Last week, Bernard Winograd, a key figure in the REIT (real estate investment trusts) industry passed away.
In the mid-1980s, he revolutionised the industry with the Taubman Centers IPO, that led to the creation of the “UPREIT” structure, which allowed private owners and companies to contribute real estate assets to the fund in exchange for units in that fund.
This allowed owners to overcome the cash crisis that was plaguing commercial realty at that time, and also uniquely allowed for synergies by way of rent maximization as owners pooled their assets to create larger holdings and allowing tenants to capitalise on larger contiguous holdings of real estate in an industry that had become increasingly stratified.
The UPREIT structure was a simple and elegant private sector capital market solution that allowed for rental yield maximisation as well as meeting the office and retail needs of mid-sized tenants without resorting to any government solution or bailout.
With the current real estate boom in Dubai underway, especially in the commercial sector, it is easy to overlook that similar issues are being faced by tenants here. With the stratification of the office and retail sector, larger sized tenants have been unable to find adequate space in the office and retail space, so much so that DMCC recently announced the launch of the Burj 2020 tower that will only sell space by the floor.
Whilst this may resolve the issue of the tenants over the medium term, it does not address concerns of smaller landlords who have struggled to find tenants for smaller units. In a broader sense, it ignores the changing structure of commercial real estate sector in the city.
As Dubai embarks on its next building boom to gear up for the World Expo 2020, a key component will be its continued ability to attract capital from the private sector, and this may be hindered in the commercial and retail spaces if smaller landlords do not find suitable avenues to optimise their rental return.
This was highlighted as the city resumed on its trajectory of growth in 2010; office space in the JLT and Business Bay areas were absorbed slowly, even as office and retail tenants talked about the lack of sufficient sized spaces being available.
Accordingly, rents moved upwards, reflecting higher rates of absorption. But brokers continue to offer spaces that are not being let as the sizes being offered are a mismatch for the needs of the tenants.
This brings into focus a key component of job sector generation going forward; as rental rates move higher, SME (small and mid-sized enterprise) creation (responsible for 21 per cent of job sector creation in the US, according to ‘Forbes’) will increasingly migrate to MBR City and free zone areas like DSO, IMPZ, and the mammoth Dubai World Central district where the bulk of the new office supply will be unrolled.
JLT and the Business Bay area will increasingly attract mid and large tier firms. However they will be constrained in their ability to move there if smaller landlords do not congregate in offering such spaces to these tenants. In certain cases, landlords have formed common pools to attract such tenants; on other occasions they have cashed out to higher bidders.
However, it is easy to note that both solutions being resorted to have been sub optimal for landlords, especially in a rising market. Smaller landlords have expressed their frustrations at long periods between tenancy contracts where they have been forced to accept no yield on their investments.
Tenants, meanwhile, have resorted to waiting for their expansion plans to roll out until such time that either new supply is available and/or existing landlords have consolidated holdings and offered them their desired space.
In a classical rendition of the Prisoners Dilemma, the needs of both parties are not being met in the medium term, despite supply being available. This manifests itself in the form of the government having to step in and offer offering supply as private sector developers appear increasingly resistant to build given their inability to attract capital on account of larger gestation periods between tenancy contracts.
The UPREIT structure offers a clean and consolidated platform that solves the issue facing smaller landlords and medium sized tenants. It provides a fillip to the capital markets as Dubai moves towards securitising real estate and develop a liquidity premium in the real estate assets.
This after all was the cornerstone of the development of capital markets in the first place; offering an exchange for small and medium sized investors to deploy their capital in an efficient manner to enable maximization of their returns.
It, simultaneously, allows for industry dynamics to function efficiently. It is difficult to find a more elegant solution. It is highly likely that such structures will be offered in the near term by boutique investment banks to address the shape shifting in the industry being witnessed as we speak.
— The writer is the Managing Director of the Global Capital Partners (GCP) group of companies.