Whatever your business, real estate is a necessity and its relevance today goes way beyond the traditional landlord-tenant relationship. Viewing real estate as an operational asset that provides a service is no longer optional – it is vital for occupiers and owners alike.

Rob Sim

Rob Sim

In a changing and often volatile world, our industry must embrace the various challenges arising from occupiers demanding more than just space from their built environment. The pandemic merely accelerated a shift in thought, with both individuals and companies looking for greater flexibility, increased services and a better overall experience.

As a result, our industry is changing and must evolve into a more operationally intensive asset class. In this environment, demand for certain sectors is rising.

So, what is driving this shift? One factor is shortening lease lengths. Analysis from MSCI says 60% of the UK office universe rental income is due to expire in the next five years and, while many office occupiers still want long leases, hybrid working is set to remain. As such, real estate owners need to develop strategies that can unlock value from their assets by first and foremost understanding the core requirements of the occupier.

Indeed, sustainable, growing income streams can often be better achieved through flexibility rather than long, fixed leases, and while valuers should not be too prescriptive when assessing operational real estate, this does require greater cashflow transparency from the operator.

Technology is also playing an integral part. From disruptors such as WeWork entering the market through to the integration of apps that enable tenants to book space at the click of a button, tech is having a profound effect on the industry. It shows that returns are directly linked to the business conducted on the premises and this points to the attractiveness of operational real estate, which generally offers higher and, as theory has it, less cyclical returns than traditional investments.

In a rising-interest-rate environment, investors are increasingly focused on ‘alternatives’ as a source of yield and inflation protection.

According to a February 2021 Investment Property Forum study, demand for alternative sectors was circa 20% in 2010, and this has risen to circa 35% over the past decade and is predicted to rise to circa 50%. Coupled with this is a far more granular approach to investment, with a laser focus on the end user – the customer – when allocating capital.

Sectors such as life sciences, data centres and co-living, as well as build-to-rent and self-storage, offer investors attractive income streams, albeit in some cases with operational risk and in all cases requiring specialist knowledge. This has led the industry to pivot towards these operational asset types.

For example, build-to-rent and co-living developments have created vibrant communities in response to the rapidly increasing volume of renters.

Brand recognition

Further important considerations when providing space as a service are the critical role of brand recognition and the emphasis on understanding the requirements of the day-to-day operations of the asset, all of which in turn are being supported by longer-term structural trends.

By placing a focus on service, progressive landlords can offer occupiers a unique experience, establishing loyalty in return. This transformation represents a clear direction of travel for the future as investment strategies aim to deliver meaningful change in the commercial real estate sector.

We are starting to see a more holistic concept of high-quality real estate, incorporating sustainability and social impact. Well-designed and sustainable assets in strong locations should attract the highest value irrespective of lease length.

According to JLL, in the London office sector, every £1 saving on utilities contributes more than

£20 towards a building’s value. Therefore, operationally green buildings clearly benefit both the occupier, from reduced energy costs as just one example, and the owner, which benefits from more demand and, in turn, better rents and an improved valuation.

The structural shift occurring in the market points to operational real estate. The industry is witnessing a clear transition towards the customer and the provision of space as a service offering a unique experience rather than just bricks and mortar.

This has the potential to drive meaningful change in the sector as well as spark innovation and new investment opportunities. Those that are unwilling or unable to embrace this change may face an uncertain future.

Rob Sim is managing partner at investment firm Europa Capital