The Czech Republic’s most lucrative shopping mall, Palladium, is about to change hands in what some have dubbed the deal of the year on the country’s commercial property market. The German fund Union Investment is to pay 565 million euro for the mall, located in central Prague, according to the daily Hospodářské noviny. The transaction is expected to materialize in the coming weeks – but it confirms Prague’s position as a prime destination for western European real estate investors. I discussed the deal with Rob Paulson, a senior analyst for the Prague branch of the Jones Lang LaSalle consultancy.
“The price isn’t a particular surprise. It’s more to do with large weight of capital seeking to be placed,and Prague is an attractive location for that. Given the compression of yields in Western Europe, reduced bank margins and increased attractiveness relative to other investments, the pricing for core assets is going to be keen.”
There were apparently two other bidders interested in acquiring Palladium. What makes this particular shopping mall so attractive?
“It simply occupies the prime pitch. There are several core shopping malls in the city, and Palladium occupies the most valuable piece of land. Other than that, it’s a well-executed and functioning shopping centre and so it ticks all the boxes of those large international investors. Again, I’m not surprised that there is a depth of interest in this sort of product.”
As you said, many investors in the commercial real estate field are looking for opportunities in the region. Why is it happening now?
“Let’s start at the global level. You have a weight of capital from funds that have increased their allocation towards real estate. And you have compression in Western European property yields. So you now looking at Prague and a country that has an independent fiscal policy which has weathered the crisis well, which is becoming an increasingly mature property market, which has strong macro-economic retail fundamentals for the future, and you are seeing that this is significantly cheaper than Western Europe. So in the search for yield, investors are moving towards central and Eastern Europe.
“Additionally, you have eastern capital entering the picture. So that has brought more demand, and so the compression that has already happened in Western Europe is now happening here.”
But with only a moderate growth in real wages and stagnating unemployment levels, what makes investors believe the retail market here is going to grow?
“That’s true. But there are two things: Prague is a different market compared to the country as a whole. There is a significant element of tourist retail spend, and that’s on an upward trend. Secondarily, the wages are not rising as quickly as we might like. But Czechs are a low-debt economy with low personal debt and with high home ownership, and still proportionately spend a lot less of their disposable income compared to Western European nations. So it’s a projection on those trends that makes it seem positive.”
Palladium is to be acquired by Germany’s Union Investment – but who are other investors looking for opportunities here? And are there local investors among those as well?
“The sort of capital interested in Palladium would be global, not just Western European. As we know, a few years ago, far Eastern capital was involved in the purchase of the Olympia shopping park in Brno.
“With the Czech investors, there is probably not an active party that would compete for Palladium at the moment. But in general, there is a continuing increase in domestic investment. There are increased numbers of qualified funds, their lot-size ability continues to grow, and although not particularly strong in this sector, and at that lot size, they add huge liquidity to the market overall.”
One question that comes to mind is why are owners selling right now? If the market is growing stronger, why are the owners of such prime real estate ready to sell?
“It’s often in their strategy just to hold for a certain amount of time. Further, the way they view their investment means that they may have been seeking an exit for some time. Also, you have to consider that in a rising property market, you can release your equity by selling your assets to make it work in other areas. All sorts of reasons, really.”
What impact do you think the Palladium deal will have on the Czech market? Jiří Fousek from the Cushman and Wakefield said he expected the retail real estate market to reach some two billion euros this year, which is double compared to 2013. What do you think?
“I don’t think anyone in touch with the market will be surprised by the Palladium transaction. But what it will do on the international level is solidify Prague’s position, along with Warsaw as the preferred destinations in the region. It will confirm that it is a suitable home for those truly core investors.”
Do you think this will also boost construction of shopping malls and other types of retail real estate in the country, given the demand?
“No, I don’t think there is a direct effect. With shopping malls, the amount of time necessary to assemble the land plots, to get the planning permissions, to undertake the construction, that’s one thing. And then you also have to stabilize the shopping centre which even at a successful rate might take a couple of years. So the time scales are too long and too cyclical for this to have a direct effect on construction.”
Besides shopping malls and property such as Palladium, what types of commercial real estate are now sought after by investors?
“The industrial sector is particularly attractive. That’s given by the Czech Republic’s geographic fundamentals, its strong industrial base, and the view that industrial yields still carry an attractive delta to western European investments while having really strong fundamentals. Secondarily, people feel that rents have bottomed out, also given some upside to the income.”
Could this in effect be the start of a commercial real estate bubble in the Czech Republic?
“It’s an interesting question and I think no, things are not that hot. When you look at the pricing, which is approaching pre-crisis levels, you have to look at it in terms of what your average returns are on that income. Given decreased finance and the increased attractiveness of real estate compared to other asset classes, at this pricing – or even if it were at the pre-crisis pricing – it would still produce significantly better leveraged returns. So on that basis, it’s more attractive, better value at the same price.”
“We expect to see investment volumes of over two billion euros in total for 2014, and we are aware of a very decent pipeline for next year. So not to comment on specific deals, we might expect these volumes to continue at least for the next year.”