The case for investing in Asian retail is compelling but, as Paul Benjamin explains, getting one's hands on a prize prospect is far from straightforward
The developed markets of Japan and Hong Kong have long been obvious hotspots of Asian consumerism, but the real story in recent years is the mushrooming moneyed classes of China and India, who have disposable income to spend in a growing number of malls and supermarkets, and on increasingly luxurious goods.
Thanks to strong global growth and consumer spending, so far this year the continent has, with few exceptions, enjoyed solid returns for international investors looking at retail opportunities, whether that be new-build malls, or revamping and reletting flawed existing stock.
And while the recent sub-prime credit shake-up in the US and doubts over global growth next year may have taken some of the edge off investor enthusiasm, analysts across Asia report that there are still more dollars chasing deals than there are opportunities on the table.
Taking China as an example, Paul Hart, executive director at Knight Frank in Hong Kong, said that the sub-prime crisis should not deflect from the underlying fundamentals in China, which are secure.
He added: "China has a growing domestic market and reliance on the US economy is not as strong as it might seem. Stagnation or recession in the US will cause a slowdown here, but it won't be significant."
In China, where the population of 1.3bn is urbanising rapidly, retail development has transformed shopping in the big cities from the traditional market stalls and dreadful government department stores of 15 years ago into myriad options of western-style supermarkets and malls, and Japanese-style 24-hour convenience stores on every corner.
CB Richard Ellis in China reports that four major department stores opened in Beijing in Q2 this year, bringing the total prime retail area to 3.58m m2. Despite the strong supply, rent for ground floor space in shopping malls increased by 0.9% quarter-on-quarter to a record RMB 28.5 (€2.64)/m2 per day and the retail vacancy rate dropped by 0.2% quarter-on-quarter to 6.2%.
This pattern of decent rental growth, new builds and low vacancies is repeated not only in the other key cities of Shanghai and Guangzhou, but right along China's wealthier eastern seaboard in Dalian, Tianjin and Fujian, as well as in major regional hubs, such as Chengdu, Chongqing and Hohhot.
Christian Wright, director of retail consultancy with Knight Frank in Hong Kong, said: "Growth this year has been very encouraging and there is an awful lot of attention on tier-two cities from developers and tenants. Many retailers are keen to expand their brand exposure once they have set up in Beijing and Shanghai, and in quite a number of tier two builds the quality is beginning to come through.
"On a recent trip to a retail area in the second tier industrial city of Shenyang, I found the number of luxury brands represented really quite staggering. It will be interesting when international mass market brands like H&M and Zara get into tier two."
But Wright cautions that, while the overall stats are "compelling", there are still many turkeys around.
"Way too much retail has been badly planned, poorly built and badly positioned. There have been many missed opportunities and some Hong Kong landlords found that early projects fell short of the standards that were expected.
"Many of the local developers create misses by taking a short-term outlook for a quick return. They fail to build the concept of the centre, have problems finding tenants and there are pockets of high vacancy.
"But the quality is getting higher now. International investment funds are paying for experts and their developments are raising the quality bar."
Interestingly, while the ballooning level of car ownership among the middle classes has helped many big-box retailers such as B&Q and Ikea, the difficulties of congestion and journey times mean that the out-of-town shopping centre is not as attractive as it was. A key success factor in China is still to be by the rail station.
Perhaps as a hangover from the communist era, when shoppers were forced to endure rude service at the ‘hundred goods big building' department stores, Wright reports that while department stores have become quite a tired concept in other countries, they are still going strong in China. He added: "Many centres are anchored by department stores, and their sales have been outperforming the general market."
Investors looking to get into China often face a testing time at the negotiating table as there can be a mismatch in valuation, with investors looking at revenue streams and owners looking at expectations. This year the government put in restrictions to cool property speculation, though these primarily affected residential projects. Other issues include the sheer size and scale of the country, and the number of major cities. Knight Frank identifies 57 cities with a population over one million and per-capita GDP above $3,000 (€2,081). And within those seemingly homogenous cities the sprawl can be baffling - Shanghai has six main commercial areas, while several more are emerging as suburban centres.
This complexity, and the need for experts on the ground to help unravel it, is also to be found in India.
Rami Kaushal, head of CBRE Consulting India, said: "International developers often discover that India is not an easy market to understand like Hong Kong or Singapore. There are eight to 10 major suburban centres, and another 20 important towns. It takes time to understand the market and logistics."
As in China, bureaucracy can be tiresome and operates at both a national and regional level, though that can sometimes be an advantage where local officials embrace development.
Kaushal added: "States have their own laws and the lack of transparency can make it difficult to get a clean land title, which makes some investors uncomfortable. Infrastructure such as roads, transport and power can be problematic but is improving. Major developers are moving to suburban space but these are often not very well linked up."
Like China, India has enjoyed years of very strong growth since its economy was opened to foreign investment, creating a new class of single urban professionals, and expanding the middle class. Although India's $780bn economy is smaller than China's $2.3trn, both are expected to continue enjoying stellar growth rates of 10% and above over the next five years. And over the past few years, retail has become one of the fastest growing sectors.
