RESIcast: Lenders need to understand the operation game

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Driving an increased focus on operational risk has been a fundamental shift over the last 15 years in the secure income streams associated with real estate more broadly, with shorter leases moving costs and liability away from the tenant to the landlord.

“You’re now underwriting not only the real estate but you’re also underwriting the operator. That means you have to be fully comfortable that the sponsor you are backing can deliver what they are promising,” says Dan Pottorff, managing director, debt and special situations, LaSalle Investment Management.

“Equally, you do need a plan B if the worst comes to the worst as you will have to manage the project,” he adds.

Having to think like an operator means the granularity of the data that investors need to be comfortable is broadening and deepening.

“We all now have to think like operators and have to be able to manage those risks. In some ways it is analogous to the PFI projects that I was involved with in the early noughties,” says Phil Clark, head of property investment at AEGON Asset Management.

“When we were looking at financing a school for example, you’d have to understand the asset at an extremely granular level. For example, what is the cost of chair and how often will you have to replace it over the next 35 years? You needed to understand that to be comfortable lending.”

Applying that to residential assets such as care homes means understanding risks such as wage costs is crucial given that these assets are labour cost intensive.

However, some of the newer asset classes like build-to-rent have a lack of data points, such as how the stock will perform in a downturn.

Jess Tomlinson, head of real estate for London at Barclays says this is an issue all lenders and investors are trying to understand.

“We need to establish build-to-rent benchmarks in the way that has happened across other classes like student accommodation. The toolkit exists – we are just having to pick it up as asset classes emerge,” she says.

Having an understanding of similar assets like hotels and student accommodation can help investors understand key points of newer players like build-to-rent.

“If you have a history in student accommodation, you can translate your assumptions on elements like lifecycle costs as these are much heavier for PBSA than they are for build-to-rent,” says Pottorff.

Investors are also trying to understand how to value and price in the operators as part of the asset’s valuation due to operational risks importance.

However, Clark adds that there is a different approach between listed and non-listed valuations, with non-listed investors still often ignoring the value of the operator.

You can listen to this podcast via iTunes or Spotify or SoundCloud. This podcast was produced by Blackstock Consulting [www.blackstock.co.uk] founder Andrew Teacher and you can Tweet your views @andrewjteacher and @RESIevent