UK Real Estate Investment: Structuring for Performance and Investor Appeal

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Caitlin: Hello, everyone, and welcome to today's webinar, "UK Real Estate Investment: Structuring for Performance and Investor Appeal." My name is Caitlin Alaburda, and I'm with the CSC's webinar team.

I'd like to introduce today's moderator, Natalie Breen. Natalie brings more than 25 years of experience in real assets, alternative investments, and global business developments to her role as global market leader real assets at CSC. She has held senior leadership positions at top financial and professional services firms where she shaped industry-leading strategies and delivered innovative client solutions. Known for driving strategic growth and leading high-performing teams, Natalie plays a key role in advancing CSC's real assets capabilities on a global scale. And with that, I'd like to welcome, Natalie.

Natalie: Thank you, Caitlin, for that kind introduction, and welcome, everyone, tuning in today. As you can see, we have quite a full agenda, and so I'd like to just move without any further ado to our panel. So today we are joined by an expert panel, including Mark Battistoni from Alpha Group, Jo Cox a tax partner at PwC, and Richard Herring, a principal at Westfort Advisors.

I just wanted to spend a couple of moments just from our perspective as CSC. As you may know, we manage and administer over two trillion of assets, and a large proportion of that is actually real assets globally. So we are in a unique position of being able to kind of get like a helicopter view of what we think the market is doing. I just wanted to really just pull out a few key themes in the funds space.

Probably the three kind of main themes we're seeing is like the evolving investment environment around asset classes and more emerging alternatives, which I will touch on shortly. We're seeing a lot more of the GPs and investment managers focused on the investor experience and actually structuring for success and investor alignment. And part of that is actually the role of technology in investments. So we're seeing asset managers respond to investor needs and like updating technology and allowing more data analytics and things like that.

I must say I did prepare this last week, and things are changing on a very rapid basis in relation to geopolitical trade and other initiatives, driven largely by the U.S. I think it's fair to say we have seen a lot of some uncertainty regarding some of the events going on around trade tariffs. And also, if we look at Europe and the fact that in recent decades it's really been built upon kind of U.S. security, Russian energy, and Chinese goods, and now it's looking to pivot from that. I think and we've also seen some very extensive fiscal spending programs to combat the offset of the tariff impact by countries like Germany.

But I do actually think the UK is the "jewel in the crown" and is now solidified by the UK U.S. trade deal because, for us, it's actually way more positive, I think, than Europe. One, we have the UK U.S. trade deal, which reduces some uncertainty, at least puts forward a framework for going forward. And coupled with the Bank of England interest rate cut and the general downward trajectory, we just think that we're seeing a lot more interest from groups looking to set up funds and other investment structures coming from international groups as well as domestic. The India UK trade deal is also positive.

I think from sources of capital, we're seeing increased interest in UK investment from UAE and Saudi capital and also the Australian pension funds also seeming to be more active. And they're looking to come into our clients' funds or our clients' separate managed accounts. So I think the news has got better for the UK in the last couple of weeks because, obviously, last year it was quite a subdued transactional market.

Just on the actual sector focus, I suppose alternatives have remained the most of interest to our clients. So we've seen the PBSA, the affordable housing, life sciences, etc. But I think we're now starting to see more emerging alternatives, more focus on single-family housing, self storage, assisted living, data centers, and education. Private credit has continued to be showing a strong demand, and a number of our clients are forming new vehicles and looking to increase the allocation to private credit. And infrastructure, again, has just been a very solid performer over the last few years, and we're seeing new funds being created, both at regional and global levels.

I think one thing I just wanted to touch on was this kind of theme about enhancing the investor experience. Because the capital raising environment has been fairly subdued over the last few years, investors are really demanding more from their asset managers, investment managers, and that includes a number of things.

So firstly, in relation to optimizing the structure, we're seeing more an increased use of separate account and club deal structures. And this is really driven by investors seeking increased transparency and alignment of interests around performance fees. But again, a lot of these club structures and separate account structures still require the same tax and structuring kind of infrastructure around them. So whilst they're not a multi-mixed fund, they still have a number of the same considerations.

We've also seen investors wanting from their managers more efficient operation platforms. One, there's a push on pricing. But also they want kind of a 360 service, so kind of a full life cycle service. So therefore, can like us do the property management accounts? Do we have accounting and reporting software? And also a drive towards investor portals and communication.

So again, we're seeing in this fairly subdued time of transactions much more focus, people are using this as an opportunity to improve their technology solutions for clients, automate as much of the administrative tasks as they can. Also a drive for more data to perform data analytics for performance monitoring and the like. So really just using technology to enhance investor engagement, and that is tools like online portals and digital reporting.

So really a lot of the decision-making or the decision-making is with the investors, and they are wanting a new level of sophistication from their asset managers. So I'm just going to stop there and hand over to Jo, from PwC, to give us an overview of some of the key tax considerations for this investment landscape. Thank you, Jo.

