BusinessToday Previous Editions

10 WORLD 20.7.2023 A trip to the restaurant that sits atop the No 1 Poultry office block in London's fi- nancial district is a chance to experience first hand the Tale of Two Cities that's up- ending the commercial real-estate mar- ket. From the vantage point of the Coq d'Ar- gent you can gaze out at a forest of new skyscrapers that developers hope will bring in big rents and even bigger prices. For the Korean owners of the older We- Work-occupied building down below, the future looks far bleaker. Taking in the view, Kaela Fenn Smith – ex-executive at property giant Land Se- curities, and now managing director of CBRE Group's ESG consultancy – speaks of the "huge flight to quality" transform- ing the office market as companies down- size because of working from home and insist on flawless environmental creden- tials. Renters only want "the truly grade-A space," she says. is "super-prime" stampede might be a boon to owners of those gleaming modern towers, but it's bad news for old- er places like No 1 Poultry. In big cities everywhere, owners of these B-list office blocks face the prospect of wildly expen- sive refurbs – or depressed sales. Korean investors, who've been on a five- year binge on this second tier of commer- cial buildings, look particularly exposed. Seoul's Hana Alternative Asset Manage- ment is preparing to put the Poultry site back up for sale, people with knowledge of the process say. Its estimated worth is £125 million (€144 million), according to the same people – about a third less than Hana paid. e firm declined to com- ment. Its unhappy experience is far from unique. Prices for this type of property are plummeting around the world, from mid- town Manhattan to Hong Kong and Paris. With real estate already reeling from the end of rock-bottom interest rates, a reck- oning is coming for many landlords and debtholders. But Hana's plight does also highlight something more specific: the common in- volvement of Korean money in buildings of this profile. e country's asset manag- ers splurged tens of billions of dollars on overseas offices and risky property loans in recent years – right before Covid and rate-hiking central bankers drove a bull- dozer through the market. In London alone at least half a dozen large blocks owned by Korean firms are available to buy, people familiar with the sales processes say. Most are struggling with depressed valuations. History repeating Korea joins a line of nations whose funds made bad real-estate bets, from the Japanese in the early 1990s to Irish people just before the financial crisis. "e City of London's history is of investors arriving and then leaving," says Michael Marx, ex- boss of landlord Development Securities PLC, "Some with fingers burnt and some to replace losses in their home market." e genesis of Korea's overseas punt is fairly recent. At the end of the last dec- ade, drawn by favourable exchange rates and higher yields than they could get at home, funds from Seoul piled into what they hoped was a treasure trove of hot buildings. In 2019 they were the biggest external investors after the US in Europe's commercial real estate, doing €13 billion of deals in just that year, according to data from MSCI Real Assets. Between 2017 and 2022, the investors snapped up more than 90 European prop- erties for prices above €200 million each. Many were large blocks in the City of London and Paris's La Defense. Values in both financial hubs have fallen more than 20 per cent in the past year, according to broker Savills. Koreans were fond of buildings with long leases to well-known tenants, such as Amazon, so they focused less on per- fect locations or green ratings and wor- ried more about the perceived quality of who was paying the rent. ey also liked big sites, which are more expensive to fix up when they become outdated. Rising construction costs for bringing buildings up to environmental scratch will leave behind ghost and zombie office properties and "be severely value-destruc- tive" for older commercial real estate, Fitch Ratings warned recently, without specifying Korean-owned assets. "ere will need to be a lot of capex" be- cause people are looking at whether old- er offices might become stranded assets, says Fenn Smith, also speaking generally. "When is your building going to start los- ing value because it's coming off the net zero pathway to 2050?" Financially, the timing of the market shakeout couldn't be much worse for Ko- rean investors. About 30 trillion won (€21 billion) of their property funds mature up to 2025, according to data provided by national watchdog the Financial Super- visory Service (FSS) to opposition party lawmaker Oh Gi-hyoung. at's almost 40 per cent