Large international retail chains are starting to take a greater share of a shopping environment that, not long ago, was dominated by family-run outfits. A new mall culture is emerging, especially in the capital, New Delhi, but also centred on such hotspots as Mumbai, Bangalore and Hyderabad, while filtering down to second-tier attractions such as Kolkata, Pune, Chennai and Trivandrum.
Kaushal said: "Growth is quite strong right now. There's a lot under construction but the majority is already committed and there is a shortage in the major centres, where rates have shot up.
"Retail is very location specific and people are keener on residential, which is self-financing and can be sold off-plan. IT office space continues to perform well."
New Delhi and its satellites, known as the National Capital Region, lead the way with around 78 malls, totalling over 25m ft2, expected to be in action by 2008. New trends include building large-format malls of over 300,000 ft2, and siting hotels within malls to feed off the hotel boom. Luxury and lifestyle stores are expected to boost demand for mall space in NCR and Mumbai.
Kaushal said that while malls are very popular, particularly as they shelter shoppers from India's hostile weather, the high street remains a favourite with many, with Kolkata for example developing its CBD portfolio, though good offerings in the heart of many cities are hard to find.
Knight Frank India notes concerns that the mall boom will lead to oversupply, but hopes that the increased competition will encourage specialisation among malls, while home-grown retailers, opened up to international practices, should capture a significant proportion of the action.
The stunning and relentless growth of India and China is a stark comparison to the more mixed fortunes of its neighbours, especially the ‘Asian Tigers' and the most advanced and mature economy in the region - Japan.
This mountainous island nation of 127m people suffered a decade of stagnation from which it only started to recover in 2003. Consumer spending growth has been slow, but is at a healthy overall level.
At present rental growths are strong in retail, especially in the nation's flagship area, Tokyo's Ginza district, where international fashion brands are fighting it out for prime space. This year H&M made its first opening in Japan, and brands including Zara, Gap, Banana Republic and Abercrombie & Fitch all unveiled plans to expand into major cities. But wobbly consumer spending and high construction costs may force a slowing in rental growths in the short term.
Matthew Creagh, of CB Richard Ellis Retail Services team in Tokyo, said: "Interest is at an all time high and there's a lot of money flooding back into Japan.
"Over the last 10 years global superbrands like Gucci and Luis Vuitton have developed a strong presence, with freestanding stores in the major cities and many of the second tier cities like Nagoya, Sapporo, Kyoto and Fukuoka. There are still many brands like Zegna, Prada, Bulgari and Dunhill ready to have a freestanding store rather than a corner of a department store.
"The biggest challenge is getting access to real estate. It's very fragmented, there's no cohesion and no central reporting system. Much of the information is kept confidential and deal flow is almost impossible. Buildings very rarely get tendered, so we have to proactively get in front of landlords and suppliers."
Creagh said that much of his work focuses on high-end high street leasing and that a typical space might be a 10-storey block in a city centre, with retail units on the first few levels, and office space above.
He added: "There is a huge opportunity to buy existing development and redevelop it
for the right tenancy mix. So much is poorly designed.
"Japan is a comfortable step for brands who are not so sure on China. They can get 30 stores established here before looking at the rest of Asia."
The rest of the continent offers a tantalising mix of developed and developing prospects, though fortunes in retail are mixed. Japan's nearest neighbour, South Korea, with a population of 49m, is seeing weak retail performance, due in part to oversupply. Conditions in Taiwan are acceptable, but not as strong as in Hong Kong or Macau.
One hot spot is Vietnam, as its sizeable population of 85m has been opened up to international trade by the communist government.
Rik Mekkelholt, manager of CB Richard Ellis Vietnam's retail consultancy, said that retail builds were in an "infancy" state and were concentrated in the two major cities of Ho Chi Minh City and Hanoi. The main developments tend to be large and outside the CBD, and vacancies are low.
He added: "Quality and management expertise are higher when foreign developers come in and right now we are working on Hung Vuong Plaza, the largest shopping centre in Vietnam, with 33,000m2."
The Philippines is also experiencing sound retail growth, but oversupply in Indonesia has caused a decline in rental growth levels this year. Thailand has also had a tough time, where consumer confidence hit a 67-month low in June because of political instability and high oil prices.
Navaphol Viriyakunkit, research manager, CB Richard Ellis Thailand, reported that retail supply rose to 4.68m m2 in Q2 2007, and the occupancy rate stood at 94%.
He said: "Weak market sentiment has forced shopping mall operators to continue with promotion campaigns and bigger discounts, together with longer operating hours.
"The prospect for rental increases this year seems unlikely for most retail developments, due to the increased supply and weak consumer spending. But rents in the downtown area of Bangkok may rise again."
Again the legal framework is the main worry for foreign investors, and new regulations in the pipeline may hamper big retail development, sparking fierce oppostion from the handful of superstore operators who dominate. Some may try to push major projects through before the new laws bite.
Viriyakunkit added that, despite the overall slowing, new trends are emerging: "More developers are building community malls. These are middle to small-scale developments that attract shoppers from nearby residences."
For international investors, Thailand is just one option in a vast continent that holds massive retail potential and a dizzying array of economies big and small, developed and developing. The region is open for business and retail stands favourably against residential and office projects, but in many countries there is a long queue for the best buys.