Jo: Thanks, Natalie. Hi, everyone. So yeah, as Natalie said, I'm a tax partner at PwC. I've worked in the real estate industry for 20 years now, which always surprises me, initially in industry and laterally in that I was deal side, at the deal table, negotiating these things, structuring new ventures. So as a partner in PwC, it's really interesting for me to see kind of the evolution of the market and to kind of see what tools we have now, how changes in the landscape, the different sector selections that people are making, that Natalie touched upon, and that we are also seeing, and how that might impact the way that we think about tax structuring in order to be both efficient but also realistic about kind of the full life cycle of a property investment.

So I'm going to cover kind of three key areas. We're going to talk about those sector and different kind of external factors that might influence the way that we structure something. I haven't got time in this session to talk about all of the options available, but I'm going to kind of touch on three key areas, being QAHCs, REITS, and then the new RIFF regime. And I'm also just going to talk a little bit about how they compare, really just to kind of like use the time most effectively.

So this is a bit of a joke. What is the matter? But I guess, with the changing landscape that we've had, Natalie touched upon kind of both the established and the emerging alternative sectors. We are seeing a huge range of different kind of structuring discussions.

And really the first question, when we're thinking about how to structure something most effectively is, what is the underlying subject matter? How does it fall into one of these or one of the more established sectors? What is it now? Is it stabilized income already? Are we going to be developing it or doing a major refurbishment? Are we talking about kind of credit or debt funding? Is it a brand-new platform, either kind of a big mixed fund or some sort of co-invest or club deal, as Natalie touched upon? Perhaps it's a joint venture. And maybe it fits into one of those things in a way, and we're thinking holistically about the whole.

One of the kind of key things that we've been talking about and particularly with regard to those sort of emerging alternatives is in relation to things which were historically and typically might be considered more operational and/or like infrastructure. And in the past, because of the way that the tax landscape in the UK was for real estate, we had a sort of in your back pocket kind of structuring way of doing things, so modus operandi that was quite straightforward. So we didn't tax real estate in the UK if we structured overseas, as you will all be well aware of. And now that that's changed, I think the way that we're thinking about things and the options that we have are starting to get a bit more advanced and people are thinking a bit more creatively about how we deal with some of these slightly more operational assets.

Why does it matter? Well, I guess when we're thinking not only about what the thing is now, who's using it, where the income is being derived, if you are exiting and like crystallizing your value at post-development or post-letup, or whether you're going to continue to hold it for the long term. There's also this point around like: Is it a property rental business? Is it a trade? Are you trading in property? And the reason that that's important is because some of the structuring options that we have available to us are not available if you are a trading business or a property rental business. And so thinking about what the thing is now, what it's going to be. And also particularly when a lot of the kind of major investments that we will all be used to dealing with and in the infrastructure space, what kind of person is going to buy that from you, and how might they want to hold it once it has, for example, reach stabilization.

This next slide just sort of summarizes why it matters. I'm not going to go through this. But for example, a REIT is available for property rental business, not for trading. SSE the other way round. There are various exemptions and reliefs that are not available for one or the other. And the impact on kind of net returns, whether they're with withholding tax or without also relate, in part, to whether it's a property rental business and you've made a REIT election, for example, or whether it's a trade. So look, that's in the slides that you get to take home and read in bed. And I won't go too much further into that.

But turning now to kind of what we're seeing. So again, before I dive into any of the detail, this is slightly outdated data. But if you look at the long-term average, it is consistent. And effectively, the market of global real estate is made up of asset owners. Quite a large proportion is in listed enterprises. But 50% is held in unlisted other structures, e.g., funds, joint ventures, etc., etc. And that's really, I think, what we're talking about here because we're thinking about how we're going to deal with that portion of the portfolio. And how we are dealing with it now and how we've got to deal with it to be more efficient has changed.

If you think about the changes in the UK tax rate, so previously, we were at 17%. Now we're up at 25%. We've got non-resident landlords that have come within the charge of corporation tax. So not only is the tax rate higher, but we are also subject to a higher level of disallowance for interest, for example. And so tax used to be something that you could underwrite at a specific amount. But as regulation and tax rules continue to change and tighten, tax is a much more major feature in any kind of financial model. And so we have got to deal with it in a slightly different way.

I've just put some slides in here about the GDO rules. And I think the reason I've got them up front here is because when we think about some of the structuring options that are available to us, whether or not something is widely held is a critical kind of factor. It applies to each of the different options that we tend to discuss with our clients first up.

So the GDO rules, as it says, were introduced as part of the Offshore Fund rules in 2009. They've now been brought into various parts of the tax legislation to sort of like ensure that investors and/or the elections into certain regimes are possible if something is widely held. A lot of you will be familiar with what these rules do. But I think just having an understanding of what it means and whether in any kind of situation it's possible to consider basically the marketing activity and how you record that essentially is becoming more and more important to optimize for tax.

