Redevelopments rather than greenfield projects will dominate future German retail property construction, says Bernhard Schoofs
Real estate developers will increasingly have to focus on the redevelopment of existing buildings. Already 60% of the German construction volume involves existing real estate - for instance, in the form of redevelopment. The situation is particularly pronounced in the retail sector, where 80-90% of the construction volume is expected to comprise redevelopment, with new developments accounting for less than 10%.
Developers need to take a more comprehensive approach to existing locations. Redeveloping a building involves greater requirements for the developer than the construction of a new building, especially if the business operation is not to be interrupted.
For example, in the retail sector it might be necessary to connect building wings in intelligent ways or to radically alter the floor space ratio to meet tenant requirements. Actually, sustainability criteria can often make a redevelopment more sensible than the construction of a new building.
Indeed, the sustainability topic plays a key role when it comes to positioning a redevelopment on the market. Nowhere is the savings potential greater than in the retail sector. A survey conducted by the EHI Retail Institute revealed that lighting costs could be cut by up to 30%, cooling costs by 20% and mechanical services by another 15%.
Other sustainability drivers include the increased pressure from customers and suppliers, as well as tightened regulatory requirements. With this in mind, it is sensible from an investor's perspective to demonstrate the sustainability of redeveloped retail assets - for example, through certificates such as LEED or DGNB (the German certificate for sustainable building). Another approach specifically designed for retail properties is the ‘retail sustainability check' developed at the International Real Estate Business School in collaboration with Cordea Savills. The tool enables investors to appraise the sustainability of their retail assets quickly and easily.
The redevelopment of existing buildings can present several problems for inexperienced developers, some of them hidden in building law. If a retail property is subject to an underlying local development plan - which is almost always the case with large-scale assets, such as a shopping centre or ‘big box' agglomerations - the development plan tends to limit the size of the buildings and, sometimes, the range of goods sold.
Yet the retail business is in a constant state of flux. A case in point: DIY stores used to have an average floor space demand of 5,000-7,000 sq.m. as recently as 15 years ago. Today, these stores require close to 15,000 sq.m. Supermarkets, too, doubled their floor space needs over roughly the same period.
As the example suggests, in terms of size alone, old retail space often fails to live up to present tenants' needs. So in many cases, redevelopment must take place as part of floor area expansions. However, local development plans that are overly restrictive will severely curtail the options available to a project developer.
Real estate interest groups such as the ZIA German Property Federation have for some time criticised the over-restrictive German planning law, and called for more flexibility for the retail sector. That said, existing development plans can actually be helpful when it comes to redevelopment projects; a modification or expansion license can be easier and faster to obtain for a location with zoning that has been in place for years rather than for new construction sites.
Another potential snare is the protection of ancient monuments. Depending on the quality of the building's substance, it can be more sensible economically to raze parts of an existing building and replace it with a new structure - creating a symbiosis of old and new parts. Whenever a building is of value in terms of architectural culture, though, the protection of ancient monuments could come into play. Conservationist requirements that may need to be taken into account can rule out a partial demolition, for instance.
On top of that, there is the risk that conversion measures may turn out to be more demanding and thus more costly than initially projected. Project developers whose planning is not as forward-looking and conservative as it should be might easily run into trouble.
Project developers who know how to steer clear of these snares can exploit the vast potential that the redevelopment of retail real estate in Germany has to offer. Up to 50% of the country's shopping centres are deemed in need of redevelopment. The situation is more dire when it comes to retail parks, with the redevelopment backlog estimated to involve an astounding 70% of the floor area.
The underlying reasons are mainly structural in nature. For example, side by side with a very young and modern stock exists a big box segment with a huge number of vacant properties that are no longer marketable. The problem is exacerbated by the fact that the lease terms for retail parks tend to be rather short compared to other retail formats. While two decades ago it was sufficient to refurbish every 15-to-20 years, this cycle has drastically shortened due to the ever increasing speed at which consumer trends and behaviour change.
Today, owners are compelled to re-invest in a property after an average of seven years to keep it competitive. The situation for shopping centres is quite similar. These need to be fundamentally repositioned after an average of 10 years, and as often as not the repositioning drive will coincide with redevelopments - at least partial ones.
This redevelopment backlog harbours ample potential for the future. Zoned greenfield land is scarce, and many legacy properties present major opportunities. The market for the redevelopment of existing venues is virtually limitless. A recent survey diagnosed a redevelopment potential of up to €7.8bn in relation to shopping centres over the coming years.
For the time being, it is not being adequately exploited. The latest project developer survey compiled by BulwienGesa, which also covers the redevelopment of existing assets, does identify a modest recovery in the project development segment.
At the same time, it suggests that this is a long-term trend. After all, the recovery in Germany's real estate hubs - Berlin, Munich, Hamburg, Frankfurt, Düsseldorf, Cologne and Stuttgart - is clearly driven by floor space completed at the end of 2010.
By contrast, the number of properties currently under construction or in planning shows a slightly regressive tendency year on year. This is specifically true for retail properties, meaning that completions figures will decline again in the medium term. Accordingly, developers are well advised to step up their redevelopment efforts because it is here that the big opportunities are to be found.
Bernard Schoofs is managing partner at Wegner & Schoofs