Diamonds in the rough
by Victor Georos, Head of Portfolio & Asset Management
I think most Australians enjoy value-add opportunities or, to quote Darryl Kerrigan from The Castle movie, we enjoy ‘a bargain.’ But spotting a diamond in the rough takes a certain amount of skill in the commercial property realm because it requires predicting future tenant trends and having the foresight to curate a property to meet these trends.
Typically, sourcing these ‘diamonds’ can be done by (1) taking advantage of market conditions or (2) adding value to an under performing asset – be that an existing building or greenfield site.
Within the current economic climate where rising inflation has brought on higher interest rates and, therefore, a greater need to manage debt, we believe there will be opportunities to secure high-quality assets selling at attractive prices as their landlords may need to sell properties to generate more liquidity. These scenarios present an opportunity for Centuria to secure assets of this nature and add considerable value for our investors.
More frequently though, value can be added to an asset with underutilised potential through refurbishment, repositioning, redeveloping or developing a new asset. These assets with good potential can provide exceptional value to a fund. This is true across all real estate sectors Centuria operates within, including office, industrial, healthcare, daily needs retail (DNR), large format retail (LFR) and agriculture.
Inherently, value-add projects are designed to attract or retain high-quality tenant customers and strong tenant covenants. The latter includes lease lengths and structures such as net and triple-net terms meaning the tenant is predominantly responsible for the maintenance and repair of the property. These strong metrics in part, drive property valuations, which are indications of what an asset is worth if it was sold today. Valuations underpin a fund’s “Net Asset Value” or NAV.
Examples of value-add opportunities executed by Centuria include:
Transforming an existing asset’s offering to suit a different tenant profile. For example, an industrial asset we acquired in Bella Vista, NSW, was used for light manufacturing and warehousing since it was built. In just over six months from its acquisition, Centuria secured a new tenancy with Amazon who use the facility as a ‘flex’ distribution centre to meet fast delivery requirements to densely populated areas. This transformed an expiring lease into a new 10 year lease term, improving the building valuation.
This might involve enlarging an existing asset to create more space or reconfiguration to cater to a tenant’s expanding business or changing operational needs. For example, at a DNR centre in Cottesloe, WA, we assisted Woolworths with expanding its footprint by 76% to 4,751sqm and it is now a full-line supermarket that can cater to a growing local community. Woolworths expanded its lease term by 10 years (previous expiry was 2024).
Across Centuria’s healthcare portfolio, the development team works with tenants to create fit-for-purpose new developments, for short stay hospitals or specialist facilities, such as oncology units. Currently, Centuria Healthcare is about to embark on a new private hospital in Kew VIC, which will be operated by a doctor-Medibank led joint venture. Once the development completes, the operator will begin a 15 year term, which is expected to deliver a solid recurring revenue stream.
For office assets, Centuria frequently updates building foyers, common areas and services to improve the building’s quality to attract higher quality tenants who are willing to pay premium rents. However, another type of refurbishment is a ready-made fitout within a vacated office space, which attracts new office occupants. Fitouts, or more specifically the cost of joinery and furniture is often the highest expenditure associated with an office relocation. We’ve experienced new tenants who are happy to pay a higher rent to have this turnkey solution, which saves both time and expense.
Equally, since COVID, office space use has evolved and the configuration of workplace accommodation needs to meet a better work-life balance. While rooftop workout zones and BBQ areas or basement end-of-trip facilities don’t always attract a rental income of their own, they do appeal to occupants who are happy to pay a higher premium rent to create better staff amenity and satisfaction, which can ultimately lead to higher tenant retention.
Other areas where Centuria can add value are looking to opportunities within emerging workforce trends such as employment growth, new locations opening up thanks to better transport infrastructure or new urban planning/re-zoning. For example, the inner west suburb of Alexandria in Sydney is changing from industrial use to residential and large format retail.
Centuria has an experienced, integrated in-house team from facility and property managers through to asset managers and fund managers. This integration provides us with the opportunity to see emerging trends and execute on value-add strategies to maximise returns for our investors.