CFOs have a dire message for real estate investors

AI scour finds plans to review rents, cut space

Property investors are about to discover just how much the global fallout from the coronavirus pandemic has spread from deserted and cast-off buildings to their bottom lines.

Hundreds of corporate executives tracked in earnings calls around the world in the past five months addressed the urgency to cut real-estate costs, according to an AI model trained by Bloomberg to scour transcripts. Tactics include cutting office space, accelerating branch closures, renegotiating rents on warehouses and even shutting data centres.

In 4,767 global earnings calls between July 21 and Dec. 8, about one in eight machine-generated transcripts revealed that firms were rethinking their real estate needs, with many on track to save millions of dollars in the process.

While the pandemic has squeezed landlords and clobbered securities linked to commercial real estate, the damage to cash flows stands as the long-tail risk for investors. In an estimated US$10 trillion global pool of properties held for investment purposes, the industry's main sources of capital — pension funds and insurance firms — count on the steady income to pay for their own longterm commitments.

“That's the key rationale for buying real estate. Most landlords are in effect pension and insurance funds and ultimately that's who is going to be paying for it,” said Adrian Benedict, head of real-estate solutions at Fidelity International in London. “If the whole central tenet of security of income is undermined through this crisis, you are storing up a world of trouble.”

A global index of real estate shares has shed more than 10 per cent this year as a gauge of all types of stocks surged about 13 per cent. On the debt side, delinquencies on U.S. commercial mortgages climbed to almost six per cent in November, according to the Mortgage Bankers Association. Risk premiums for BBB-rated commercial mortgage-backed securities have almost doubled since the start of the year, according to Bloomberg Barclays index data.

As the global recession deepens and companies brace for the new normal that follows, business will require less space than preCOVID. An October survey by the U.K.'s Institute of Directors found that 74 per cent of companies planned to make more use of working from home once the pandemic subsides, with more than half intending to reduce the amount of workspace they use.

While the coronavirus vaccine has thrilled investors worldwide and sent real estate stocks rebounding, celebrations may turn out to be premature. The kind of changes that officials have been discussing have often been of a permanent and structural nature, with the forecast savings being largely welcomed by company shareholders and analysts.

Even firms that mainly rent space in cheaper locations are targeting cuts.

“We want to save 35 per cent of our square meters at the headquarters,” Jan Juchelka, Chief Executive Officer of Komercni Banka As, a Prague-based lender, said on an August call, discussing the company's new “smart office, flexible workplace” plan that combines home-working and hot-desking to make radical cuts.

The pandemic has also served to accelerate the demise of branch banking. Lenders including Tupelo, Mississippi-based Renasant Corp., Amerant Bancorp Inc. in Florida, Zurich-based Cembra Money Bank AG and North Carolina's Truist Financial Corp. were among those discussing more cuts and closures during the period.

It's not just offices being ditched and downsized. S&P Global Inc., the financial-information provider, was also planning to consolidate its data centres, CFO Ewout Steenbergen said in a late July earnings call. He said that COVID-19 would “change how and where we work.”

Despite emerging as a big winner from the pandemic thanks to the explosion in online shopping spurring demand for storage, pockets of the industrial-property market have also been hit. Major customers including airlines have suffered from the collapse in global travel.

“We have a team dedicated to pursuing additional cost-reduction initiatives for cash preservation,” Air Canada Deputy CEO and CFO Michael Rousseau said in a July call. “In addition to labour and fleet rightsizing, areas of focus are maintenance, real estate, IT and other fixed-cost areas.”

Many companies' cost cutting plans are still at an early stage, and will take some time to filter through to investors' bottom lines. As workers prepare for some kind of return to buildings next year, long-term questions about real estate needs may even grow more urgent as concerns about health, safety and human interaction become more entrenched.

“We are going to move into a new world where people have the right balance of working from home and working in the office,” John Rogers, CFO at advertising group WPP Plc, said on an Aug. 27 earnings call. “That will mean that we need less office space going forward.”

Note: Given the limitations of AI and live transcriptions, the total number of companies discussing real estate costs may be even higher.

DEREK RUTTAN / POSTMEDIA NEWS Office space for lease in London, Ont., could well be indicative of a larger trend developing as companies cut costs to cover losses resulting from the pandemic.