of the total, meaning a flood of commercial buildings could be about to hit the market at a time when demand has cratered. e country's funds usually invest for five years, less than the international aver- age, making it harder to hunker down and ride out a downturn, says Yoon Jaewon, head of international investment advisory at Savills Korea. Adding to the stress, many loans used to buy the properties are coming due just as lenders pull back and borrowing costs spiral. Banks are also demanding addi- tional equity from landlords before pro- viding loans. e FSS is closely monitoring the sit- uation, talking to firms and will discuss the problem at a meeting this ursday, according to two officials who asked not to be identified as they're not authorised to speak publicly. While the watchdog is worried about potential losses for domestic investors, a third official says there won't be a rush to withdraw cash because Koreans typical- ly have to wait until a fund winds down. Most are backed by institutional money, which is less likely to panic, the person adds. e lawmaker Oh says this is too com- placent: "Financial authorities should thoroughly inspect the situation and prepare for it, not keep saying there's not much risk." ere's another reason for Korean vul- nerability: Europeans were hesitant at times to sell to the country's investors because buyers usually included multiple institutions in a syndicate, people with knowledge of the matter say, making ne- gotiations protracted and at risk of falling apart. at prompted buyers to offer more, sometimes paying premiums of 10 per cent or higher. ere was almost a herd mentality among asset managers eager for yield, says a banker who worked with borrowers on a few of these deals. Mezzanine misery In the US and elsewhere, Korean inves- tors pushed hard into risky mezzanine lending against real estate, providing jun- ior loans that would take the first hit when valuations plunge. Appetite was so high that they'd some- times accept a lower return than the mar- ket, in a few cases doing deals at 6% rather than the 8% or so that others demanded, the banker says. Some of the loan bets are turning sour. Payments to mezzanine lenders at a troubled project at New York's 20 Times Square, which includes a hotel and an NFL Experience store, ceased in Decem- ber, according to a report compiled by Computershare. e Korea Herald re- ported in 2020 that some of the debt pro- viders are Korean. In Hong Kong, a unit of Korea's Mirae Asset is cutting by 80-100 per cent the value of a fund that provided more than $240 million of mezzanine finance to the Goldin Financial Global Centre, accord- ing to local media. A Mirae spokesperson says it's focused on recovering money. Back in London, receivers have been appointed to the former home of BP's oil trading unit at 20 Canada Square in Canary Wharf. It was acquired by Chi- na's Cheung Kei in 2017 and financed in part by a mezzanine facility from Seoul's Hanwha Asset Management. Hanwha declined to comment. In fairness, Korean funds aren't the only ones to suffer overseas. Several Chinese ventures have struggled too, including another Canary Wharf failure. Some Seoul investors have done well on inter- national property bets: e National Pen- sion Service of Korea has been discerning and been rewarded for it, says the banker who's worked on Korean deals. Investors have also been shielded slight- ly by Europe's approach to real-estate valuations, which doesn't take market sentiment into account. With sales large- ly frozen, there have been few deals to measure the true decline in values. Infla- tion-linked rent increases have helped as well. Nonetheless, opportunists are circling, ready to offer expensive new debt to refi- nance buildings whose owners can't inject capital. Oaktree and other alternative-fi- nance providers have held talks to Korean asset managers about large loan facilities to let landlords restructure investments, according to a person familiar with the discussions. Funds under pressure to extend the ma- turity of their borrowings are looking to inject more capital or inviting mezzanine investment rather than dumping assets on the cheap, says Yoon at Savills, who adds that a few have pulled sales. Increas- ingly, however, owners are following No. 1 Poultry's path and having another crack at selling after several failed attempts last year – as seen with the rush for the exit in London. In Seoul, meanwhile, there's deepening unease about how the endgame will play out for domestic investors. In London, New York and Paris, a giant office bet is going wrong London's financial district. Korean asset managers splurged tens of billions of dollars on overseas offices in recent years

• Cover