Changing landscape

As I drive around the Makati Central Business District, I cannot help but notice the numerous “For Rent” signs outside many office buildings. I also see a lot of closed shops and recently vacated places, which just about a year ago were all bustling and teeming with people. I have also heard from friends who are property owners how they are now struggling for new tenants.

COVID-19 has taken its toll on businesses, and thus, on property owners, too. And the problem persists. The economic situation is even expected to take a turn for the worse as a result of the present surge in cases, and the ensuing lockdowns in NCR+ that have been implemented in reaction to it. For commercial property owners, perhaps the worst is yet to come.

Recent reports on the prospects of commercial properties like shopping malls indicate a significantly changing landscape abroad. The same may happen here as well. On March 28, Bloomberg reported that for many mall stores in the United States, “traditional shopping centers” will no longer play a big part in their post-COVID future. Instead, expansion will be towards “off-mall” locations or even “kiosks in underserved markets.”

Bloomberg quoted Signet Jewelers Chief Financial Officer (CFO) Joan Hilson as saying that what was emerging was “an opportunity for a better economic model.” She noted, “Foot traffic for off-mall locations is better than what we’re seeing in the mall, certainly at this time. It’s really important, and we see that shift continuing.” Signet Jewelers is the world’s largest retailer of diamond jewellery.

Strong competition has been coming from online shopping since mid-2020. Retailers have also shifted operations from malls, which since last year have been subject to restrictions or closures during lockdowns. The shift to online was hastened by the pandemic, even locally, particularly for retail and food. In the US, retailers are also scaling back mall presence.

“Even those that haven’t been distressed are being hurt by the lack of foot traffic in the mall,” Bloomberg quoted David Berliner, head of consulting firm BDO USA’s restructuring and turnaround unit. Some prefer spots anchored by merchants like Walmart, he said, “because they’re going to get more foot traffic than they’re getting at the mall now.” Others favor so-called lifestyle centers that have open-air markets with dining and other activities.

Among the reasons for pulling out of big shopping malls are high rent, weaker performance, lower sales, and the prevailing preference for spaces “outside of enclosed centers.” Quoting Ivan Friedman, chief executive officer of RCS Real Estate Advisers, Bloomberg reported that retailers were on the lookout for spaces with “substantially” lower rent and building costs; more flexible operating hours; and plenty of customer parking.

Shoppers are now favoring a “newer generation of open-air centers that include housing or office space,” said BDO’s Berliner. “A lot of these mixed-use centers now are trying to recapture that town hall feel… That’s where people want to go again, instead of just these rectangular indoor boxes, where everything is the same.”

As the International Monetary Fund (IMF) describes it, commercial real estate is now at a “crossroads.” There is “huge uncertainty about the outlook for commercial real estate,” noted Andrea Deghi and Fabio Natalucci in a recent IMF analysis. Deghi is a Financial Sector Expert in the Global Financial Stability Analysis Division of the IMF’s Monetary and Capital Markets Department, while Natalucci is a Deputy Director of the IMF’s Monetary and Capital Markets Department.

“The containment measures put in place [in 2020] in response to the pandemic shuttered businesses and offices, and dealt a severe blow to the demand for commercial real estate — especially in the retail, hotel, and office segments. Beyond its immediate impact, the pandemic has also clouded the outlook for commercial real estate, given the advent of trends such as the decline in demand for traditional brick-and-mortar retail in favor of e-commerce, or for offices as work-from-home policies gain traction,” the pair wrote in a recent IMF Blog.

The greater concern, however, is that “these trends could disrupt the market for commercial real estate and potentially threaten financial stability,” the pair wrote in their analysis, noting that the “commercial real estate sector has the potential to affect broader financial stability: the sector is large; its price movements tend to reflect the broader macro-financial picture; and, it relies heavily on debt funding.”

Commercial real estate loans form a big part of banks’ lending portfolios, and account for big investments from insurance and pension funds, among others. Thus, “an adverse shock to the sector can put downward pressure on commercial real estate prices, adversely affecting the credit quality of borrowers and weighing on the balance sheets of lenders,” Deghi and Natalucci wrote.

They added that the “potential structural changes in the commercial real estate market due to evolving preferences in our society will challenge the sector. For example, a permanent increase in commercial property vacancy rates of five percentage points (due to a change in consumer and corporate preferences) could lead to a drop in fair values by 15% after five years.”

I am sure government economic managers and monetary officials are all looking at the situation with keen interest, and are monitoring particularly commercial real estate loans and their repayment as well as the growth in banks’ non-performing loans. Any increase in the rate of default will promptly trigger policy adjustments to ensure financial and economic stability.

There is no denying the potential repercussions of a crash in the commercial property sector. A prolonged sectoral failure can prove to be catastrophic for the economy. It will be interesting to see if commercial property owners will stay the course and wait it out, or invest in repurposing or redeveloping properties to other uses, either as a temporary or long-term approach.

Marvin Tort is a former managing editor of ����ý, and a former chairman of the Philippines Press Council

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