Foreword by Andrew Chilvers
For ambitious companies eager to expand into overseas markets, often the conventional route of organic business development is simply not fast enough. The other option to invest in or buy a business outright is far quicker but often fraught with unforeseen dangers. And even the biggest, most experienced players can get it badly wrong if they go into an M&A with their eyes wide shut.
If you search for good and bad M&As online the Daimler-Benz merger/acquisition with Chrysler back in 1998 is generally at the top of most search engines on how NOT to undertake a big international merger. Despite carrying out all the necessary financial and legal measures to ensure a relatively smooth deal, the merger quickly unravelled because of cultural and organisational differences. Something that neither side had foreseen when both parties had first sat down at the negotiating table.
These days the failed merger of the two car manufacturers is held up as a classic example of the failure of two distinctly different corporate cultures. Daimler-Benz was typically German; reliably conservative, efficient, and safe, while Chrysler was typically American; known to be daring, diverse and creative. Daimler-Benz was hierarchical and authoritarian with a distinct chain of command, while Chrysler was egalitarian and advocated a dynamic team approach. One company put its value in tradition and quality, while the other with innovative designs and competitive pricing.
Robert Schuler discussed The Art of Deal Making: Using External Expertise Effectively as part of the Real Estate chapter.
How important is local market intelligence to effective cross-border real estate transactions, in your view, particularly in the current Covid-19 market? Any examples of how you have helped clients using expert insight into your jurisdiction’s real estate market?
Covid-19 has impacted each of the real estate sectors differently and the approach to transactions should be adjusted accordingly. In addition to the varying impact on different sectors, the various regions of Thailand will likely experience their own recovery trajectories, which will to some degree dictate transaction acquisition strategies and timing. As an example, tourism accounts for approximately 20% of Thailand’s GDP, and with strict controls on inbound travel, tourism-related assets are bearing the brunt of the impact despite government-sponsored stimulus geared towards increasing local demand. That being said, not all regional markets are created equally and particular attention will need to be paid to developing domestic and regional travel trends as the tourism markets attract and cater to types of travellers, some of which are demonstrating more robust demand. Strong local market intelligence will help in identifying those asset classes by region that will be best positioned to retain value and trend to profitability.
While the more obvious strategy will be to attempt to predict when a sector will bottom out, it may be a more prudent approach to proactively determine if a real estate asset can be repositioned to take advantage of anticipated market trends. Given the longer term negative impact on real estate assets of all types in Thailand, we do look at recommending that there be a heightened level of focus put towards understanding accruing liabilities and how this may affect the asset acquisition/disposition process, pricing and in the worst-case scenario create post acquisition risk as it relates to creditors
As the market tightens with respect to being able to access financing to support operations, we have assisted clients with developing asset repositioning strategies which principally involves determining the feasibility of converting the use of an asset in full or in part and taking applicable permits, building control restrictions, zoning regulations and so on into consideration. As a second stage of the analysis, we look at creating value extraction opportunities as a way for our clients to supplement financial requirements. As an example, we look at the feasibility of converting hotel inventory into long-term leasable or saleable assets, where the clients can retain the asset as inventory through leasebacks in the short term and with a call/put option to allow for the future repurchase/sale and reincorporation of the asset in the core inventory. The essence of the transaction is the segregation of permissible use of a portion of a structure or project (hotel inventory in this case), while maintaining the ability to opt the asset in or out of the hotel inventory pool and remaining legally and contractually compliant.
What are some of the key elements involved in achieving an accurate valuation for a real estate portfolio prior to the deal making process?
At this stage, asset valuation has become a bit of a guessing game. We would typically rely on a combination of a comparable analysis, going concern analysis and replacement cost appraisal in considering asset price. However, there has not been a sufficient level of transactions in any sector to rely on a comparable analysis. A going concern analysis may be more appropriate, provided the agreement can be made on the treatment of 2020, and the anticipated 2021 and 2022 performance. Here, the assumption is that the markets will return to normality by yearend 2022 and, therefore, adjustments to price should be limited.
For those unwilling to glance into that crystal ball, we tend to focus on the replacement cost appraisal to establish a baseline for the asset price. Regardless of the methodology or rationale applied, it is key to accept that we will remain in an unpredictable investment climate where upcoming transactions will involve real estate assets struggling to break-even or survive for the matter. Therefore, valuations should consider carrying costs, short- to mid-term changes in supply and factors likely to affect the asset class recovery timetable.
Finally, as the market continues to react to Covid-19 and the downstream implications become clearer, it is more important than ever to understand a seller’s motivation as we would expect future real estate transactions to allocate a material premium to risk management through portfolio diversification, building of cash reserves and reduction of carrying costs in the short- to mid-term.
Top Tips – To Optimize a Real Estate Portfolio
- It is key to consider current and anticipated increases of short-term supply within each real estate sector. An attempt should be made to predict the short-term impact that Covid-19 will have on each sector and the relative price elasticity of demand. In the short term, the ability to survive and prosper will depend on the ability to reposition assets alternately and liquidate and redeploy capital. Given the current level of uncertainty, asset liquidity should be a key consideration.
- Secondly, those real assets that are more heavily geared towards the domestic market should be prioritized as we have seen that they have been less exposed to policies related to travel. In the short term, these will be more stable positions to take, but this will likely be expressed in the price.
- Thirdly, government policies related to supporting recovery should be considered. Government stimulus programs may create opportunities for acquisitions, disposition or organizational restructuring.