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Out-sourcing and education a new property investment asset class emerges
Out-sourcing and education – a new property investment asset class emerges
Do you remember when retail warehouses were a new sector? Or, more recently, when MWB launched their first leisure fund? Investors gave both a mixed reception but are now content to invest in these products as they have become better researched and understood.
Even more recently, major investors have come around to the idea that property derivatives were possible and even residential property is an asset worthy of interest after many years of pariah status.
So how about a property asset class where there are three potential end user customers for every ""property"", leases are often long, indexed and backed by strongly covenanted institutions, and the market itself is set to grow by a further 55 per cent?
UK Higher Education plc has expanded rapidly to a point where 1.8 million people are now students in higher education (CVCP, 2000).
More growth is envisaged. The Government is targeting a 50 per cent participation level for school leavers compared to a current 32 per cent. This suggests an additional 1,000,000 to be educated and, in the case of full-time students, accommodated.
This growth is set against the background of a historic 40 per cent reduction in the cost incurred in educating each student over the last 20 years, funded in part by under-investment in infrastructure. Not surprisingly this has led to increased pressure on facilities, including residential accommodation.
Universities house on average 32 per cent of their students, but the range is huge with some promising accommodation for all who want it and some entirely reliant on private landlords (NUS, 1999).
The NatWest Student Book 2000 illustrates how important residential facilities are to students, making the point that ""Accommodation is central to your university life …"" (Boehm and Lees-Spalding, 1999). Certainly its ready provision is a key factor in enabling students to focus on their studies and enjoy student life.
Accommodation provision has thus become a key differentiator in the contest to attract new students, particularly when it is considered that students spend on average 60 per cent of their income on rent. With grants replaced by loans, the customer culture is prevalent and, although accommodation cost is a big issue, the standard of accommodation is rated as even more important (NUS, 1999).
The majority of students live in some of the estimated 550,000 shared, private houses, or Homes in Multiple Occupation (HMO) in England (DETR, 1999).
Although HMO are covered by regulations relating to overcrowding, sanitation and safety, legislation has increased following a number of high profile deaths caused by furniture, which was not fire resistant, and faulty gas appliances (Chartered Institute of Environmental Health/NUS, 1999).
The threshold for standards will be raised further and licensing HMO is already the subject of a Governmental consultation paper. This improvement in standards will impact disproportionately on the small private landlord who is unable or unwilling to create a proper management system.
With a new phase of education expansion sanctioned by the government, demand for student accommodation will grow by an additional 55 per cent, other things being equal.
The potential withdrawal of HMO stock unable to make the grade in terms of standards means that other things may not be equal, and the under-provision of residential facilities for students may increase further.
It is contended that this demand can be satisfied more appropriately by purpose-built student accommodation rather than shared housing, which is often of poor quality, and subject to the pressures of the wider housing market.
With the growing emphasis on education as a commercial business, a consideration for universities is the impact good quality accommodation can have on income generation.
Universities have increased their efforts to attract a share of the estimated 109,000 overseas students in the UK (UKCOSA, 1999). The attraction for universities is that overseas students pay on average five times as much in fees as their UK counterparts (Targett, 1999). Very often they also require accommodation for 52 weeks, compared to indigenous students who return to parents during holidays.
The growing conference trade can also provide a substantial source of income. Better quality residential space can assist the intensification of use of teaching facilities by helping to attract conference, summer school and even holiday business out of term time.
Whilst universities are aware of these opportunities, constraints of funding and increasing emphasis on league tables focusing on teaching results mean that resources are, not surprisingly, devoted to those areas upon which universities are judged.
There is an already large and ongoing trend for companies to outsource elements of their businesses. Usually this involves a specialist focused service company, for example, cleaning or billing, able to reap economies of scale by providing their services to many individual businesses. More recently the discipline of focusing on core business operations has led companies to outsource building and facilities management to third parties. Arguably the ""turn up and plug in"" ethos of the serviced office is the current epitome of this genre.
There is clearly an opportunity for universities to utilize this process to provide student accommodation on a greater scale and more professional basis than hitherto, without necessarily having to sink capital into buildings and invest resource in management.
At the highest level this could mean outsourcing the ownership and management of all their real estate assets, occupation being obtained through leasebacks or service agreements. Such ""stock transfers"" applied to residential accommodation would enable universities to upgrade existing halls of residence, add new accommodation if required and pass the time-consuming management process to a specialist operator. A properly structured solution would see the university retain control, whilst transferring the majority of risk to the private sector.
It was noted above that private housing forms the bulk of student accommodation catering for more than two thirds of student demand. More recently private investors have begun to offer purpose-built accommodation blocks, generally on a small scale, at a local level.
Not surprisingly, the quality and level of this provision vary, funding for the developers is erratic and management standards uncertain. However, given the chronic shortage of accommodation on offer in some areas these schemes have been generally welcomed by universities.
Note, however, that the limited and local nature of such operations precludes any such economies of scale that a regional or national niche operator might gain in supplying such accommodation. Similarly, the continuity of experience available in a larger organization, fed back into the design and build disciplines, forms an iterative process of continuous improvement.
A well-capitalised investor, able to offer universities a standard residential product on a long-term basis, suitable for student and conference markets alike, can obtain some serious economies of scale in the provision of residential facilities.
This product should be available nationwide as a ""turnkey"" operation, professionally marketed, maintained and managed to an agreed standard, designed to maximise occupancy and minimise the involvement of the universities it services.
A key strength of such a product is the opportunity to attract customers through branding. There is an opportunity to create a level of brand recognition in students, parents of students and conference organisers, along with the expectation of a consistent standard of accommodation, whatever the location.
The opportunity – no dot.com
This market opportunity is potentially worth c. £6.5 billion in capital terms on today's values with a revenue stream of over £450 million pa. A substantial new property asset class compared to IPD's £93 billion estimate of total institutional investor property holdings.
The shortfall in the existing provision of accommodation and poor condition of much of the existing stock held by universities suggests that much of the demand for new accommodation will be met by net new money into property, all of which has to be acquired, financed, built and managed by someone.
The biggest investor in this sector has less than a 2 per cent market share of the existing investable stock and 0.003 per cent of the current, growing customer base. This is a seriously steeply sloping growth trajectory for any kind of business, and not a dot.com to be seen.
The history of the asset classes referred to in the introduction above suggests that supernormal returns accrue to the ""first movers"" into a new investment sector. Returns degrade to more normal, if still attractive, levels over time.
Institutional property investors have been conservative in the past when faced with new opportunities and types of property. Not surprisingly they are largely absent from the student residential market. Paradoxically it is such financially powerful investors who are best able to take a long enough view to absorb first mover risks to achieve additional return. Student residential property is now becoming a serious investment grade asset. A new property investment asset class is emerging.
ReferencesBoehm, K. and Lees-Spalding, J. (1999), The NatWest Student Book 2000, Trotman.Chartered Institute of Environmental Health/NUS (1999), Safe Housing for Students, CIEH Leaflet.CVCP (2000), ""The university/NHS partnership in the provision of health professional education"", CVCP Briefing Note.DETR (1999), Licensing of Houses in Multiple Occupation, HMSO, UK.IPD www.propertymall.co.uk/ipd/NUS (1999), www.nus.co.ukTargett, S. (1999), ""Slow shift to market principles"", Financial Times, 1 April, p. 41.UKCOSA (1999), www.ukcosa.org.uk