Opportunities for real estate players despite pandemic

COVID-19 has brought about an unprecedented crisis for the world, one that has far reaching and deep impact in every aspect of modern-day life as we know it. Needless to say, the economic fallout from the pandemic is beyond tremendous, and much has been said about how it is likely that this economic crisis from Covid-19 will be greater than that of the global financial crisis in 2008.

All industries are grappling with the effects of Covid-19. For certain industries like aviation, retail and tourism, Covid-19 will change the way the entire industry operates. For industries like real estate, while it has not shown significant signs of impact yet, it is by no means immune. The illiquid nature of the market simply means that the effects are slower to emerge. Besides questioning what the long-term impact will be on the sector, many are also pondering how this will change the way the sector operates.

Most immediately in Singapore, we are seeing tenants struggle with the operating costs of rental, which were especially pronounced during the circuit breaker measures. Even post-circuit breaker, tenants are seeking rent concessions and the government has implemented tax measures for landlords to facilitate such rental rebates. Other institutional landlords have different schemes to help tenants offset rents against security deposits and allowing rent holidays.

In the medium to long-term, this ultimately will lead to rental shortfalls for landlords that in turn could hurt real estate valuations. This is especially so if we consider a worst-case scenario of a full 12 months loss of net operating income, making no adjustment for other operating costs changes and assuming that there are no changes to Cap Rates and Discount Rates, which could potentially decrease valuations even further.

Beyond tenants seeking lower rents and affecting rental values, rental values could also continue to be affected by weak demand for space. Considering the ongoing uncertainties, businesses and consumers alike are adopting a more conservative approach to spending. Historically, where we have seen vacancy rates increase, we have also correspondingly seen a drop in market rental value. Separately, there may also be delays in existing construction projects in the sector, which would further affect valuations.

For retailers, Covid-19 has accelerated the shift away from traditional brick and mortar retail towards e-commerce, with many retailers expanding their online presence in an effort to maintain reach while encouraging spending. This is unlikely to change, and in fact, retailers will only increase their investments in omnichannel approaches. We do not know yet how consumers will react once the majority of physical stores re-open, but it is likely that a general reduction in retail footfall continues as consumers actively avoid crowds as long as social distancing measures are in place.

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For the real estate sector this could mean that retailers will likely have to change the way they operate in brick and mortar stores. One possibility is that the physical retail store becomes more experiential in nature, where retailers could use technology and other elements such as store design and layout to create an experience exclusive to offline that cannot be found or replicated online. This will complement existing e-commerce efforts for retailers.

The sector should also be prepared that retailers ask for a reduction in rental values even after we enter phase 2 or 3 post-circuit breaker, as efforts to lure consumers back to physical retail stores will take time and adjustments in mindset and lifestyle.

NEW WAY OF LIFE

Covid-19 has brought about what could be considered as the largest work-from-home experiment ever seen. Even as we move into life after circuit breaker, telecommuting and working from home continues to be the new normal for many. For some sectors, this result may be seen as largely positive, with businesses being able to operate efficiently and remotely.

For the real estate sector though, this could suppress demand for floor space further. Especially if decentralisation of the workforce happens, large occupiers may seek to implement a hub-and-spoke model, with a smaller central hub office supported by a number of office functions located in flexible outer locations. This could reduce costs and aid business continuity by spreading workers around multiple locations.

For the sector itself we will likely see a significant shift towards the use of technology to enable certain real estate functions post circuit-breaker, as physical inspections may become more difficult if travel restrictions remain in place. Virtual reality could replace inspections and site visits. The creation of digital twins, an exact virtual model of a building including its underlying infrastructure, could improve asset management. If the model is integrated with monitoring sensors throughout the building, predictive preventative maintenance can be deployed, resulting in reduced downtime.

Data analytics can also help identify space utilisation patterns, automatically adjusting lighting and cooling/heating to match, thereby reducing utility costs and wear on components. When cost savings are critical, technology can play a major part, and the current crisis may well be the catalyst that drives business to consider implementing such measures.

The sector must be prepared to transform and adapt to the new changes that Covid-19 has brought and remain open and collaborative in doing so. As the impact of Covid-19 is here to stay, ways of working will continue to alter as new challenges are presented as the situation evolves. But with these challenges come opportunities for real estate players to seize, to ensure a resilient sector that is sustainable and future-proof.