Family offices are seeking to make more investments into value-added properties, the riskier parts of the real estate asset class, as they chase yield in areas that larger institutional investors fear to tread, say participants and advisers.
But many of the investment arms of wealthy Asian families lack internal expertise in the niche asset class, and so are having to consider tie-ups with other players.
A June 13 factsheet on family offices’ appetite in real estate by alternative data specialist Preqin. Its research noted that almost three-quarters (73%) of family offices based in Asia Pacific favour investing in value-added properties over the next year, according to the data provider.
Value-added properties are buildings that require renovating or upgrading in order to improve their rental returns and potential resale value.
The interest among Asian family offices was a lot higher than the 27% of global family offices targeting the strategy over the coming year, or the 23% that are looking to core real estate – low-risk investments that offer predictable income flow. Preqin's research also noted that the proportion of global family offices targeting the real estate asset class has grown eight percentage points to 57%, versus 49% in 2016.
The investment organisations in Asia are generally proving bolder in their property strategies than larger investors such as pension funds and insurers, typically because they are less beholden to regulation.
Talk to regional family offices, and this interest becomes more evident. A Hong Kong-based family office executive told AsianInvestor on an anonymous basis that his firm has been investing in value-added properties for several years and still has a substantial appetite for the asset class. He noted that his firm intends to add "a handful of" value-added assets in the UK to its portfolio in the coming months.
However, many family offices lack the internal skills to go through the strenuous due diligence process for value-added properties, which require higher levels of due diligence and planning courtesy of the need to upgrade them.
Shaman Chellaram, a senior director for Colliers International, a commercial real estate services firm, said that expertise is needed when making value-added properties because there’s a far broader range of factors – and risks – to consider than for core real estate.
“When you are looking at real estate for value add, you have to understand the differences about what you can do with that real estate,” he said. “What is the zoning of the site, what is the site’s potential, what is the acquisition structure, what's the plot ratio, what are you permitted to actually convert that building to.”
One way family offices can get around a lack of internal expertise into the value-added property asset class is to team up with more knowledgeable partners.
Well-staffed family offices with in-house experts may have the confidence and ability to team up with private equity funds in joint-venture agreements, to tackle larger projects or participate in more deals, said Chellaram. Those with fewer in-house staff may find it easier through real estate funds through limited partnership arrangements.
The unnamed family office executive noted that his organisation outsources part of its due diligence process to professional due diligence service providers before it invests in value-added projects, such as surveys for the building and mechanical and electrical plant.
He added that the family office's co-investing general partners (GPs) will handle the due diligence process if the project is particularly "troublesome and requires zoning approval checks". Meanwhile, the family office internally manages the projects' financials and accounting requirements.
The need for family offices to more generally to externalise services in niche areas is a rising requirement among family offices, said Eva Law, founder and chairman of the Association of Family Offices in Asia.
“Rising operating costs and low returns on investments threaten the substantiality of family office in-house investing,” she told AsianInvestor. “Outsourcing investment operations is becoming a popular way for family offices to reduce costs and attain operational efficiency.
Fountainhead Partners is a good example. Harvey Liu, senior portfolio manager for the multi-family office, acknowledged how he engaged external help for the firm’s hedge fund investments.
The offices have also become increasingly frustrated about the need to fulfill more compliance requirements across asset classes. not just for real-estate deals.