As I said, the rules really are designed to ensure that the fund or platform is widely held. The outcome of the fund holding is actually not important. What HMRC look at is what the activity was. So are there fund documents which state that there is a specific kind of intended category of investor, that it will be made available to that category, and that it is marketed in a sufficiently wide way to target those investors? I think there's an understanding that if you're looking at institutional investment, the kind of the scope of the marketing activity is probably going to be more narrow. But they will look at like records to consider what has actually been undertaken. So that's just kind of something to bear in mind as we go through the next slides.

So look, REITs are my favorite. I worked at a REIT before it became a REIT as the rules were introduced. And as of last week, when I rang up the HMRC REIT team, they told me that there are now more than 200 UK REITs, many of which have been created since the rules have been relaxing over a period of time.

I'm sure you will all be familiar with what a REIT is. But just to kind of have a very high-level recap, so a REIT effectively provides for an exemption to UK corporation tax, so only corporation tax. Other taxes are unaffected. It's a normal corporate structure, apart from it has a special tax wrapper. It's not regulated in any particular way. And essentially what it provides for is a lower overall tax rate. It's mainly beneficial for overseas investors investing in a treaty jurisdiction. But it provides a really nice means through which investors with different tax profiles can come together and benefit from their own tax profile, either because they come down to the dividend treaty rate in their in their local jurisdiction, or if they're an exempt institution or sovereign pension fund, etc., they will come down to the 0% rate. And they can do that investing either via a partnership or another kind of fund umbrella vehicle or directly into the REIT.

Other benefits of that kind of reduction are a step-up in basis. So on the way into a REIT, you get a step-up to market value. On the way out, i.e., if the REIT sells a propco, you also get stepped up. So you avoid kind of the standard price chip negotiation on the way out. And as I said, the UK CT rate is now 25%. So at a very basic level, you're usually talking about a 10% kind of arbitrage for any normal investor.

So why has there been an increase to the number of REITs? And actually, just on that, I'm surprised that there aren't more at this stage than there already are. But to talk through where it started and where we are now, so when the REIT regime first came in, there was a conversion charge, which has now been abolished. So there is no cost, other than tax structuring and a moderate amount of additional administration and compliance for converting into a REIT.

You can now have captive REITs, and the listing requirement is also abolished if you have more than 70% held by institutional investors. They've made a number of kind of simplifications, which have been helpful. And in essence, the question and the conversation that we're having with clients now, in general, if you've got an investment property portfolio for rent rather than a trading activity is, "How can I become a REIT," rather than, "Should I?"

It's by far the most efficient tax structure if you can pass through the kind of like conditions to qualify. I won't go through the conditions in detail. But the key condition, which is the sort of threshold to pass through, is the widely held, and that's why I refer back to the kind of the GDO funds. There are a number of institutional investors that automatically qualify, one of which would be a genuinely diversely owned fund. So really that's what we think about first.

There are a number of kind of specific REIT conditions. But again, that kind of primarily relates to whether or not you've got a property investment business rather than sort of like specific trading activity.

Just briefly now we're going to talk about QAHCs. So actually as of May last year, there were more than 400 QAHCs registered in the UK. QAHCs are not good in general for UK property. But what we've seen a lot of is the use of qualifying holding companies in parallel with REITs if you are investing in non-UK property alongside your UK or if you are kind of doing credit fund structures.

The simplifications to the UK CT rules are basically exemption on gains from kind of qualifying SPV sales. There are no withholding taxes on interest or dividends. And you get exemptions for UK tax on gains in direct and indirect sort of overseas property disposal.

So the other thing about QAHCs are that they should benefit from kind of treaty rates. So essentially it can be quite a good alternate to using an overseas fund structure where people are motivated to kind of onshore their structures or if they've got any investors who are particularly sensitive to that.

We've seen it in the alternative space. The main drivers, as it says here, have been kind of like substance. They want to run it from the UK. Very, very popular in the credit or like real estate lending space. But doesn't dovetail nicely with the REIT rules. And so if you want to use a QAHC and you've also got UK property, it's far more likely to be kind of better to run in parallel with a REIT structure.

So last section now, what's new, and many of you will have seen that the new RIF rules have been released, 19th of March. So it's very new. We haven't actually seen, or I personally haven't seen any being set up yet. And essentially what the RIF rules were designed to do was provide another onshore alternative that is going to be more user friendly for UK property.

It's income transparent so long as you continue to meet the conditions. There will be withholding tax in the normal way if you're making distributions to non-residents, unless they've got an NRL gross certificate. Gains within the RIF structure are exempt, but the actual holding in the RIF will be treated as a chargeable asset for the UK. And it's treated as a company for SDLT, and you can get seeding relief. But it needs to be based in the UK, both the operator and the depository.

I think the main issue or challenge with the RIF regime is that there are no special VAT provisions. So if you're undertaking a business that is not fully taxable and you've got some exempt supplies, then there will be VAT leakage. And then also, because it's UK based, it won't qualify for the passport scheme.

