Money-Growing: The Conservative Investor’s Cash
The city saw the first transactions involving sale of lucrative properties. Faced with a shortage of ready-made investment instruments foreign operators, notorious for their conservative approach, are ready to forgo their principles and consider participation in development projects. According to the estimates of property analysts, at least 20 foreign investment funds mull projects in St. Petersburg these days.
“A couple of years ago there were no more than two or three of them in the whole Russia. At this, they preferred not to move beyond the boundaries of Moscow, focusing solely on operating business centers rated as class A, raised by Western developers, free of any faults whatsoever and occupied with respectable tenants. At this, investment funds expected a rate of return of 14% per year. These days the situation has changed greatly,” says Boris Yushenkov, general director at Colliers International St. Petersburg. “I think that a certain change in investors’ perception occurred approximately a year ago, as Russia moved upwards in world rankings. That served as a kind of signal for many foreign funds. They began with dispatching their emissaries to St. Petersburg; later on they opened their representations in the city.”
“I would say that about a dozen of funds have been quite active in St. Petersburg. They have clear-cut plans to work and purchase properties in the near future, some of them are making deals already. Approximately five of them are examining the market situation. Another three to five investment firms have announced their presence in the city but have not yet proceeded to any noticeable action,” Igor Gorsky, development director at the real estate agency Becar, says.
Irina Neustroyeva, finance director at Schongauer Investburo, says there about ten investment funds operating in St. Petersburg. “Some of them are very active and seek publicity, such as Raven Russia, specializing in warehouse real estate, or London & Regional Properties, which has recently announced plans to invest $1 billion in Russian projects. Others, for example Eastern Property Holdings, are working on smaller, individual deals,” Neustroyeva adds.
Securities Market
A true international investment community is being formed in St. Petersburg these days. The most active are the funds from Finland and other Scandinavian nations, as well as the Britons. “This is quite understandable,” holds Irina Neustroyeva. “Great Britain retains the title of the financial capital of Europe and all major funds have their headquarters in London, while the Scandinavians are closer to us geographically. They have close historical ties with Russia and with St. Petersburg in particular.”
The Finns used to build actively even in the days when this city was still known as Leningrad, during the Soviet regime, says Igor Gorsky. “They know the city well enough, they feel quite confident here and that is why they are ready to finance local projects, unlike, say, U.S. funds, which remain quite passive. Most likely, they will be entering our market with the mediation of European firms. For example, we know that Deutsche Bank has many clients among U.S. pension funds.”
Boris Yushenkov observes that certain funds, especially those from the Scandinavian countries, focus namely on St. Petersburg, while the overheated Moscow market, where competition is strong, is of much less interest to them. The average budget international funds are bringing to the Northern capital stands at 200 to 300 million euros. Some operators announce plans to spend up to 1 billion dollars or euros on local projects.
“It should also be remembered that the majority of those funds are highly leveraged. As a result, with, say, $150 million at their disposal they are able to pursue projects worth up to $500 million. A name well-known in the West enables them to raise cheaper loans,” Neustroyeva adds. One of the extremely important tendencies is the decrease in returns, which the funds are guided by. According to experts’ estimates, when buying into a ready-made (completed and commissioned) development they are ready to put up with the rates of 10 to 11% per year. When pursuing development projects their target is 15% and over.
Investors’ preferences in terms of functional use of projects are quite stable (with the exception of specialized funds). “Business centers top the rankings, according to our estimates,” says Andrei Morozov, senior consultant at Knight Frank. “They are followed by retail complexes, logistics centers and hotels.” “Office real estate is the most predictable and profitable segment of the commercial property market, as operating costs are quite low,” holds Irina Neustroyeva. “In hotel projects cash flows, on the contrary, are hard to predict. Hence, the preferences of international investors.”
Perhaps, the classic example of an international investment fund that has entered the St. Petersburg market is the Danish investment fund Baltic Property Trust Asset Management A/S (BPT), with participation of the Danish government, pension and insurance funds. The company has already built up a reputation of a major institutional investor in the Baltic region, where it runs a number of affiliated funds (BPT Optima S.A SICAR, BPT Secura A/S, BPT A/S) with financial resources totaling over 1 billion euros. In the summer of 2005 BPT took a decision to establish the fund Arista specializing in investments in Russia. In March 2006 Arista opened offices in St. Petersburg. Within the next three years BPT plans to put up funds to the tune of 330 million euros in Russian real estate projects.
