Auctions: how to shop for retail

A recent Ipsos Mori report indicated that there are now 22% fewer shoppers visiting UK high streets than there were a decade ago. Not surprisingly, that trend has been matched by a gradual retreat by many national retail brands that were once the fixtures of the shopping scene. Today, brands focus on the big cities and regional shopping centres, where footfall has proved more resilient. Two of the more positive side effects of this has been that a greater number of independent retailers have been given the chance to occupy prominent pitches, and also, there are more opportunities for a host of eating and drinking concepts. While the covenant strength of the independents will never match the golden age of the big retail brands, the collapse of Woolworths, BHS and others has shown landlords that a bird in the hand is generally better than an empty rates bill. Pragmatism is the order of the day and this latest wave of lettings has given us the new rental levels on which markets are now based. Of course, some national multiples are still trading successfully from the high street. What were once slightly ugly ducklings – Peacocks, Iceland and the discount retailers – have grown in attractiveness, especially as their offers fit with the mood of shoppers. Similarly, convenience stores – hardly the sexiest of outlets in days gone by – have become a popular investment as the tenants are seen as financially strong and usually take at least 10-year leases. In many cases, convenience store rents are RPI-linked and, as such, inflation-proof the income that investors receive and also remove the uncertainty of a rent review negotiation. The sale-and-leaseback campaigns undertaken by the banks between 1999 and 2008 provided a good supply of assets for investors to buy. These assets are the proverbial “gift that goes on giving” and many are now being traded again in the auction room. There is no shortage of takers. Lease lengths talk Investors crave security of income. Assets that are let to good covenants with unexpired terms of 20 years or more are extremely popular and will routinely command yields in the 4% bracket. However, the availability of these is limited and they account for less than 5% of the properties traded in the auction room. Lease lengths are generally becoming shorter because retailers are not committing themselves to longer leases. Properties with unexpired leases of five years or fewer now account for up to 25% of the shops offered at auction. A decade ago that proportion would have only been around 5%-10%. Without the comfort blanket of a nice long lease, investors have to have a deeper knowledge of a tenant’s business and a greater understanding of the trading location. In that context, some assets should really bear the health warning: “This property is only suitable for experienced investors with asset management skills or those who have shopped here before!” What’s going on upstairs? A significant driver of value across UK high streets has been the ability to convert upper floors above shops into residential. A more compliant planning regime prompted shop landlords to jump on the permitted development rights bandwagon with some startling results. In most South East locations where there is a residential shortage, the converted upper floors can be worth more than the retail downstairs. Since the retail market began to normalise from 2013 onwards, competition for the best assets has been strong. We are still way below seeing the volumes that prevailed in 2006 – a buying spree that was focused on retail property and sale-and-leasebacks. This year, the thin auction volumes of the February and March sales – caused by political uncertainty – gave way to a robust round of July auctions that pretty much made up all of the volume “losses” experienced in the first part of the year. While most private investors remain risk-adverse, the best assets will command keen yields. However, there is now a notable – and historically wide – gap between upper and lower quartile yields. With the yield gap between the “best and the rest” now at around 440bps – the largest variance in 25 years –secondary assets may start to look underpriced. A period of relative economic calm, controlled inflation and modest GPD growth should see this yield gap close and the assets that will begin to look more attractive will be shops across the country. Historically high initial yields coupled with rents rebased at significantly lower levels in many parts of the UK present a very interesting opportunity for investors who have read only of the woes of the high street. But it is still important to shop around. Understanding the town in which you are thinking of buying is important in this respect. The widespread rent rebasing following the financial crisis has produced opportunities for independents to thrive in many towns. Many of these have rebounded as a result, serving local residents and visitors with their own individual offer and character. An understanding of the likely ease of reletting a vacant unit will help risk assessments. Stock picking skills and asset management are more important than ever. The high street is becoming a different animal that we will have to get our heads around. This is a structural change and not just a hangover from the financial crisis. Richard Auterac is chairman of Acuitus