Real estate investment opportunities in particular sectors

Situation of the residential market

In order to understand the essence of the residential rent market, one should be aware it is currently driven by foreigners. With very few exceptions, the Poles living there permanently rent their flats for no more than an average monthly salary in the region (US$300-400 in Warsaw). This group of clients cannot undergo any analysis whatsoever; to a large extent it belongs to the 'grey zone' of real estate services.

The concentration of the residential rent market in Warsaw is naturally due to the fact that all state bureaux, branch offices of foreign enterprises and financial organisations, government institutions and most international aid centres are located here. That has focused the demand, thus bringing the prices to the level of London or Paris.

Generally speaking, the demand completely exceeds the supply of those premises which customers used to Western standards are willing to accept. The gap between demand and supply is further broadened by the definite location preferences of tenants.

When forecasting the future of this market segment, one should bear in mind its limitations. The market is a relatively shallow one, which may only change significantly when Poland joins the EC. Its growth in Warsaw will be directly proportional to the increase in the number of foreign managers living there and to the influx of capital.

Real estate developers

Statistics also show how little the metrics of the housing situation have improved in Poland over the past decades. The problem of flats has been and continues to be a political issue. That was clear both from government promises made several years ago to spend seven per cent of the budget on satisfying housing needs, and from recently made promises to ensure cheap flats. Currently, the proportion of the budget spent on building expenses is dramatically low, and it actually decreased from 2.6 per cent in 1992 to 1.1 per cent in 1995. Although the potential demand for flats is huge, the reality is not the same. To activate it, cheap council houses would have to be built, which would constitute a strong inflationary stimulus. This would affect both the budget itself and those other industry sectors which are currently contributing to the acceleration and stabilisation of economic growth.

The development market is already competitive to the point that it offers more to investors than other sectors. The prices of flats and houses offered by developers are comparable with the second-hand market. In Warsaw, they range from $600 per square metre for a normal finishing standard and a less attractive location, to $1,300 per square metre for high standard in one of the more prestigious areas.

Investing in premises to let in new buildings usually gives return on capital higher by several per cent than in old houses. Bearing in mind that the buyers can deduct a full tax allowance, and that administration costs are much lower in new houses than in old ones, the investment preferences of buyers seem obvious.

The estimated number of real estate and property development companies operating in Poland is 130. These are firms of diverse origin, expertise and potential, ranging from international corporations to small family businesses. They have one problem in common, however, which is the lack of institutional structures for financing real estate investments. Difficulties in obtaining external financing, ie, the unavailibility of bank loans and the absence of investment companies extend across the entire real estate market, particularly in the residential sector.

Situation of the commercial real estate market

Offices

• faster structural changes in GNP production are observed in Warsaw than in other parts of the country. That means employees are moving most quickly towards service and trade sector and towards enterprises using new technologies;
• similarly, the number of companies offering new services and technologies is most rapidly growing in Warsaw. Such companies could not exist in the command economy, and today they are booming thanks to foreign investments and the initiative of Polish entrepreneurs.

The above factors contribute to the very fast increase in new office space demand, which much higher in Warsaw than elsewhere in Poland. The dynamic growth and development of firms operating there is causing demand to greatly exceed supply. The following sectors have developed during recent years much faster than the average development rate in Poland:

• logistics and distribution services;
• trade;
• information and information technology sector;
• advertising services;
• telecommunications;
• chemistry and related services;
• tourism;
• building sector and associated services;
• financial services sector.

During the past years, firms operating in these sectors have spectacularly increased both their range of services and their staff numbers, thus becoming the main customers for office and storage space.

In these circumstances, capital interested in real estate is flowing into Poland. Rents are much higher than in other European cities, but companies choose to incur high rental costs in order to be able to operate in that great and absorptive market. The existing disproportion between demand and supply leads to an assumption that in spite of continuous growth of offered office space, the demand in Warsaw will continue to exceed supply. In 1994 there was an abrupt increase in business space demand, best visible in the Warsaw region. A similar increase occurred in 1996, in our opinion, as an effect of the seven per cent economic growth in 1995. According to our observations, those sectors which are the main customers for new office space are developing at a much faster pace than the rest of the Polish economy. For instance, the advertising sector in 1995 was expected to grow by 20 per cent, and we estimate that during the current economically-declining year, advertising services will grow by another 25-30 per cent.

