For London's Real-Estate Owners, New Brooding on Brexit

By Olga Cotaga and Art Patnaude 

U.K. property companies are preparing for a downturn by stepping up sales and stalling development plans.

Britain's decision to leave the European Union has exacerbated concerns that property values are due to fall after years of gains. Even before the so-called Brexit vote, property chiefs and analysts had been warning the bull market for U.K. commercial real estate was coming to an end.

"People are waiting for a falloff in property values," said Hemant Kotak, an analyst at Green Street Advisors, a real-estate investment trust tracker. REITs, which own and often operate income-generating real estate, are still being "much more cautious."

The U.K. experience mirrors the U.S., where investors also have been cutting back on commercial property holdings, betting the boom in commercial real estate that followed the 2008 financial crisis is coming to an end.

Great Portland Estates PLC, which focuses on London office development, earlier this month sold the new U.K. headquarters of Facebook Inc. for GBP435 million ($543 million). The deal brought Great Portland Estates' loan-to-value ratio to 11%, one of the lowest debt levels in the sector.

In theory, companies with little debt are better positioned to take advantage of a market downturn because they have capital on hand to pounce on discounted properties.

Before the 2008 financial crisis, publicly traded U.K. REITs had significantly higher debt levels than they do now. When the crisis hit and property values plunged, some of the biggest firms had to raise equity to stay afloat.

But the level of preparedness at publicly traded REITs, among Britain's biggest property owners, is starkly different this time around, analysts said.

Great Portland, for example, had a loan-to-value ratio of nearly 45% in 2008, according to Green Street. Land Securities PLC, the U.K.'s biggest listed landlord, has an LTV of around 23% now, versus more than 50% in 2008.

With a lower LTV companies don't feel as much pressure to sell properties at discounted prices.

At 420,000 square feet, One Rathbone Square was Great Portland's biggest development. Facebook is set to move into its new headquarters in the coming weeks. Great Portland signed the 15-year lease with Facebook in 2015.

Great Portland sold Rathbone Square to a joint venture between German property firm Deka Immobilien and WestInvest, a capital management company part of Deka Group, for 4% less than its valuation last September. This discount was on par with the drop of London real estate after Brexit.

Brexit has increased concerns that rents also could start falling. Prime office rents in London's West End fell 6.3% in the fourth quarter of 2016, while rents stalled in the main financial district, known as the City, according to property broker CBRE.

Extra caution still hasn't helped share prices.

Real estate was one of the hardest-hit sectors after Brexit, with REIT share prices falling by as much as 20% in the weeks following the vote. While the impact of Brexit has been less severe than some had predicted, share prices on average remain down around 10% from before the vote, a signal investors believe property values have still have a way to fall, analysts said.

Shares of U.K. REITs are trading at roughly a 15% discount to the gross value of their assets, according to Green Street.

Investors remain hesitant to buy because they have a "lack of clarity whether this is the start of a slowdown," said Caroline Simmons, deputy head of U.K. investment at UBS Wealth Management.

Analysts are divided on whether the discounts make REITs worth buying.

Some real-estate companies "seem cheap," said Mike Prew, an analyst at Jefferies International. However, "we don't think they are good value" given the risk of a downturn.

Mr. Kotak at Green Street is more positive. Right now share prices aren't giving REITs any credit for low leverage, positive development opportunities, or the strength of management teams.

"So you could argue there's some relative value here," he said.

Write to Olga Cotaga at [e-mail] and Art Patnaude at [e-mail]

(END) Dow Jones Newswires

February 21, 2017 07:14 ET (12:14 GMT)

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