You need to elect in. Again, it needs to be widely held. But we think it will be popular for exempt investors, like pension funds, who want to kind of bring their holdings onshore. It needs to be UK property rich, and you've got 12 months to set up to meet that obligation. If it's not UK property rich, then it shouldn't invest in more than a minor amount of UK property, or it needs to be restricted to investors who are exempt from tax on gains. And the reason that those restrictions apply is because of the corporation tax exemption that applies to it. If it's not either property rich or they're not already exempt, then there would be UK tax leakage.

But yeah, it remains to be seen how popular it becomes. But I think that it should be taken up by mainly exempt investors. It is not as efficient from a tax perspective as a UK REIT. And that's why we think that there will still, given the requirement for them to be institutional in the main, be kind of REITs in priority, unless there are some sort of like specific reasons why that they would prefer to do a RIF.

Anyway, [count to three 00:26:01] tax, I would like to hand you over now to Richard Herring from Westfort Advisors, who's going to give you a debt market overview.

Richard: Thanks, Jo. Yes, so my name is Richard Herring. I'm a founder of the Westfort Advisors. We're a Pan-European debt advisory firm, focused primarily on commercial real estate credit, either arranging debt across the stack or managing restructures or workout processes for investors.

I thought in this section we'd have a look at the availability and cost of debt for different sectors. But I thought it'd be worthwhile having a quick look at the overall market dynamics, some of the key trends we're seeing.

And kicking off with on the left-hand side the banking market, so traditional banks, UK clearers and international banks with UK headquarters. So banks still account for about 55% of the market, with insurance firms at around 15% and then debt funds just over 20%. I think bonds make up the remainder.

The traditional banks obviously had a turbulent few years, but are seemingly now very much back in business, driven by the SONIA forward curve and five-year swap rates declining. And that's been trending lower over the last few weeks, and the markets are starting to price in more rate cuts, which has helped sentiment as well. Where rates go from here is obviously difficult to say. Tariffs, the whole sort of macro situation may be looking a little more positive for the reasons that that I won't repeat what Natalie said earlier. But we just don't know. If it causes inflation, it could prompt the rate of cuts to be accelerated or possibly that they will slow down to alleviate recessionary pressures. But I'll let Mark talk more about these things and interest rate hedging in the next section.

So whilst banks are very much hungry for deals, they're generally frustrated by lack of transactional activity in the market. From speaking to some of the clearers and agents, there's clearly a lack of acquisitions due to the persistent bid-ask gap. Despite cap rates starting to fall, perhaps with office being an outlier, the general feeling the investors are playing a bit of a waiting game because of wider macroeconomic uncertainties.

Meanwhile, the volume of refinancing in the market has not been quite as great as expected. There were lots of loans with short-term extensions in 2023 and early 2024, and they were expected to come to the market for refinancing this year. We haven't really seen that so much yet. I'll come on to the financing gap in the next slide. But I guess the point is when prime deals do come along, there's fierce competition from the banks, compressing margins, and we've seen pricing in the sub-200s for LTVs, in the region of sort of 50%, 55%. And this is a time when SONIA, as I say, is declining. So it should be a good time for borrowers in the core banking space, those who can benefit from margin compression and slightly higher LTVs for select sectors.

But this increase in bank appetite and lending activity we started end of last year, as I said, inspired by rate cuts. One of my colleagues recently lectured at Bayes Business School. They're saying that the commercial real estate loan volumes increased by about 11% year on year in 2024, so reaching about 36.3 billion.

So as such, your total desk debt cost for prime, high-quality assets can attract margins of 1.5% to 1.75%, with arrangement fees typically at 1% and ISCRs at about 1.3% times for a 55% to 60% LTV, which is reflecting some pretty competitive lending conditions. Secondary assets would be more like margins of 2% to 3% and 1.4 four times ISCR for a 55% LTV or lower.

However, all that said, macroeconomic uncertainties, they could be the fly in the ointment. As I say, things are looking a little bit better in the UK, but there's still fears of recession. If there are widening credit market spreads, it will cause that. That will cause banks to pay even closer attention to their underlying corporate books. The risks posed by tariffs, for example, are more secondary for real estate anyway. But the sector will obviously feel the effects that higher tariffs have on growth and inflation. And any signs of stress in tenants will likely see bank margins creep out. These looming issues haven't really affected margins on project finance or debt markets yet, as far as we can tell. But, of course, it's very difficult to forecast.

So moving on to private debt funds, so debt funds have seen their market share increase from around 10% to over 20% in the last few years. Alternate lenders as a whole, so that include insurance and challenger banks as well, have a share of around 40% of the market now. Fundraising has been very challenging over the last two years, and we understand no funds closed in Q1. Touching actually on something that Natalie mentioned earlier, but we have seen increasing joint ventures or co-invest between credit platforms and separate managed accounts quite a lot.