Most financial organisations are located in Warsaw, starting from the WGPW (stock exchange) through to branch offices of all foreign investment and commercial banks. Establishing pension fund schemes (decision to be made, probably in 1997) and opening the domestic market up to foreign insurance companies and banks will result in an increased demand for office space. The capacity of the Polish market in terms of insurance companies may be described as able to fit another 100 companies of the size of Polisa. At the moment, Polisa's main office occupies 2,500 square metres in a class 'A' building, so that market looks very promising. We expect that the increased demand on the part of international financial institutions will bring another wave of investment capital into the Warsaw real estate market. Although that capital is not extremely significant in the scale of the entire Polish economy, it nevertheless plays an important role in areas where those investments are concentrated. For instance, investments of approximately $500 million are anticipated in Warsaw during the next three years, which according to the Warsaw scale, is a very large sum of money. In spite of the fact that the Warsaw real estate market, due to its huge demand, is very attractive in all sectors, and demand exceeds supply in each of them, only the office space market segment is visibly animated.

Stores in Warsaw and Lodz

In our opinion, however, the position of Lodz seems very underestimated. It is a centrally-located city with a huge number of unused post-production and storage facilities. Warehouses in Lodz are two to three times cheaper than their Warsaw counterparts. We expect that business interest in that city will grow enormously during the next two to three years, as business costs in the Warsaw area become increasingly more expensive, and also due to the lack of staff willing to undertake simple production and distribution jobs.

The extremely small interest in investing in storage space, coupled with the fact that existing warehouses do not match current standards reinforces the discrepancy between demand and supply. Our estimates predicted that in the Warsaw region, with supplies as small as they were, there would be a shortage of some 200,000 square metres of storage space at the end of 1996. Moreover, warehouses presently offered in Poland are not up to modern standards.

In spite of large demand observed in Warsaw for several years, very few new investments have been delivered to date. Most customers decided to modernise existing facilities - only the largest distributors built their own centres: 20,000 square metres for IKEA and 15,000 square metres for Proctor Gamble. This was a due to the unavailability of adequate facilities on the market.

Three recently built warehouse complexes of some 30,000 square metres can satisfy the requirements of the most demanding customers. Rent rates there reach $12 per square metre for storage space, and $20 per square metre for associated office space. Storage prices are very high in comparison with similarly located office space. Customers dealing with goods which require special care in storage have very limited possibilities in selecting storage location, and little chance of negotiating a better price.

Having analysed the investment opportunities, we can recommend everyone to invest in storage space in Warsaw, where demand is huge, and supply scarce. We estimates that with rents of up to $7 per square metre, the demand is about 100,000 square metre per year. If investors continue to be uninterested, that disproportion will systematically grow. Price movements in this sector are relatively slow; however during the last year, prices in traditional storage centres grew by 30 per cent (in fixed prices). That trend is maintained, although price growth encounters a hard border of $8 to $9 per square metre per month. We do not expect the market to accept the prices put forward by the latest investments, ie, $10. Companies which choose to rent those facilities do it unwillingly, forced by lack of cheaper alternatives.

Tourism

The most popular hotels are grades three and two-star. Cracow seems an interesting region in that respect, where the anticipated increase in the number of visitors is 20 per cent (despite the bad weather). The estimated shortage of beds is 1,000-1,500. In Cracow alone, investments of some $4.8 million are needed. Associated infrastructure, ie, cafes and shops, which do not involve large investments, can be adjusted on an ongoing basis by Polish private capital.

Local authorities in the largest tourism centres are looking for ways to attract tourists. Various festivals are organised (eg, a festival of Jewish culture), as well as concerts and other artistic events. An increased interest by the Germans in both the western and northern regions has accelerated investments in those areas. Hotel investments in Mikolajiki (lake district) and Jurata (seaside) have been a great commercial succes.

The overall bed shortage in the Polish hotel industry is estimated at some 10,000 beds. Warsaw is the only city where those needs are fulfilled, and only then with regard to five-star hotels. Recent investments have shown the market is so full that new hotels draw guests away from the existing ones. There is a large gap, however, in the three-star hotel segment. Needs in Warsaw alone are estimated for some 2,000-3,000 beds, which would amount to $10 million.

One should also bear in mind that motorway investments will generate a huge demand for motels and roadside hotels all over Poland. Today we face an exceptional situation, specific to developing economies: in non-tourist periods, hotels are utilised for 70-80 per cent of their capacity, and in the most renowned tourism and business centres (Cracow, Warsaw, Poznan) this rises to 90 per cent.