Last month I attended a roundtable discussion organised by Stanbic on the Nigerian REIT (Real Estate Investment Trust) sector, where investors, stakeholders and regulators attempted to tackle the key problems currently being faced. The 3 discussions, ‘Asset Acquisition and Valuation Considerations’, ‘Creating Successful REITs’ and ‘Land Acquisitions and Physical Planning’ though very interesting, illustrated to me that the journey ahead for a robust Nigerian REIT regime is still a long walk ahead.
Personally, I love the idea of indirect real estate. As a young professional, it’s very difficult for me to get into the real estate industry because it’s extremely capital intensive. If REITs can help me own a handful of income producing properties in Nigeria, West Africa or globally, providing me diversification and exposure, I’m up for it. Sadly, with Nigeria, there are more than a few problems with the legislation surrounding our regime and this roundtable discussion slightly caught me off guard.
Here are a just a few:
The legislation set by regulators imposes a maximum gearing ratio of 15% which is very unrealistic. Returns of any asset are heightened with the use of debt. If any asset should be using high(er) levels of debt its real estate, especially because it’s has a higher unit cost and is backed by a tangible asset.
To put the debt levels into perspective, a project I did in 2013 required me to value 3 REITs, Great Portland Estates – a Central London focused REIT, Brookfield Office Properties in North America and Dexus Property Group in Australia. One thing I won’t forget is that the 3 REITs (including their peers) typically used up to 35% – 45% debt and this was the average range observed in on 3 continents. Brookfield on the other hand had 90% and its share price climbed nonetheless. Normally as debt levels rise, so does the cost of capital and this eventually results in a declination of the firm’s value. However, Kayode, another writer on estateintel.com, explained that external factors like funds flow from international investors like the Chinese could have given Brookfield an edge, outweighing internal factors like bad books.
The Way Landlords Operate Doesn’t Help
The 1-5 year up front rent structure removes the ability for an asset to appreciate or outperform. Great point from the Head of RE Finance at Stanbic. Landlords think they are securing their income by collecting so many years up front, but instead they are putting a cap on growth of future cash flows, locking them in. If there is an increase in rents, you will be effectively locked into a certain value for up to 5 years. What about escalations? I’ll tell you that in a market like Nigeria, escalations of 5%-10%? might not always outperform the market.
We Don’t Actually Even Have REITs
What Nigeria has is a unit trust scheme with trustees. This means that the fundamental idea of taxation being passed down to the investor as if he owned the property himself is gone. Our current structure allows rental income to be taxed somewhere along the value chain, thus reducing my total return.
The public sector has improved significantly over the last decade however it often appears as if golden hires are made at the top level – (which is great) but constant training on capital market technicalities, global best practice and more will go a long way in supporting those implementing policy and strategy.
Resilient, a South African REIT which has experienced up to 1000% growth since inception is present in Nigeria through Resilient Africa, an aggressive retail developer in 2nd tier Nigerian cities. They are building up an attractive portfolio of property assets and have explicitly expressed interest in listing on the Nigerian stock exchange this year. While this appears promising, they also noted that it would not be possible without more accommodating legislation from regulators.
One problem I see is that legislation does not allow Nigerian REITs acquire properties in other countries. While Bulgaria still runs this system, others like Japan and Malaysia and have relaxed restrictions on the ownership of foreign assets. There’s a huge opportunity for Nigeria to become the sub-Saharan African (ex SA) focused REIT hub. That is, an African country where REITs with a sub-Saharan Africa strategy can list. Resilient Africa will obviously want to enter other high growth African economies like Ghana, Angola and Kenya; if they can do that by raising capital on the Nigerian stock exchange without having to list elsewhere, that’s a great plus.
Taking a card from the South African REIT story, where a trust scheme was used till they received improved REIT-ish legislation, Nigerian asset managers should continue to be at the forefront of any efforts to demand reform. Conversations between regulators at various levels (tax, registry and more) even got slightly heated and it demonstrates that people do care (to some extent). A lot more synergy is required between the regulators and the prospective REIT operators to close the gap between what each party wants and to support in the creation of favorable legislation.
Though Nigeria’s strong property market drivers including a rapidly growing population, rising urbanization rates and a growing economy easily demonstrate an attractive opportunity, most institutional investors see the low availability prime assets as a problem. The depth of the primary Grade A real estate investment market is still in its infancy stages, but for REITs to thrive a secondary investment market where real estate assets are traded needs to be established.