However, things seem to be improving. We're still seeing new entrants to the alternate debt market. It's not clear how many funds are active at the moment. But based on estimates from a few years ago, it's likely to be over a hundred across Europe now, with the majority in the UK.

Reasons for this are the attractions of commercial real estate private debt persist. So, for example, whilst interest rates are likely to come down, margins in real estate debt are still very high compared to the last 10 years. Combine that with a period of now stabilizing property values and still a dearth of bank capital for certain sectors and risk profiles, that should maintain yields. Further, for non-bank lenders, there's a lot of attractive opportunities across the risk spectrum, away from the traditional senior debt, that make use of their broader risk appetite. And still there's a lot of dry powder as well waiting for transaction activity and also refinancings from the banks.

The private credit funds obviously cover the capital stack. There are some senior funds that are able to price for the three handle. But predominantly debt funds are focused on the whole loan and the mezzanine space, where target returns are averaging circa 8% IRR or high-single digits, with many now using loan-on-loan leverage to tighten their spreads.

Products could be generally categorized as senior structured loans that are just off the fairway for banks, say 3.25% plus loan margins, 60%, 65% LTV for investment products. Whole loans and senior stretch with 8% plus IRR. High leverage or mezz would be targeting more like 15% IRR. And then preferred equity structures would be more like 15% to 20% plus, potentially with profit shares on top.

As I say, with increased bank appetite, there's also more loan-on-loan availability in the market, typically at around a 50% advance rate, which is increasingly being used to tighten those loan spreads. Pricing, though, for the transactions can be pretty opaque and varies a lot, obviously depending on the risk basis and also the liquidity of the debt. So some borrowers have pressings with issues in their capital structures and few options in the market, so lenders can find some very good opportunities to work with borrowers to plug capital gaps where pricing is maybe less of an issue for them, sensitive for them.

Okay, so moving on to the funding gap. Yes, there's a large number of loan maturities and interest rate caps expiring, as I mentioned before, many of which were transactions that were originated in 2021 and 2022 when values were much higher and debt costs were, of course, much lower. Now as borrowers look to refinance, they'll be doing so in a higher interest rate environment even still and still at lower valuations.

According to the Bayes report, about 34% of loan, valued at £57 billion, were due to mature in 2024, and that 38% of new lending was funded through internal refinancing, while about 10% of loans that had already matured in 2024 were extended. So that means there should be some £32 billion, £33 billion of loans expected to mature in 2025. And other research suggests the funding gap will be around €15 billion, with offices probably accounting for half.

So while these funding gaps lead some investors to sell assets, in other cases it will result in borrowers injecting more equity, recapitalizing JV equity partners, or negotiating extensions for their existing loans, with the aim of resolving it later on. And that's something that banks are seemingly being willing to do, especially where interest is still being serviced, in spite of regulatory capital pressures on the banks. In many cases, that's, of course, because the underlying asset might not be particularly liquid in today's market, and also they have reputational risks to consider. Of course, as I said earlier, long-term UK interest rates, recent falls may alleviate some of those pressures over the next six to eight months, but the time will tell.

Okay, moving on to an overview of the real estate sectors, I'm not going to go through this table in detail. Just to pick out some themes, generally speaking, for the major banks, the emphasis continues to be on quality over quantity, with lenders focusing on sectors demonstrating resilience and then growth potential, usually capping out at sort of 55% LTV depending on the sector. And, of course, the preference is always the existing clients and/or strong sponsors. Funds generally can be more creative and flexible with respect to loan structuring, more able to underwrite future forecast income and value growth through asset management and business planning.

[inaudible 00:36:50] some of the sectors, residential, generally banks, challenger banks, funds, all still like anything residential or living focused. Perhaps less so at the moment the high-end residential, where there's been a bit of softening of yields and the outlook based on the non-dom taxable changes.

Industrial and logistics, same for logistics, which remains highly favored due to robust demand, driven by e-commerce growth. Although there have been some recent question marks over the impact on the sector from potential reduced global trade on the horizon. Prime logistics assets, especially in key corridors, are still very competitive, with pricing starting from 150 basis points, which is down by nearly 20 basis points from last year.

Hotels, banks are generally keen to lend on hotels, some more than others. NOI leverage being more of a key metric. We're seeing sort of 10 times NOI for prime London, and more like 8 times for regional portfolios. There's still a preference for strong leisure hotels in major cities.

Retail, so the sector has come through a market correction. In some ways, it's easier for lenders to get their head around retail than office, other than sort of long-let prime office. But it's still quite challenging due to the sort of general sentiment and issues of recent times.

Office, while the office sector faces challenges due to hybrid working trends, high-quality, well-located office buildings with modern amenities are still attracting strong lender interest. LTV ratios for new prime office loans rose to about 55% last year from about 53%, and pricing fell by 25 basis points to around 275 basis points. But caution persists, especially for secondary office spaces. And banks generally can require some fairly punitive amortization as they're generally adverse to the residual risk. So leverage can be a little bit restricted.