“We are set to invest up to 60% of those funds in St. Petersburg and Leningrad Region, approximately 30% in Moscow and the remaining 10% in other regions of Russia. We prefer to invest in acquisition of completed developments, filled with tenants,” says Charles L. Voss, regional director at BPT Asset Management. “However, we are ready to work together with developers and undertake commitment to buy out future projects once they are completed. Returns BPT expects vary significantly depending on each project, but they do not exceed average market rates. One of our advantages, in our opinion, is that we run a full-fledged office operating in immediate proximity to the regions where we pursue investment activities.” BPT plans to spend approximately a half of all funds allocated for Russia on retail projects, 30% on offices and 20% on hotels or logistics projects. “Today we are looking at approximately ten projects. We expect deals on two of those projects – one in Moscow and another in St. Petersburg – to be made soon. I think we will be able to talk of the results of that work in six months,” Charles L. Voss says.
Investment funds are traditionally fastidious and take their time by selecting their investment targets. For example, the Finnish investment fund EPI Russia I still has not acquired anything in St. Petersburg, although it launched operations in the city with the mediation of the management company Catella quite a long time ago.
Each acquisition made in the city is seen as a landmark deal on St. Petersburg’s market.
Chasing Ready-made Projects
In the fall of 2005, St. Petersburg’s property fund sold a building of Atrium business center with a plot of land beneath it at a closed auction, along with the city government’s 8.82% stake in the company that holds a title to that project – the open joint stock company Nevsky, 25, for $2 million. The amount paid for the prime six-storied office and retail complex, rated as class A and measuring 7,000sqm, on Nevsky Prospekt near Kazansky Cathedral, was that trifling given encumbrances the property carried.
In particular, the city government and JSC Nevsky, 25 had signed a tenancy agreement for a period till 2043. By the time the project was put up for auction two-thirds of rental payments had already been paid in advance, while the right to tenancy was mortgaged as a security for a loan raised in the 1990s to refurbish the building. Private shareholders holding stakes in JSC Nevsky, 25 were the EBRD with 40.18%, the central marine equipment design bureau Rubin (39.44%), the U.S. company NILP (9.8%) and others.
The auction was won by a Cyprus-based offshore firm Duze Investments Limited. Months later it turned out that the acquisition had been made in the interest of the British company Dawnay, Day Properties Limited. Incidentally, before purchasing Atrium the Britons had taken over the long-standing loan raised by Nevsky, 25. The investors believe their project in St. Petersburg to be the most profitable over the past 3 to 4 years. Today, Dawnay, Day Properties Limited is putting up nearly $500 million in hospitality sector of Germany and is set to invest in Russian regions, St. Petersburg inclusive.
The spring of 2006 witnessed yet another investment deal. According to reports, which have not received official confirmation yet, the British fund Fleming Family & Partners, made its first acquisition in St. Petersburg. The investors had long looked into the local commercial real estate market and finally opted for a prime storage facility at the intersection of Moskovskoye Shosse [highway] and the outer ring road (KAD).
The class A complex was built on the site formerly occupied by Shushary collective farm. The freehold had been secured by PNK Logistics, which acted as a developer, general designer and contractor for the project. In 2005, the warehouse complex measuring a total of 14,400sqm was launched and put up for sale at the price of $850 per 1sqm.
As early as during the construction stage the project caught attention of the Moscow-based logistics operator Tablogix, which planned a warehouse property of its own in St. Petersburg. But the parties failed to come to terms as PNK Logistics was interested in the sale, while Tablogix sought a long-term tenancy. However, Tablogix succeeded in persuading a foreign investor to acquire the complex and rent it out to Tablogix for a period of ten years with a right of lease extension. The logistics firm undertook to equip and fit out the complex itself.
The highest-profile deal reported of late was the acquisition of a class B+ business center Petrovsky Fort. The title to the project was purchased in summer of this year by Swiss investment company Eastern Property Holdings (EPH), for $65 million. The new owner expects a rate of return of 13.5% per year. The building, developed on a 1.2-ha site of an unfinished property that had been planned as Hotel Sankt-Peterburg, at 4 Finlyandsky Prospekt was launched in the spring of 2003.
Until 2001 the development belonged to the company RAO VSM, whereupon an affiliate of the corporation Stroimontazh took over the project and assumed the role of an investor. Fort measures a total of 48,000sqm, comprising nine floors providing 16,300sqm of rentable office space and two floors of shops. The basement floor houses a parking area with 106 car-spaces. Back in 2003, the office project was estimated to be worth approximately $20 million.
