Tough times for property syndicates

Saturday, 15 July 2023

Reserve Bank deputy governor Christian Hawkesby sat down with Stuff senior business reporter Tom Pullar-Strecker in May to chat about the economy.

Higher interest rates have made the last 18 months challenging for property syndicates, but it is newer syndicates that will have been hit hardest, experts say.

A property syndicate raises money from multiple, individual investors to buy property, and investors then share the rental income.

Syndicates can invest in commercial, residential or agricultural property, and in existing buildings or development projects. They are set up through a formal legal structure, and investors usually buy 'units' or 'shares' in the property.

In April, a Forsyth Barr report warned that syndicates could be an area of concern in the current higher interest rate environment.

It analysed the publicly available financial information of 24 syndicates, and found that debt covenants could be pressured for around half of them over the next year, with newer syndicates most impacted.

In the syndicates affected, scheme managers were working with banks, and dividends for equity holders were being reduced, the report said.

It was not a great outcome for investors, but it meant a large number of distressed sales were unlikely.

Mackersy Property chief executive Hamish Wilton said rapid rises to the official cash rate have had a negative impact on the commercial property market in much the same way they had on the residential property market.

The current high interest rate environment has been challenging for property syndicates.

His company has a variety of syndicates structures, some of which own a single property, while others own more than 25 properties in more of a fund model.

The last 18 months had been challenging due to the rise in interest rates, he said.

“But we need to put this into the longer-term context of how successful commercial property has been as an asset class over a 10-year period.”

While syndicates could potentially be an area of concern in the current environment, overall investment performance was very much asset specific, industry specific and location specific, he said.

“Property syndicates do tend to carry higher debt levels than listed property funds, but good quality assets with quality tenants should be well positioned to whether some bumpy weather.”

It was only syndicates that were set up recently when there were very low interest rates, and bought assets near the top of the market that were experiencing problems, Wilton said.

“Anything that was set up more than a few years ago was set up in a higher interest rate environment so the effects, while still negative on cashflow, are not hugely detrimental in terms of the overall investment.”

Many of his company’s syndicates had been operating for a long time, and had low debt positions and strong cashflows, and were performing well.

“Our newer syndicates, set up 2019 to 2022, are more exposed to the higher interest rate environment and this has driven reduced returns for some of these.

“But strong trading results and inflation across the country is facilitating strong rental growth, which is off setting any capital value decline and provides an important hedge against inflation long term.”

Investors were being more cautious, but many of his company’s investors were experienced, and understood that investing was a long-term game, he said.

Mackersy Property’s most recent acquisition is Northlands Shopping Mall in Christchurch.

Mackersy’s most recent large acquisition was the Northlands Shopping Mall in Christchurch for $154 million, but it was also finishing construction of a $75m distribution centre in Rolleston for Progressive Enterprises.

The mall was currently returning 10% gross to investors, while the return on the longer term, lower-risk distribution centre offering was 5.5%.

Centuria NZ, which is part of the Australian stock exchange listed Centuria Capital Group, is a large property investment and fund management firm, and has a range of syndicates.

Mark Francis, chief executive of Centuria NZ, said commercial property syndication was a broad market, so it was important to distinguish that not all funds were the same.

But syndicates were no different to any other property owner, and in the current interest rate environment, those with conservative gearing levels, quality underlying assets and strong tenant covenants were continuing to provide stable income streams to investors, he said.

“Well-capitalised buyers are in a good position to take advantage of opportunities where quality assets come to the market, and we are always looking out for those types of opportunities, but we haven’t seen many to date.”

An indication of investor appetite could be seen in Centuria NZ’s recently completed $18m equity-only capital raise for its newly created Agriculture Fund, he said.

“The offer was oversubscribed, and captured continued investor demand for exposure to a desirable new sector.”

Investment started at $25,000, and the fund’s first acquisition was a 29.7-hectare farm site in Helensville in Auckland. Initial after-tax cash distributions to investors were forecast to be 6.5%.

Francis said Centuria NZ was exploring further opportunities for new offers, which it hoped to bring to market later this year.

PMG Funds, which is unlisted, was a pioneer of property syndication in New Zealand, but it has transitioned from single-asset investment structures to a funds management model.

This is a recession of supply, not demand, PMG Funds chief executive Scott McKenzie says.

The change was about building investment vehicles that were resilient and diversified, and could better withstand the forces of time, PMG Funds chief executive Scott McKenzie said.

“It has been critical to mitigating the harshest impacts of the current economic climate. Funds are not immune to the economic headwinds, but they have stronger balance sheets.

“They are better-placed to make it through, and come out the other side, while offering sustainable returns to investors in the meantime.”

This was a recession of supply, not demand, so while individual operators might struggle, demand for quality premises remained, he said.

“Quality managed funds give individual investors exposure to this ‘flight to quality’ with the further risk mitigation offered by diversification.'

Rising construction and borrowing costs meant new projects were being deferred or abandoned, so the ongoing demand against limited supply equation was placing upward pressure on rents, McKenzie said.

“That is an equation which ultimately results in resilient cashflow distributions flowing through to investors.”

While the rise in interest rates had closed the gap between the headline returns of property funds and fixed-term savings vehicles, the net returns from property funds remained closer to headline rates, he said.