PBSA, despite some suggestions of oversupply and softening demand in some markets, overall the UK market is still supply constrained, and banks seem keen to support it, although they're being a little more selective in terms of location and asset quality.

And then, finally, I'll just make a sort of broad few comments on development. So most traditional lenders don't do any speculative finance for commercial. This space is largely covered by international banks and debt funds. For pre-let developments though or residential, UK clearing banks will typically get to 65% LTC, 70% GDB or prime locations, strong sponsors and tenants, usually where ESG credentials need to be very strong, so EPCB as a minimum. Development finance margins for pre-let commercial developments will be in the high 300s. We've seen less. But for residential development, it will probably be more like 350, typically with a 1% arrangement fee. And the cost of speculative finance is more like 475 basis points from the funds.

In general, though, I understand development finance has slowed down into the end of last year and the beginning of this year, largely due to concerns around construction costs has been an issue for some time and more recently sort of higher labor costs due to the government's national insurance hikes.

In conclusion, though, across the market, the cost of debt does remain relatively high, and asset values in some sectors are stabilizing, but not especially improving, often due to the lack of transactions in the market. And then, of course, you have ongoing uncertainty around the global economy as well. I think ultimately, though, the debt market has proved to be very diverse and robust, and the senior loan spreads don't widen too much and swaps do continue to decline as expected. The hope is that we will see a pick-up in both acquisitions and debt refinancings during the course of the year.

So I think that's my time of this. But I will now hand over to Mark from Alpha.

Mark: Great. Thanks, Richard. So I'm very happy to represent Alpha today. If you haven't heard of Alpha, we are basically a non-bank financial institution, FTSE 250 listed. And as you'll see from some of the themes I'll mention, wherever there have been either regulatory pressures or other factors leading to banks either curtail or reduce their ability to provide certain services, Alpha Group has stepped in. So it happens to coincide with some of the topics here today, so financial risks, effective hedging when you're mitigating them, and cash management as well. So we've got some tools in both of those areas that I'd like to share a bit more about. But the topics are the two last ones before questions.

I will admit upfront that cash management is not an expertise of mine personally. But I will just stress that we can take your questions and can have someone from one of our organizations get back to you. So even if you don't want to provide a question verbally, you can please use the box to submit your question. We'll try to get back to you as best we can.

So the first topic is the most near and dear to my heart because I've worked in hedging and financial risk management for a number of years, and it's just one of the financial risks that property investors take that can be hedged effectively. Lots of financial risks either have natural hedges, or there are structuring considerations that the previous presenters referred to.

So, for example, if you're a REIT and you have access to the fixed rate bond market and you've got investments with long-term leases, you can effectively have very little interest rate risk if you have a long-term fixed-rate bond and long-term fixed rate leases and those net out to each other very well. So there's no need for an interest rate hedge for example. And if you're an investor in a UK property fund and you're sterling based and the property fund invests only in UK properties, clearly there's no financial risk there on the currency side, so there's no foreign exchange hedging or FX hedging required.

But the first hedging topic is usually the one that is tackled first, which is currency risk. This is the first slide. We only have three slides, as you can see. So I'll jump into that one first.

The financial risks that can be hedged efficiently I mentioned because a lot of other financial risks can be hedged with derivatives, but they're not very efficient. So, for example, inflation swaps or credit default swaps, those are two financial solutions for certain risks that are not very efficient, so they won't be covered here. Again, if you have a question about those specifics, we can try to get back to you on those.

Foreign exchange risk is particularly relevant, as I mentioned here before. Institutional investors, for example if you're a limited partner in a fund, but you're from a country it's in Europe and you're euro-denominated, but you'd like to invest in the UK because the UK property market is where you want to be, you've got foreign exchange risk. Now if you are the fund manager of a UK property fund and you would like to invite investors from overseas, whether the dollar, euro, Swiss franc, what have you, it might become a problem of yours that you'd like to deal with. That foreign exchange risk might be then on your lap. So, for example, if you want to maximize the size of your fund, it would be helpful for you to have some means to help those other investors reduce that risk. And in some cases, those limited partners will insist that the GP do something on their behalf to mitigate that risk.

The second category here is if you're a debt fund or an equity fund and you predominantly focus on the UK, but every once in a while there's an opportunity that's outside of the UK that tempts you or for example a portfolio that has some property assets that are outside the UK, then you all of a sudden inherit currency risk. There's no perfect solution. Even in derivatives, there can be inefficiencies. Hedging with whether it's currency risk or interest rate risk in the next slide is full of challenges, so there's no perfect solution. There's no one who knows where rates are going to go. If they did, then they the hedging would be easy. But those are the things that usually attract people's attention for good reason.