By the time Petrovsky Fort was put up for sale it had been fully leased out. Rates charged there today range from 576 to 720 conventional currency units (c.c.u.) per 1sqm per year.
EPH, established in 2003 with a view to pursue real estate investments in Russia and the CIS (former Soviet states), has a track record of landmark deals. In 2004, the company purchased the Berliner Haus office center in Moscow from Westdeutsche Immobilien Bank. Besides, the Swiss firm has bought into the hypermarket chain Mosmart.
“We launched operations in St. Petersburg several years ago,” says Alexander Novikov, managing director for Russia and the CIS at MCT Asset Management, which is part of the EPH group. “Today, we are considering participation in several projects. Most likely, those will involve new construction. Our main focus is office development, as well as shopping projects, which we finance in the framework of our participation in the company Gipertsentr and the hypermarket chain Mosmart. So far it is hard to speak of the final amount that will be spent in St. Petersburg. Much depends on availability of concrete interesting projects. But as early as today the total amount of investment made or planned exceeds $120 million. If everything goes well it will grow considerably.”
Do It Yourself
“With virtually no ready-made investment products available on the market, funds are forced to reconsider their strategies. For example, they agree to finance development projects on condition of future acquisition of completed properties. Some investors even secure freehold titles to the sites where construction is planned,” Alexander Morozov says.
“However, funds agree to participate in development projects only upon enlisting support of strong local partners or where well-known international consultants, brokers or lawyers are involved,” says Nikolai Vecher, who runs the Center for Real Estate Development Projects Vecher.
For example, in March 2006 the British investment firm London & Regional Properties purchased a hotel development in St. Petersburg. The project featuring a first-class hotel and a spa facility is being developed by a leading domestic operator Etalon LenSpetsSMU as part of a prime residential estate At Rostral Columns on Vassilievsky Island.
With a portfolio in excess of 3.5 billion pounds, London & Regional Properties is one of the UK’s largest private property companies. In early 2006 the company owned 61 hotels across Europe. LenSpetsSMU said it had received quite a few bids from potential buyers. The holding, specializing chiefly in residential development, decided to find a co-investor for the hotel project years ago, as it never sought to pursue projects in the fields other than housing construction.
The total size of the hotel and the spa-center is over 25,000sqm. The newly built seven-storied hotel provides 280 rooms. The wellness complex will partially occupy refurbished wine cellars of the merchants Yeliseyevs, built in the middle of the 19th century. The property, to be launched in 2007, will be operated by the Finnish hotel chain Holiday Club. The cost of the project is estimated at approximately 50 million euros. The sum of the deal signed by the British fund and LenSpetsSMU remains a secret. Last fall the hotel project, nearly completed by that time, was offered for sale at the price of $1,500 per 1sqm.
British investment fund Raven Russia Limited pursues two warehouse development projects in St. Petersburg. The company plans a 128,000-square-meter warehouse complex on a plot of land in Shushary, southern St. Petersburg, undertaken jointly with the company Avalon Logistics.
This last summer the fund launched another project, a 60-square-meter office and warehouse complex on a territory measuring 10 hectares on Pulkovskoye Shosse (also in the south of the city). To that end Raven Russia had established a joint venture with Adama (Overseas) Ltd., set up by investors from Portugal. The developer of the project estimated to be worth $44 million is the Moscow-based company Espro-Development. Raven expects returns at the rate of 15.5% per year.
One more operator, who has been highly active in St. Petersburg of late, is the investment company Ruric AB set up in Sweden to oversee commercial real estate projects in Russia. Ruric AB’s founders are Robur Pension Fund, with a portfolio of 37 billion euros, the Oman financial house established over a century ago, and others. For the time being, Ruric AB has established its presence only in St. Petersburg where it has built a strong team of local managers. The company focuses on centrally located developments. In the summer of 2006 Ruric AB was said to have already poured nearly $100 million into local projects and pledged to invest just as much by the end of the year.
The targeted rate of returns is 20% per year. Ruric AB has already launched two class A business centers on Vassilievsky Island -- Magnus and Gustaf. One more office center, Oscar, on Fontanka Embankment, is to be completed in early 2007. Not long ago Ruric AB secured a freehold to an operating business center Grifon, rated as class B, at 19-21 Dostoyevsky Street. The company had purchased a stake in JSC Grifon from its partner, the international company Henry Chichester. The sum of the deal remains a secret. The relatively small business center, measuring only 3,000sqm, is rented by a single tenant, a pharmaceutical firm PSI. The new landlord is set to expand the facility by building a 3,500-square-meter annex on the site.
