• Tom Bradley

How is COVID-19 Affecting UK Real Estate?

Since the first UK confirmed case of COVID-19 on January 31st the UK economy has seen an extraordinary deterioration, with over a million workers furloughed and soaring unemployment. With a collapse in consumer demand business has been hit hard with 51,498 dissolutions seen in March 2020, up 70% on March 2019. Recent UK PMI data is at an all time low at 12.9, emphasising the fear hanging over the macroeconomy and further dampening estimates of UK quarterly growth with many economists now forecasting the percentage decline to be in the double figures.

The real estate sector has been one of the worst affected by the crisis. Following the Conservative landslide general election victory in 2019 and an end to the uncertainty surrounding Brexit the UK appeared to be entering a period of stability, house prices hit a record high of £312,625 with year on year growth in London prices at an impressive 5.1%.

However, the COVID-19 crisis has wiped out these gains with collapses in demand throughout the property market. With the imposition of lockdown on March 23rd the government advised on cancelling all house viewings and delaying moves where possible. It is estimated that 520,000 home sales may be cancelled as a result, representing a 38% yearly decline for 2020. UK property website Rightmove has seen a 40% decline in new listings since lockdown and this is only expected to fall further as the housing market moves to a standstill.

Mortgage approvals are also expected to collapse in volume with property consultants Knight Frank predicting 350,000 less approvals this year. This is in part due to the decision by banks to withdraw a large range of their mortgage products. Major UK mortgage issuers Barclays and Halifax have withdrawn all mortgage products with loan-to-value ratios of less than 60%, meaning only buyers who can afford a 40% deposit will qualify. Halifax have cited processing issues due to working from home arrangements and increased mortgage holiday requests as the reason for this and have asserted that the withdrawals are not due to liquidity or funding issues.

UK Housing Market, Source: Savills

The rental market has also faced issues, with tenants furloughed and suffering job losses, residential landlords only saw 44% of rent paid in March leading to disputes between landlords and tenants. Whilst the government have offered protection to residential tenants from eviction until June landlords have argued the situation is being exploited and many that are able to pay are choosing not to.

The construction industry is closely tied to real estate and hence has also suffered as a result of COVID-19. Real estate group CBRE have estimated a fall in private development of 50% in London for the year, on the assumption that construction will resume in July. With the target of 42,389 new homes a year being consistently missed pre-crisis this will only exacerbate the shortfall of new developments in London. One of the hardest hit firms is major residential construction firm Barratt Developments who have furloughed 85% of their workforce, ceased all construction and made sweeping cuts including cancelling a £100m dividend payment and freezing all new land buying.

With UK business dissolutions up 70% in March and further increases expected many major retailers and restaurants are facing the prospect of insolvency. Household names Carluccio’s, Laura Ashley and Brighthouse are amongst firms that have already entered administration and Debenhams and Cath Kidston are among those expected to follow in the near future.

With rising dissolutions and falls in revenue only 41% of rent due from retail tenants and 57% from office tenants was paid on time in March, which has placed many firms operating in commercial real estate under great stress as cash flows have slumped. Intu, an at-risk real estate firm with an estimated portfolio value of £10bn which includes major retail spaces and shopping centres in the UK only received 29% of rent due for the quarter ending on March 25th. Intu were already in financial difficulty before the crisis seeing £2bn in losses in 2019 and accumulating a debt of £4.5bn. Shares in the firm are currently down 85% YTD and there are rising fears over the future of the firm given its precarious situation.

Intu is far from the only firm in the real estate sector in difficulty with corporate restructuring firm Begbies-Taylor having cited real estate as the one of the worst hit sectors by the crisis with the firms in the industry in ‘critical financial distress’ growing by 21% as a result of COVID-19.

With the UK government protecting commercial tenants as well as residential tenants from eviction until June many restaurants and bars have been offered a crucial lifeline, however this comes at the expense of tenants who now see issues with their cashflows. There is frustration from commercial landlords who believe that their tenants are taking advantage of the situation and refusing to pay rent that they could afford. This has led to Intu threatening legal action against non-paying tenants who they claim have “just decided they don’t want to pay their rent”. Criterion Capital, owner of the high-end Trocadero shopping centre has also demanded full payment from firms who they believe are using the virus as an excuse.

There is likely to be a deep long-term effect on the sector with the crisis contributing to structural changes. It is expected that there be a decline in demand for retail space as there will be an acceleration in the movement to online retailing, however this will raise demand for warehouse and storage space. There is also likely to be a fall in demand for office space as firms realise a more flexible office structure is possible and working from home arrangements become more widespread. There is also likely to be a shift to local suppliers with travel restricted – firms may opt to do this in the longer term to protect supply chains in the case of a future pandemic. This was a process already underway with firms looking to improve their carbon footprint and cut imports from foreign suppliers. As a result of this increased demand for UK suppliers more industrial real estate is likely to be developed in the UK.

The real estate sector has seen significant adverse effects as a result of the COVID-19 crisis with the markets freezing and collapses in demand. Many real estate firms will struggle financially with some becoming insolvent as a result of reduced cashflows. However long-term changes to the real estate landscape will be accelerated by the crisis and there will likely be improved opportunities within the industrial side of the sector that could allow for growth in the future.