The second bullet point that says hedging programs can vary widely. So if you do find yourself in a situation where your institution has currency risk, you can either have a very formal approach, or you can have more of an opportunistic or idiosyncratic approach depending on how frequent those exposures are, how material they are. But it is something that once you start it, it can be kind of daunting, and it does consume a lot of resources. Again, because there's no perfect solution, it can take a lot of resources, both on the physical side getting credit lines set up, getting transactions prepared and documented so that you can put them in place when you want to. And then maintaining a program over time takes a lot of administration as well.

The good news is that not only banks but other service providers can take some of that burden from you and give you lots of analysis, give you some of the best practices that are out there. And increasingly, technology provided by some of those organizations, including banks and companies like Alpha and consulting firms that are out there providing hedging services do have their own technology to bring to bear to your challenges. And the advisors also can go much more into further detail about what trends are out there affecting your particular market as you look to the UK.

But a lot of the transactions 20, 30 years ago were provided exclusively by banks. So these are hedging transactions, derivatives over the counter. So, for example, foreign exchange contracts include forwards, currency options, currency swaps, etc. But now, over the last 10 or 15 years, companies like Alpha have cropped up, where we can provide those transactions and we're not banks technically.

So there are bunch of disadvantages and advantages for being a bank. One of the disadvantages to being a bank is you get regulated quite thoroughly. Some of the ways those regulations have evolved, and this is the first big trend, have been to make hedging for the end users more complicated and for banks to be finding hedging more expensive for them to introduce. And so that's why some of the gaps have created opportunities for companies like Alpha.

So the regulatory landscape continues to evolve. It will never change, but the direction of travel has been to make it more complicated to hedge for end users, and for banks, it has made it a bit more challenging to provide a service to a large number of clients, especially the smaller clients that are in the real estate investment sector. Or the other asset managers that are not quite bulge bracket will find that some of the opportunities they have to hedge are minimized or at least not as easy to do as they might have been in the past. And that creates a lot of opportunities for companies like Alpha. So we can provide, for example, credit to certain situations that might not be very possible or feasible for investment banks or commercial banks to provide on the hedging front.

Just in consciousness of time, I'm going to move on to interest rate hedging, although there's a lot to talk about in every hedging topic. For real estate, I'd say of all the asset classes in investment management, real estate operators tend to know more about interest rates than anyone else. They're very linked, and so therefore interest rate hedging is bit of more of a well-worn path within the real estate sector.

And a lot of the borrowing that Richard referred to is floating rates. Although we did mention earlier fixed-rate bond markets available to some. And so the floating rate for the most commercial debt products means that unless the assets are equivalent to floating rates, which many of them are not given the lease structures involved that are underlying, there's that mismatch. So a lot of interest rate hedging is a result of that mismatch. And whether you're a debt fund providing a floating rate loan or a borrower of an equity fund borrowing on a floating rate basis, you're going to be concerned about that mismatch in some shape or form.

And in some of the cases, 10 years ago, 5 years ago interest rate hedges were not required. But in light of the uptick in interest rates since 2022, a lot more interest rate hedging has been required. And as Richard mentioned, some of those initial hedges that people put in place two, three, four years ago are starting to come due, and there's re-hedging that's required if the loan is going to continue. So this topic may not be something someone does every day in the real estate space. But when it comes up, sometimes it can be quite expensive or challenging for many reasons.

So another trend that is different by lender is that for banks and debt funds, the banks have had an advantage over the years, or some would say it's a disadvantage that different groups of the bank provide different services. The lending team will be matched by a derivatives desk that has the ability to provide an interest rate hedge that goes alongside the loan. So it could be a package transaction, loan plus hedge.

Debt funds and private credit in general has not seen that evolution. In other words, there is a reticence by private asset managers, which are the real estate debt funds and the private credit firms overall. There's a reticence to provide every service that banks have provided historically, and one of them is that they don't provide the interest rate hedge alongside their loan. So that's an area of opportunity for other banks.

But again, regulations have restricted banks' opportunities in many respects, and so an opportunity for Alpha Group is presented in that we can step in and provide interest rate hedge transactions to those non-debt non-bank real estate debt providers or other private credit firms and provide them on terms that sometimes banks cannot match. For example, if there is a borrower who would like to purchase a cap with cash, it might cost them 1% of the loan proceeds. But if they want to pay cash, they can to a bank and purchase a cap. If they do not want to pay cash and they'd like to defer that premium or somehow blend it into their financing over time, that's something that Alpha Group can do without too much difficulty compared to most banks.

Another reason why banks and companies like Alpha have provided interest rate hedges over time is that it's a focus on having the right result but without being too complicated. And you see the bullet point under the second bullet is called floors. The floors in loans have been present for years now, but they do make hedging a little bit more complicated. And to keep things at the high level for this presentation, I won't get into too much for that. But I will say that those who are hedging with tools that were commonplace 10 or 15 years ago will find that the same tools are not as useful today. Interest rate swaps on their own are not compatible fully with floating rate loans with floors in them. So I'll just leave it at that. If you have any questions, I can certainly get back to them.

