The parameters are set and the target well defined. For Abraaj Capital, one of the leading alternative asset management groups, no task is possibly more important than taking on the responsibility of meeting the massive demand for institutional capital to invest in real estate in the Middle East and North Africa (Mena) region.
Property spoke to Faisal Khan, principal at Abraaj Capital, to see what opportunities exist for real estate funds as well as other real estate investors in the regional markets.
At Cityscape Abu Dhabi, Faisal will be speaking on investor appetite for real estate investment in the Mena region. He anticipates the main ideas discussed will be the types of investments investors are looking for. The focus will be on the larger real estate markets and on investors' demand for income-generating real estate.
What are Abraaj Capital's recent initiatives in the region's real estate market, including the UAE?
There is an income-generating fund, ASAS, which invests in real estate. The fund is managed by Abraaj Capital and is looking to invest in the Mena region which includes the UAE. It is looking to generate stable cash flow by investing in rental income-generating real estate; hence the name ASAS which means ‘foundation' in Arabic. The rental income enables us to provide a quarterly return to investors.
What is the market opportunity that is being targeted?
In the Mena region, despite the negative headlines relating to real estate, there is a severe under-supply of certain types of real estate assets that companies needs for their core operations.
Such operationally essential real estate includes logistics, warehouses, schools, hospitals, supermarkets and head office buildings. When companies have needed real estate for their core business, they have gone out and either built or bought that real estate because it was not easily available on the market. Either way, this property ends up sitting on these companies' balance sheets. Recently, however, companies are beginning to understand it doesn't make sense to tie a large chunk of their capital in non-income earning property. Instead, they can use the money more profitably in their core businesses.
However, in this region, there is a lack of institutional ownership of real estate to provide companies with a choice.
A fund like ours offer that choice of unlocking value in that property by selling it to us, but still allows them to continue using the property in their core businesses through a long-term rental contract. Such sale and leaseback transactions are recognised and a well-known concept.
What do investors want from real estate investment?
With the recent global financial crisis and the increased uncertainty, risk has moved up the list of investment considerations for investors.
Essentially, investors have become more risk averse. This means that investors are more focused on fundamentals and looking for cash flow as this is safer. So investors are looking for income-generating assets. That is the catchphrase.
They [investors] are also paying more attention to experience, the track record and local knowledge of those who manage their money including that being invested in real estate.
Do you believe that private equity real estate funds should be more active in the region?
The amount of private equity real estate capital deployed in the Mena region is very small. If you look at the West - the US and Europe - over 50 per cent of commercial real estate is owned by institutions. Over here it is negligible. If there was more institutional capital in the region, it would allow companies to become more competitive by enabling them to unlock unproductive capital tied up in their property.
It would also be beneficial for real estate investors as it would help them diversify their risk across multiple assets. In addition, investors would not need to get involved in the day-to-day property management.
Finally, real estate remains an attractive asset class. Real estate is a hard tangible asset and over the last two and half years, valuations have come down, resulting in returns becoming more attractive.
Low and middle income housing is often mentioned as being an attractive sector but does not seem to generate the necessary economic interest. Why?
We would be happy to invest in low or middle income housing provided it has certain characteristics. In this region though the cost of land is quite high and access to land banks is limited.
As a result, if you take the cost of land and the cost of putting housing on it, the resulting product is too expensive to be called low-middle income housing.
Mechanisms to resolve this include the government playing an important role by providing land at a reasonable cost to make the economics work and by encouraging the participation of private sector funding.
What is holding private equity firms from stepping in with distress funds to help the local real estate market?
Distressed opportunities in the classical sense have not generally arisen in this region yet. Technically, a distressed opportunity arises when an owner's equity has been eroded and the property has been taken back by the bank.
The bank then sells the property, and that's where investors buy such properties from. This is linked with the ongoing development of insolvency and repossession laws in this region.
Distressed in this area means buying from the owner at a price lower than he bought it for, but not necessarily as low as the current market value or in the sense of a struggling borrower approaching a lender with an offer of over-collateralisation of security.
What is the role that debt providers can play in the regional real estate market?
For individuals, the mortgage market here is under-penetrated. In the UAE, it is under 15 per cent of the GDP (gross domestic product) whereas in the West it is between 65 and 95 per cent of the GDP. As the mortgage market expands, home ownership will become more common, making the market deeper and more mature.
For commercial real estate globally, not just in this region, investments are made by equity providers, such as ASAS, and debt providers taking a collaborative approach. This has also been our experience in this region. However, investors need to be careful their investments are not over-leveraged. Most importantly though, debt markets in this region need to become deeper and more liquid. In the medium to long term, this is only possible by increasing participation in the debt markets from just the current status of banks balance sheets to the wider capital markets through the issuance of bonds.
With the lending market yet to pick up, isn't there a possibility for real estate private equity companies to set up debt funds?
Certainly in an environment in which bank lending is constrained there is an opportunity for credit funds.
Credit is an asset class distinct from real estate and has its own place in the alternative asset spectrum. But then funds need to play to their strengths and be aware of their drivers. For example the cost of funds will determine the risk-reward being targeted. Also, credit funds need to consider associated trading capability to participate in the secondary market.
What role do private equity real estate funds have in the development of the general real estate market?
There is a wider role for real estate funds in the region. Private real estate funds can increase the maturity of the real estate market in the region, including making them more transparent. For example, when private equity real estate funds invest in property, they do a lot of detailed due diligence, including technical surveys to make certain the property is physically sound. This is common in more mature markets for individual home purchases as well.
This doesn't happen in this market. Once the trend starts with larger investors it will filter down to home purchases as well, which in turn will result in standards going up.
Therefore, certainly part of ASAS' role is to act as a catalyst towards greater maturity in the real estate sector.
Which regional markets are attractive and offer the best opportunities?
Speaking generally and about the larger real estate market, Turkey is expected to continue attracting investors and, therefore, the value of commercial real estate there is rising.
Egypt has very strong medium to long-term fundamentals. Saudi Arabia is a large market where real estate continues to do well.
The UAE is an active real estate market where select transactions generate interest. However, though there are common themes, each country has different drivers and every real estate sector has varying dynamics which need to be considered for each individual investment.
What is the impact of recent events on your investment strategy?
Looking at specifics, let us take the example of Egypt. Real estate is a long-term investment, and the right way to look at any investment is to look at the fundamentals.
The fundamentals in Egypt, in the medium to long term, remain strong. It has supportive demographics, low household leverage and a shortage in quality real estate such as offices. However, where there is uncertainty, a wait and see approach may be taken for individual investments. Broadly though, the strategy that we are following is sound and still relevant.
- Founded in 2002, the firm is one of the leading alternative asset managers outside the US and Europe.
- With its headquarters in Dubai, Abraaj Capital has eight other country offices with over 140 employees.
- Funds managed across four distinct business lines: private equity buyout, SME, public markets, in addition to private equity real estate,
- As of December 31, 2010, Assets Under Management worth$6.2 billion.
- ASAS is an income-generating fund managed by Abraaj Capital which invests in real estate.