Although it carries greater risk, new building projects are often the means of buying where existing supply is limited

Property Reporter

A SHORTAGE of good properties for sale is restricting commercial property investment sales in Cape Town and making it difficult for listed property funds to acquire quality properties.

But when one door closes another opens and commentators suggest that another way for listed funds to get a foothold in the Cape Town market is to move into the development sphere.

Colin Murray, a director of Baker Street Properties, says that the past few years have seen a huge take-up of properties by listed property funds and private investors, and this has led to the current shortage.

"This has now reached the stage, for listed funds in particular, with their stringent purchasing requirements, where they are finding it extremely difficult to find suitable properties," Murray says.

"This is confirmed by the fact that new funds that have listed in the past 12 months have generally had less than 10% of their portfolio in Western Cape."

Another complication Murray points to is the increased buying power of private investors. In the past they could generally raise funds of up to R10m, at which point the property funds began buying.

Private investors are now able to raise finance in excess of R30m, while certain property funds are prepared to consider properties as low as R6m, making that section of the market even more competitive.

The success of the exchange control amnesty process will make it even more competitive as investors repatriate their foreign funds, says Murray.

He says this will continue to put pressure on property yields, driving them lower and more in line with listed property yields.
At present, yields on directly held properties generally vary between 11,5% and 13% depending on a number of factors, including location, tenant strength and the condition of the property. This compares with yields of between 10% and 11% of some of the listed property funds.

"Current demand from purchasers still focuses mainly on retail and industrial properties, where good growth is anticipated. The industrial market in particular has underperformed for the past five years and prices currently being achieved are well below replacement cost."
He says the office sector is out of favour due to large vacancies, but believes that now is an excellent time to consider purchasing as the market is at a low point and already showing signs of revival.

Murray says the only factors that could loosen up the commercial market in Cape Town are a rise interest rates or that prices continue to rise to a level at which existing property holders, private and institutional, decide to sell.

David Green, MD of commercial property investment brokers Pace Property Group, agrees that an interest rate hike would affect the commercial market.

"The market has already factored in an increase in interest rates. As soon as an increase in interest rates occurs, the yields in the listed property sector will rise." When listed property yields increase, the sector unit prices come down.

Green says that if yields in the sector move from 11%, for instance, to 13%, then listed property funds will have to buy properties at higher yields or lower prices if they do not want to dilute their earnings.

"That would have an effect on the buying power of the listed property sector.

"Technically, it will slow the desire for commercial property investment across the board, but it will particularly affect Cape Town.

"If you buy a commercial property in Johannesburg, because of the availability of property, you would pay less here than in Cape Town because of pressure on supply in Cape Town."

Green points out that because the supply of investment commercial property in Cape Town is limited, there has been a growing trend towards the development of new buildings.

Many listed property funds are looking at development as a way to get into the Cape Town commercial property investment market. Two examples include Sycom's development of a R152m office block on the Foreshore in Cape Town and its majority shareholding in a regional retail shopping centre in Paarl.

"When there is a shortage of supply and you want to get into the market, another option is to develop," says Green.

The risk profile is higher but you can caution against that by focusing exclusively on tenant-driven developments, he says.

Spearhead Property Holdings MD Mike Flax, the majority of whose properties are in Western Cape, agrees with Murray that there are private landlords that are "extremely strong holders of commercial property".

This, he says, is endemic across the country, but is "more extreme" in Western Cape.

"You cannot do anything about it, the market is the market. It ends up driving prices higher and one ends up paying higher prices per square metre than anywhere else in the country," Flax says.

However, Spearhead's strategy is to stay in Western Cape.

"If we have to pay more for properties, we will."

On the question of developments, Flax says that it is an option and "often it is an option we are forced into".

However, he says land prices are still high and starting yields are still lower than other developments elsewhere in the country.