And I'll just move on to the final page, cash management. I'm not an expert in cash management. But again, there are certain aspects of cash management that within real estate are prevalent, and the number of vehicles that certain asset managers are able or are required to manage are large compared to some other types of structures. And therefore, the large number of bank accounts that might be required to manage those entities is a concern in some cases. Over time, if banks are not able to provide bank accounts as easily as they once might have been and they're retreating from that offering, an opportunity has come up such that Alpha Group has provided bank accounts for its clients for a number of years now. It's one of our points with a lot of the professional services firms that are out there in the market.

Again, the regulatory landscape is evolving. So a lot of these factors might change. Technology is such that many firms, not just Alpha Group or independent firms, but even banks are offering technology that is addressing some of these big challenges, both from the payment side, managing all of the information, and working with other sources of technology, such as what Natalie mentioned in the beginning, to make sure that there's a seamless flow no matter where you are in your organization.

So Alpha Group, we're actively looking to fill gaps wherever they may be. Some of the areas that we've got up and running are mentioned there at the bottom of the screen. But again, since it's not a core competency of mine, I won't get too deep into the cash management aspect.

With that, I'll pass it back to Natalie so that we can maybe look at some of the questions you have for us today. Thank you.

Natalie: Thank you. Thank you, Mark. And thank you to all of our presenters today, very informative. We do have a couple of questions. Well, the first one I think is for you, Jo. So in relation to REITs, so the question is from an establishment cost and ongoing cost perspective, is there a minimum AUM size for a REIT to kind of stack up?

Jo: Yes. So thanks for that. I guess there used to be a rule of thumb that you wouldn't set up a REIT for gross assets of less than 100 million. But that was before there were various relaxations to the rules. So now that there has been a softening of the REIT financial statements requirements and also most importantly a relaxation to the listing rule, if you qualify to not be listed, the cost of setup is potentially really quite minimal. And so we've seen REITs being set up with kind of like gross assets of as little as sort of 20 million to 30 million, which also corresponds to a further relaxation around kind of the number of properties rule that says you can have a single asset as long as it's 20 million or more.

So as I said in my presentation, I'm surprised that there aren't more REITs. I think that a lot of people who became familiar with them early days and perhaps who've not been so familiar with some of the relaxations have not consider them too much further. But the return on investment sort of setup costs is potentially immediate if the profile of the investors is such that they're either completely relieved from UK CT, or even if they're getting a reduction to 15% under a treaty or perhaps less than 15%. So yeah.

Natalie: Thank you. And just a question from me on that. What's the kind of timeline like from by the time you get say agreed your tax structure, for conversion to a REIT because we're seeing also quite a bit of conversion to REIT like from existing structures? Like what's the kind of timeline to get that in place?

Jo: Yeah. So again, it depends very much on what you're converting from and whether you have to list or not. So the sort of market practice for listing previously, in the fund sort of space or when you're looking at joint ventures or co-invest, was a technical listing is what people refer to it as on ties. Those who have been familiar with kind of euro bonds, listings there, it's a reasonably straightforward process. However, if you aren't familiar and if you were doing something for the first time, it took a little bit longer. If that is no longer part of the arrangements, then essentially if you're converting an existing corporate structure, if you've got a UK topco already or even if you haven't, the sort of interposition of one is couple of days. So you can convert potentially overnight for very little cost.

So I think we are we are starting to see a lot more of it now. But yeah, it's a bit of a difference if you have to list or if you don't and depending what you've got, but potentially very quick.

Natalie: Okay, thank you. Richard, just one quick question for you because I know we're coming up to the top of the hour. In relation to distress, there was a lot of conjecture that over the last couple of years we're going to see distress in debt, where banks were no longer going to kick the can down the road and actually require borrowers to delever. Is there any evidence of that in the market?

Richard: Not a huge amount to be honest. Non-performing loans have increased the lenders' books I think it's about 6%, up from about 5% last year, which given the circumstances of inflation and increased debt costs stands to reason. But we've certainly not seen the level of distress that many in the market were forecasting, especially in the office market. It's been quite sporadic.

We're sort of helping out a few sort of non-performing loan deals at the moment, restructuring and working out some of these things. But they're kind of pockets of distress we're coming across at the moment. There's been no sort of major bank deleveraging or sales of NPL books and the lot, not like we saw post-GFC. Instead it's been kind of single assets going straight to receivership quite discreetly, where the underlying asset is liquid. But in general, lenders have shown, particularly by banks, high levels of forbearance. They've been extending loans, even slightly relaxing cash flow covenants in order to avoid taking more punitive action. And as I mentioned earlier, enforcement is very much the last resort due to reputation reasons in the main. But even if ISCR covenant is breached, as long as interest is serviceable, there's quite a leniency being shown.

Natalie: Okay, thank you.

Richard: Yeah, I think that's probably the gist of it at the moment.

Natalie: No, thank you. Just on behalf of CSC, we'd like to thank our specialist presenters today. And we hope our audience online found it beneficial and helpful.