Super funds pursue large-scale mixed-use property deals despite risks

Two super funds have defended the investment and ESG benefits of mixed-use property developments, even as consultants point to a number of risks associated with the sector, which combines office, retail, residential, hospitality and leisure over timeframes that can stretch to several decades.

Bevan Towning, head of property at Australian Super, Australia’s largest super fund, told AsianInvestor that the fund valued the diversification benefits and long timescales associated with the sector, which provided an important source of alpha, to supplement the beta-generating core assets such as A-grade offices in core cities.

“We like the diversity of occupiers, through which we can diversify both risks and return,” he said, adding that long development timeframe provided graduated revenue streams and meant that projects could evolve to meet changing user demand.

“[Developments] tend to be delivered in stages, typically over 8 to 10 years, so you are not doing it all on day one. You might have 5 million square feet of office, retail, residential, leisure and education on a site, with flexible planning approval that allows you to adjust [your building] as demand rises or falls,” he said.

Toby Selman, head of property at the New Zealand Superannuation Fund (NZ Super), said the fund was looking at several mixed-use investments in New Zealand in addition to Future Urban Land platform, a NZ$250 million ($162 million) investment comprising large land holdings that will be rezoned and developed.

“We have a few things we are looking at here, which are a good financial fit for our scheme but also for the community as a whole,” he said, adding that he would also consider opportunities beyond New Zealand, with the US and Europe the most likely candidates

Mixed-use developments, which are capital intensive and whose component parts may not provide income for many years, also suit NZ Super’s risk appetite.

“Unlike private developers we don’t need debt funding and have a low cost of capital so we can take large tracts of land and be patient, taking a view on [factors like] zoning risk,” Selman said.

Mary Power, principal consultant and head of property at Jana Investment Advisors in Melbourne, told AsianInvestor that consolidation in Australia’s super sector could see increasing levels of investment in mixed-use development.

“The main superfunds that can play the really long game on mixed use sites are large cashflow positive funds with plenty of deployment capacity. The emerging megafunds will be able to invest into these types of projects.”

Risks

But she pointed to the risks of such long-term multi-sector projects, which typically feature the ‘J-curve’ of negative returns in the early years. “And there is geographic and asset-specific concentration risk,” she said.

Peter Hobbs, managing director of private markets at bFinance in London told AsianInvestor  the risks associated with such long timeframes were significant, with projects likely to go through long periods of under-performance in which investors may sell.

“It’s bold to think that [an investor] will be involved in 30 years’ time. It’s easy to say you have deep pockets but you might encounter not just a slow-down but a long period – say, 2, 3 or even 5 years – of genuine distressed prices, this is hard to weather,” he said.

He pointed to Canary Wharf in London, a large mixed-use which passed through a protracted UK recession and falling property prices in all sectors in the 1980s and early 1990s, before posting strong returns.

The first buildings were completed in 1991, by which time the commercial property market in London had collapsed. Olympia & York Canary Wharf Limited, the main developer, filed for bankruptcy in 1992, with the development bought by an investor consortium in 1999 for £1.2billion.

ESG BENEFIT

Broad mixed-use schemes, which typically have a longer timescale and different risk and return profiles, can function well to achieve environmental and social goals, but also entail ESG risks.

Towning said mixed-used developments supported the fund’s wider decarbonisation targets since the longer time horizon provides a clear roadmap to achieve carbon neutral asset.

Selman said that the developments provided an effective way to pursue social and environmental benefits. “You can influence the placemaking, creating more sustainable communities that include affordable housing, while developing financial outcomes,” he said.

But Hobbs said that, where the investment provides very good returns, there may be a reputational risk, with local residents, politicians and other stakeholders – with whom mixed-use developers must work closely – questioning the social benefit.

“If you are generating IRR of 20% or 30%, people may question whether you are really benefitting the place,” said Hobbs. In 2018, more than half of children in Tower Hamlets, the London borough containing Canary Wharf, lived in poverty, the highest rate of any of London’s 32 boroughs.

Hobbs said that combination of these risks and increasing returns in niche sectors such as data centres and healthcare, had seen many investors avoid this sector in recent years. 

“Two and a half years ago there was more focus on these mixed-use large scale by big property investors. But more interest through Covid has been in getting access to the new niche sectors,” he said.