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Converting more than 1 billion sq ft of under-used or redundant UK retail floor space could provide a mighty stream of profitable opportunities for the property industry. But it won’t be easy for everyone…
Words: David Thame
Shops aren’t what they used to be. The e-commerce revolution has turned yesterday’s shrine-to-consumption to today’s boarded-up voids. The result is a truly staggering amount of defunct or soon-to-be-defunct retail floor space.
According to research from Savills, around 142 million sq ft of UK retail floor space is redundant. By the end of the decade the figure will be over 300 million. On top of this, there’s another 1.1 billion sq ft of UK retail floor space in basements, or on first floors, or tucked around corners, that has a strictly limited future.
Yes, it means dead malls and shuttered high streets, but it also heralds a truly enormous recycling of UK town centre property.
The big hope is that recycling retail property can provide a new supply of workspace, housing and educational space that could transform many neighbourhoods. But big hopes come with big difficulties.
Top of the list is the conceptual problem faced by many retail landlords. Many have yet to adjust either their minds or their accounting valuations to the new reality that their shops and shopping centres have no future in retail.
Alex Isaac, consultant at residential management company, Apo, says: ‘There is a big psychological hurdle for landlords and investors to overcome.
‘Historically they let these spaces to blue chip retail tenants on long leases of 25 years or more, and these tenants paid the rent reliably. Today they have to get their head around the idea that this kind of tenant is vanishing, and they need to rethink how they approach their assets.’
It’s not just psychology that causes problems; maths can prove a formidable trip-hazard, even if the landlord’s head is in the right place. The dilemma turns on one of the property industry’s most enduring and debatable headaches: how to value a commercial property.
Steve Henderson is Leeds-based director of retail for Savills. He explains that retail landlords are often flying blind, having no clear idea what their retail properties are worth in the uncertain world of 2021, no firm idea how much they might have to invest to repurpose them, and absolutely no idea how to value the end result in four or five years’ time. With so many unknowns, and developers reluctant to spend whilst their rental income flows are brittle, it’s little wonder many landlords prefer to play wait-and-see.
‘Landlords know repurposing retail is going to cost them capital expenditure up front, and that might be money they don’t have because some landlords are in a precarious position,’ Steve explains. ‘It’s a problem for them of working out the existing value of the building, which is a headache, then working out the potential future value.’
If the gap between the two isn’t clear, or very large, or takes a long time to bridge, then viability is doubtful. Only the very brave will proceed.
‘There are lots of nice ideas out there for repurposing retail, but they have to add-up,’ sighs Steve.
For developers, this is anxiety-making. ‘There’s no recent evidence to base yield calculations on, and without them we can’t generate appraisals on income, getting a grasp on the numbers is very difficult,’ says Chris Newsome, Senior Development Surveyor at HBD, who are in the midst of the £20 million conversion of the former Manchester Habitat store into 23 loft apartments.
‘Yes, developing is all about taking risk, but if there’s no evidence to tell you how close the gross development value and the development cost are, then you’re not safe, and you start umming and ahhing.’
Chris says the one comfort developers have is September 2020’s revision of the planning use-class order, which collapsed all the major commercial uses into one category (Use Class E). That takes one layer of planning complexity out of the process of repurposing retail floor space; planning probably won’t be as much of a problem as it once might have been.
But this is not the end of the tortuous flow-diagram of repurposed retail development. Supposing the landlord is in the right headspace, and supposing the most basic valuation issues can be resolved, projects can still come to grief on the simple (and unavoidable) fact that retail floor space was built as retail floor space. Often that means construction methods and design can only be adapted for other uses after expensive and heavy-handed interventions, or perhaps not at all. All of which can turn even the most confident valuation, and most convinced developer, into hesitant and reluctant players.
Old hands say that two rules-of-thumb can rapidly rule out the non-starter conversion options. They are the ratio of floor space to façade and the net to gross ratio.
When these trip hazards have been overcome, the next question is, what kind of something else should it be?
Landlords and developers face a dizzying choice, all of which come with different up-front costs, different rental generating capacities, and different capacity to provide long-term income.
Top of the list is leisure use: there are too many examples to mention of shops turning into experiential venues for gaming, crazy golf or gyms. This often wins-out with risk-averse landlords because upfront conversion costs are low, and potential tenants well organised. It means a quick turnaround and continued income. The downside is that nobody knows quite how durable leisure use will turn out to be.
The next, and perhaps most obviously money-spinning possibility, is residential conversion. Expensive, often structurally challenging, but offering high rewards for those who dare, the large floorplates of 80-100,000 sq ft former department stores lend themselves to modular construction methods, which can cut costs and hence improve viability: new homes could simply be slotted in.
Star example here is John Lewis Partnership, which has signalled it will diversify into build-to-rent (BTR) housing to meet a long-term target to secure 40% of its annual income from non-retail activities. The idea of residential conversion is already undergoing trial at the Highcross Shopping Centre in Leicester. Landlord Hammerson is overseeing the conversion of the 106,000 sq ft Debenhams into 338 BTR apartments.
If residential doesn’t work, how about office workspace? Retail space is often cheek-by-jowl with office districts and, in those towns and cities with busy office markets, conversion to workspace can make sense. The most dramatic example so far is the conversion of Manchester’s Debenhams store.
German landlord AM Alpha now has permission for a radical conversion (and rooftop extension) of the 466,000 sq ft building.
AM Alpha’s scheme includes a four-storey extension to add 40,000 sq ft of leisure space, 27,000 sq ft of restaurant and bar space, and 298,000 sq ft of offices aimed at the tech, media and telecoms sector, designed by Jeffrey Bell Architects.
Increasingly, the life sciences want to be visible and in areas where they have a lot of strength – Oxford, Cambridge, London. The large floorplates of department stores lend themselves to conversion into laboratory and research space.
Beyond leisure, office and residential, the possibilities are boundless, but Savills’ Retail Research Director, Tom Whittington, points to the possibilities in education and life science.
‘Increasingly, the life sciences want to be visible and in areas where they have a lot of strength – Oxford, Cambridge, London. The large floorplates of department stores lend themselves to conversion into laboratory and research space.
Savills is currently advising on three potential store-to-lab conversions, and another in London where researchers want to be close to major hospitals.
‘There is significant appetite from the life science sector,’ he insists.
The same can be said of demand from the educational world. ‘We’re seeing interest from private education and training providers, further and technical education, but also adult learning and one-to-one tuition,’says Tom.
There are discussions underway about converting one former department store into a school of mathematics.
‘The advantage for landlords in both life sciences and education is that tenants will sign longer leases, which improves the long-term valuation of the building. Maybe the landlord takes a short-term hit on the rent, which will probably be less than retail used to pay, but in the long-term it could work out better,’ adds Tom.
Converting former retail floor space is by no means easy. But with as much as 308 million sq ft of it becoming available in the course of this decade, and 1 billion sq ft of other low-grade retail with little future, it is sure to be one of the big property industry work streams for the foreseeable future.
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