Into the abyss
Published: 15 October, 2008
October 2008 will go down in history as one of the most tumultuous periods in economic history, ranking alongside the Wall Street Crash of October 1929 and the 1973 oil crisis. With banks collapsing, retailers shutting up shop and consumer confidence plummeting, it's time to try and make sense of it all and ask what it really means for shopping centres.
Broadly, there are three key stakeholders in a mall: the owners, the occupiers and the shoppers, and their fortunes are inextricably linked. They are all affected by the downturn in different ways.
But interest rates affect all three and last week the UK government moved to part-nationalise the remaining high street banks, at the same time as offering them new liquidity to encourage them to resume lending. And the Bank of England, the European Central Bank and the Federal Reserve in the US moved to cut rates immediately by 50 basis points apiece, the first emergency reduction in the UK since 9/11.
The coordinated moves were aimed at counterbalancing the vicious deterioration in financial markets and giving some measure of reassurance to households.
Paul Guest, head of EMEA research at Jones Lang LaSalle says: "They couldn't have done anything else. The downturn will now be longer and deeper than previously expected, to the extent that the MPC believes it will be sharp enough to bring inflation back down to the 2 per cent target in the medium term from its current elevated level."
The move was welcomed by the British Retail Consortium as the kind of decisive action needed in the current financial turbulence. BRC director general Stephen Robertson says: "The banking crisis is undermining consumer confidence and a significant rate cut was necessary to restore that confidence while stimulating the high street and the rest of the economy." And he adds: "It takes months for the benefits of a rate cut to filter through, so cutting rates today will avoid the need for a bigger cut later on. This should only be the start of a series of reviving rate reductions."
The depth of the crisis facing retailers is underlined by a string of corporate failures, with brands collapsing on an almost daily basis.
In the past month alone, Faith Shoes went into administration before being sold to the retail entrepreneur John Kinnaird and investment fund Agilo. Faith will be combined with menswear brand Envy and fashion brand Chilli Pepper, between them operating 140 UK stores.
NBTY Europe, owner of Holland & Barrett, bought its high street rival Julian Graves from Icelandic investor Baugur to create a 1,000-strong high street portfolio.
A management buyout rescued furniture retailer MFI from the brink of administration, but its rival Roseby's, with 280 UK stores, failed to avoid a similar fate.
And the fashion sector was not immune with Joy, which has 28 stores, entering administration before being bought by its management and new investors.
== the icelandic effect ==
The collapse of the Icelandic banking system has added a further twist to the downward spiral. Its banks had been major investors in UK retail in their own right as well as in their capacity as a backer of Baugur.
Although the company insists it has access to other sources of capital, Baugur controls Mosaic Fashions, which owns and operates the womenswear fashion brands Karen Millen, Coast, Oasis, Whistles, All Saints and Jane Norman as well as several shoe brands such as Nine West and Pied a Terre.
Three years ago Baugur paid a reported £350m for House of Fraser and it also owns Iceland Frozen Foods. Other investments under the Baugur umbrella are the toy retailer Hamleys, jewellery chains Goldsmiths, Mappin & Webb and Watches of Switzerland, as well as Wyevale Garden Centres.
It's unclear what precise impact the Icelandic crisis will have on Baugur, but questions have naturally been raised over the company's stakes in a number of listed companies, including Debenhams, Moss Bros, French Connection and Woolworths.
So what of the shopper? Consumer spending in recent years has followed the housing market closely: house moves trigger spending in the homewares and furnishing areas, while those that have decided to stay put have often withdrawn equity to finance home improvements, which in turn has been a big driver of the DIY sector.
However, in 2008 restricted and more expensive mortgages saw lending continue to fall in August, with just 32,000 new loans approved according to the Bank of England. This is a record low, down an astonishing 70 per cent from a year previously and way down from the 130,000 peak in November 2006.
And according to James Thomas, head of residential at Jones Lang LaSalle, there is little likelihood of this situation changing any time soon.
"In the short term, any cut to base rates is little more than a sop to restore confidence," he says. "Potential buyers are naturally reluctant to commit themselves to new mortgages, even when they're able to secure them. Rising unemployment and the financial crisis is creating uncertainty about job security, while at the same time house prices continue to fall."
He points out that house prices were 12 per cent lower in September compared to the same time last year and down 1.7 per cent over the month, according to the Nationwide building society.
Against such a backdrop it's hardly surprising that consumers are reluctant to go shopping. The latest pedestrian traffic figures from analyst SPSL show that footfall in September was down 11 per cent on August, and down 0.9 per cent year-on-year.
SPSL's retail psychologist, Dr Tim Denison, comments: "The rate of slowdown in like-for-like sales is slightly steeper than that in retail footfall generally, according to the BRC-KPMG Retail Sales Monitor, which does show a greater reluctance to commit to a purchase. But together the two headline indices reflect the shift in consumer behaviour towards trading down and making more considered, better researched purchases, particularly in terms of high-ticket items."
However, he warns retailers strongly against panic measures.
"In previous downturns we have learnt that in several sectors, especially food and fashion, shoppers inevitably become more price sensitive at such times," he says. "Crashing prices, though, is more a tactic to win a sprint than a marathon, and needlessly sacrificing margin is a sure-fire path to failure."
== investment squeeze ==
So with retailers and consumers under the cosh, what does it mean for the owners? According to Jones Lang LaSalle the investor side of the market is also being hit hard by the financial crisis, with UK investment transactions down 58 per cent in the first nine months of 2008 compared with the same period in 2007.
The firm believes the era of cheap, debt financed deals, which drove the market in 2006 and early 2007, is over due to the non-existence of debt financing as a result of the credit crisis. And it warns that the de-leveraging process and standoff between buyers and sellers that is currently taking place will see commercial property yields remain under pressure, with further upward moves anticipated.
Brian Laxton, head of capital markets at Cushman & Wakefield, says investment turnover in shopping centres has actually fallen further than the rest of the market, with activity down by two thirds in a year.
Significantly, the one big deal to go through the market this year has been in the value sector, when Henderson Global Investors bought a portfolio of McArthurGlen designer outlet schemes for £365m from a consortium of institutions including AXA, BP Pension Fund and Morley. Despite their strong tenant mix and prime locations, the centres only commanded an initial yield of 6.8 per cent.
Laxton says that overseas investors are now largely out of the market, and property companies have scaled back their activity. But UK institutions - pension funds and insurance companies - have seen smaller reductions in activity. This chimes with research published by the Pensions Management Institute and fund manager PruPIM, which shows that UK pension funds are keeping faith with the commercial property sector, despite recent market turbulence, with the majority indicating they will increase or maintain their allocation to property over the next three years.
Professor Paul McNamara, PruPIM's head of research, says: "Given the difficult times in the commercial property market, this is a definite vote of confidence from institutional investors."
Cushman & Wakefield's Laxton comments that other buyers could soon be back in the market, when they perceive that values have fallen far enough to offer a good deal once more.
"It will be new participants in the market, like opportunity funds, who are likely to lead the return to real estate," he says. "There's substantial equity waiting in the wings." And he forecasts that when activity does return, it's likely to be seen first in the prime end of the market.
"Secondary assets are always overpriced in an upturn," he says. "The opportunities exist in prime, and that will mean a return to property fundamentals."