Head of commercial department at Ruric Management, Andrei Levshin, the company has signed a protocol of intent with PSI, whereby the latter undertakes to take up the entire second phase of the business center. Furthermore, Ruric AB is refurbishing several shopping buildings in Apraksin Dvor (marketplace and storage area), and is involved in relocation of the Military Transport University of Railway Troops (VTU), from Moika Embakment. The vacated site measuring 3 ha will be used for development of a 100,000-square-meter mixed-use facility.
Last year a group of U.S. and European companies established the investment fund White Days, to oversee their operations in this country. In Russia, White Days operates through an affiliate, White Days Investments, run by local managers. “The idea of launching the fund first occurred to the founders as early as before the 1998 financial crisis but, understandably, the plan was abandoned. We had worked with White Days’ founders before, that is why they trust us,” says Andrei Mikeshion, general director at White Days Investments.
For the time being the fund focuses on development projects rather than acquisition of ready-made businesses and shows interest in a variety of fields. For example, White Day Investmnts has pledged to finance the development of a high-end logistics complex measuring a total of 200,000sqm in Vsevolzhsky District of Leningrad Region.
This summer the 37-hectare freehold plot of farm land was secured by the company K-1, established especially with a view to pursue the investment project. The complex to be phased in gradually is estimated to be worth $150 million. Future prime storage facilities, rated as class A, will be let to major retailers, logistics operators and manufacturers. “Our investors have expressed interest in warehouse projects with a projected payback of 7 to 8 years,” Mikeshin says.
Not long ago, White Days Investments purchased one more plot, measuring 10 ha, for construction of a logistics terminal, near the town of Noginsk in Moscow countryside. In St. Petersburg the company is working on several more projects, one of which is a 65-room boutique hotel under construction at 4 Gangutskaya Street. A project to build a 3-star hotel at 5 Kovensky Side-street is on the drawing board. A 2,000-square-meter custom built restaurant complex is planned on Svetlanovskaya Square to order of a concrete operator. “Initially, the fund had planned to invest some $200 million in Russian real estate in the course of three years. Today, that figure has already been adjusted to $300 million. Although, investing that amount will take longer – four to five years,” Andrei Mikeshin explains.
The most highly publicized business alliance formed by an affluent international investor and a local firm this year was launched by Deutsche Bank and St. Petersburg-based RBI Group who announced a joint venture in the spring of 2006. The bank’s real estate investment fund RREEF holds a 75% stake in the newly established fund. The company is set to finance projects for development of prime apartments, offices rated not lower than class B+, shops, warehouses, etc. The only sector the Germans take no interest in is the hotel industry.
Each project will be overseen by a separate firm established especially for the purpose. The compulsory requirement is acquisition of freeholds for construction. Investors seek plots measuring from 1 to 15 and up to 20 hectares, and industrial estates, for example, along embankments of the Neva River. The fund is ready to undertake relocation of production facilities operating on those sites. The German firm has given a free hand to their Russian partners. RBI will act as a developer and operator of investment projects. Admittedly, St. Petersburgers are required to secure approval of their plans from the Western colleagues. But the parties have agreed to do that in the shortest possible time.
The JV has already begun its first project, envisaging construction of a commercial property measuring a total of 52,000sqm on a 1.2-hectare plot at 23 Novgorodskaya Street, acquired from a local spinning mill. Earlier the plot was occupied by a sports stadium. The new complex estimated at $85 million will provide 25,000sqm of residential space, 15,000sqm of offices and a 12,000-square-meter parking area. These days the project is in design stages.
Alistair Dixon, head of RREEF Europe, says that the creation of the fund is the company’s first step onto the Russian market. “We plan operations in other regions of Russia. But for that we need transparent and reliable partners. We have chosen St. Petersburg namely because we have found one such partner here.” RREEF plans to spend $500 million in Russia during the next 3 to 5 years. The amount may be increased. By the end of 2005 RREEF was operating a portfolio worth 53 billion euros.
“The competition between investment funds in St. Petersburg is already felt. Admittedly, this is due not to the number of operators but to the shortage of properties, which meet rigid requirements set by funds considering acquisitions in terms of title deeds, transparency of operations, etc. That is why, we witness rivalry here,” notes Ilya Yeremenko, general director at Practis CB.
“Western funds face strong rivals among domestic investors such as Gazprom, AFK Sistema, VTB and others, who pursue huge real estate investment projects through their affiliates,” says Irina Neustroyeva. In these circumstances, international investment funds who are committed to continue their projects in Russia will have to put up with lower returns and soften their requirements.