate with varying success. For commercial real estate generally, Proptech has failed to deliver on its promise. Office 365 has had a much bigger impact on our industry than any faddish app or one of the now ubiquitous ‘the Uber for…’ aggregators. The most significant innovators like AirBnB and WeWork, haven’t really been about tech, but rather reframing an offer to better suit the needs of the end user.
The final source of innovation is distress. It is no surprise that retail is where the most interesting things have been happening over the past 5 years. The threat of failure is a powerful incentive to change. That same threat now presents itself on a much wider basis.
However, the ability to change is not equal.
The paradox for most successful businesses is that their success is often measured by their ability to return value to shareholders in the short term, whereas their future potential is reliant on investments made now that might limit their capacity to do so. A good story on growth and reinvestment is often traded off against annual dividend payments.
The economic environment in which we now all operate constrains resource and creates cashflow challenges. The inevitable response is to preserve stability by turning off discretionary expenditure. When the wolf is at the door this makes perfect sense. However, this implicitly stores up a challenge for the future. If investments in change are not made in the short term, then self-evidently change will not materialise in the medium term. This provides an opportunity for those businesses with significant cash reserves to steal competitive advantage. Evidence shows that those businesses that invest during a downturn perform better over the cycle; however, this is a luxury of the cash rich, and those that have earned some slack from their shareholders.
One could as easily apply this principle to counter-cyclical investment, occupier investment in workplace, or investment in technology that will create longer term business efficiencies. Those that will come out on top over the next 5 years, are right now looking at growth and opportunity in these areas.
So, what are we likely to see happen in the next 2 years?
Firstly, we will almost certainly see some distress. Experience tells us that those that arrived at the party late and geared up thinking the cycle had more steam will be the worst hit. In the Proptech sphere, many start-ups that operate hand-to-mouth at the best of times, will likely go to the wall. Some sectors, through no fault of their own, will suffer extreme operating impacts in the short term and potentially longer-term structural shifts, which will diminish their relevance. Across all areas of our industry, those that aren’t able to adapt will struggle. Some of these will fail, but I suspect that more will be eaten up by the financially stronger competition as PE ratios reset. Watch out for further industry consolidation.
Secondly, whilst few would actively seek out such, a pricing rebase has the potential to catalyse change. The evidence on pricing tends to follow the fact, and large emerging discounts to NAV point to the future. A number of assets across the country, stagnating under the millstone of their book values, will be unburdened, unlocking the potential for redevelopment and renewal. Some existing owners holding for income will be replaced by banks, capital appreciation vultures and perhaps the public sector. Watch out for shifts in the ownership of real estate.
Thirdly, in a world where remote working is given more emphasis, businesses can and will become more globally integrated – talent pools can be drawn from further away. Workers at Twitter, which announced last week that employees need never go back to the office, can trade their expensive Bay Area flats for an estate in southern Italy and still keep their jobs. Watch out for shifts in who works in our industry and where they work.
Finally, businesses will take a long look at themselves, and perhaps see this as the time to give up old dogmas that are no longer relevant. External shock creates a focus on necessary internal change that might have been bubbling for a while. For the industry this might mean finally letting go of the past. The value chain of assets, skills and capital will be unsettled, as will the relationships between those that provide each. New importance must now be placed on:
(a) a new proposition to the end users of real estate that gives them something beyond a place to keep dry,
(b) data and analytical skills – a professionalisation of real estate expertise,
(c) new commercial structures between investors, occupiers and advisors, and
(d) a genuine approach to ethical and sustainable propositions that goes beyond lip-service.
Should you be concerned about the change to come? Only if you’re not willing to change. If you are concerned, I can recommend no better book than ‘Who Moved My Cheese’ External Link. For those looking for a precis, I borrow the words of US writer William Arthur Ward: ‘The pessimist complains about the wind; the optimist expects it to change; the realist adjusts the sails’.