2020 could be a period of transformational shifts for real estate

While Covid-19 at its core is a public health crisis, there is no doubt that the resulting global pandemic and economic fallout has left the real estate industry with much to ponder.  There are many interconnecting variables to consider, including how long we will require to live under some form of lockdown absent a vaccine, as well as how human behaviours may need to adapt as a result. But fundamentally, are we living through a period that we will look back on as one of transformational shifts, or simply one that triggered the acceleration of trends already in evidence? The answer may differ from sector to sector. Offices: A boost for flex With swathes of the UK population working from home and discovering the benefits that go along with it, it is highly plausible that we will see an acceleration in the growth and availability of flexible office providers. Large corporates will be looking closely at the efficiency of their existing office layouts and, rather than committing to new wholesale office expansions or relocations with the associated capital expenditure, we may well see an increasing use of short-term and flexible office solutions emerging in the market. The introduction of social distancing will inevitably lead to a greater emphasis on the layout of offices and how interaction between teams can be accommodated safely. There will also be increased demand for new workplace design, including more digital, flexible, and health-oriented working. Retail: Rethinking space Retailers will need to rethink their physical infrastructure. While the sector was already facing a general restructuring, we are likely to see retailers focusing much more aggressively on their online offerings and supply chains.  Retailers without the physical infrastructure to process online sales quickly and effectively will undoubtedly start to lose market share. Strengthened relationships between landlords and tenants will emerge with shorter leases, turnover rent arrangements and more regular breaks being negotiated. Perhaps we will see the repurposing of out-of-town retail parks where stores will be able to more easily accommodate social distancing and ‘click and collect’ operations. Logistics: A brighter outlook The pandemic has prompted many businesses to build more resilience into their supply chains. As a nation, we are likely to see more domestic procurement of medicines, pharmaceuticals, and other healthcare products to ensure we are prepared for subsequent waves of the virus. There will also likely be a growing demand amongst the public and politicians to be less reliant on overseas manufacturing, with greater emphasis placed on resilience and less on cost. This will likely drive an uptick in manufacturing activity in the UK and consequently the continued growth of the logistics and distribution sector as an investment, development and occupational sector. Coupled with the simultaneous contraction of the retail sector and the continued growth in sales online, this is the one sector well placed to derive significant benefit from changes in societal, working and shopping patterns. Hospitality: The problem with crowds To recover to anywhere near the pre-virus levels of economic activity, new trading formats will need to emerge in the hotel, leisure, pubs and clubs sectors where there is less emphasis on international flying and a greater acceptance of the need to avoid crowded places.  It seems inconceivable that human behaviours will not need to be adapted to avoid large groups and crowded places. In fact, some of these types of behaviours to force the avoidance of public areas are likely to be mandated by government. Capital markets: Covenant strengths A flight to quality seems inevitable and will accelerate as investors seek protection in longer income and better covenant strength in their tenant profile.  As economic activity and consumption contracts, we are especially likely to see continued pain in the retail sector where weak covenants and operational models will be further exposed.  Travel bans and social distancing will limit overseas investors in the UK, if for no other reason than due to the practical aspects of being unable to view a property and transact the required diligence. While there are clear short-term negatives, in the medium term it is undoubtedly the case that real estate as an investment class remains an attractive proposition. UK property yields look attractive when compared with other investments and asset classes. Alan Stewart is commercial real estate partner at Morton Fraser