“AND SO IT BEGINS . . .”
These words were the response of real estate journalist David Hatcher, tweeted out on Wednesday, to the news that three shopping centres owned by Oaktree Capital had breached their loan-to-value covenants.
The Kingsgate Shopping Centre in Dunfermline, The Rushes in Loughborough and The Vancouver Centre in King’s Lynn have between them lost £19 million in value – down 18% in the past 18 months – and as a result the LTV on the assets has risen to 78%, against a covenant of 75%. At the time of Paperclip going to press, no resolution had yet been found.
This wasn’t the first such breach this cycle – New Frontier Properties and RDI REIT have both battled with similar issues in recent months – but David was right to point to the start of something. Each week brings news of yet another CVA (Arcadia) or portfolio downsizing (M&S), and these will only see valuations fall further, especially for secondary assets. We can expect many more LTV covenant breaches in the coming months, and losses that have up until now been on paper are about to be crystallised.
Make no mistake: this will be a painful process, but it is a necessary one. It is also long overdue. Remarkably, given the extent of the downturn, some of the pain of the financial crisis was deferred. Newly-nationalised banks, faced with distressed loans wherever they looked, often chose to ‘extend and pretend’ – that is, roll over the debt and hope that valuations would in time rise again. To be fair most valuations did indeed return, but the attitude of hoping-over-expectation has never really gone away.
There can be no such wilful blindness this time, and the economic gravity is surely now inescapable, especially for secondary assets such as those owned by Oaktree Capital. And with valuations in other sectors such as offices, industrial and residential continuing to hold up, lenders will be that much more inclined to grasp the nettle as and when loans default and retail assets come under their control.
This might sound a touch bleak, but the situation demands honesty rather than crossing of fingers. But long-term there will be considerable upside. Accepting the reality of a situation, even if that means deeper falls and greater losses in the short term, means that any recovery can start that much sooner. When the bottom of the market has been found, we can once again consider growth.
Realistic valuations of retail space will enable landlords to accept more realistic rents rather than hold on for a higher-paying tenant that never quite arrives. Lower rents might just be the difference between a shop being a viable business or not, and if so this should feed through to greater occupancy rates. For towns that have been blighted by voids, simply having occupied properties – even at rock bottom rents – will be transformational.
For what it’s worth, it seems that larger, prime shopping centres and major city centres retain a relevance and value to retailers that has seen rents and values remain much more stable. But for older, secondary space it’s far from clear what the prospects are. And if the future isn’t in retail, alternative uses will need to be embraced.
Nobody knows whether the UK is truly ‘overshopped’, or whether substantially lower rents will help make high street shops viable again, but the sooner we find out the better. Because once we know how big a problem we’re dealing with, the quicker we can get working on a solution.Go back to category