Investment in Commercial Real Estate — CRE — covers real estate assets intended for the development of economic activities: offices, hotels, retail premises, logistics platforms, student residences or healthcare centres.
However, knowing the different asset types is only the first step. To understand a CRE investment, it is also necessary to know how value is generated throughout the project.
At Urbanitae, the strategy focuses mainly on value-add transactions. The aim is not to acquire a stabilised property, hold it indefinitely and collect rents, but to identify an asset with room for improvement, transform it, consolidate its operation and subsequently sell it to another investor.
This process can be divided into five phases: origination and analysis, acquisition, repositioning, stabilisation and divestment.
What does a value-add strategy mean?
A core asset is usually well located, has high occupancy and creditworthy tenants, and generates relatively stable cash flows. Its scope for transformation is limited.
A value-add strategy starts from a different situation. The property may be vacant, underused, technically obsolete or generating rents below market levels. It may also be a new development that still needs to be built, marketed and brought into operation.
The thesis consists of progressively reducing risk and increasing the value of the asset. In simple terms: an opportunity with potential is acquired or developed, a transformation plan is executed, and the property is sold once it and its activity have reached a more stable situation.
1. Origination and analysis
The process begins with sourcing, that is, the search for an asset with revaluation potential. This may be an off-market transaction, a competitive process or a property whose current performance does not reflect its full potential.
Next comes underwriting, or financial analysis. In this phase, the acquisition price, required investment, timelines, future income, operating expenses, financing and potential sale value are studied.
The model must also consider less favourable scenarios: licensing delays, cost overruns, slower marketing or a lower exit valuation than expected.
In CRE, moreover, location must be analysed at micro-market level. Vacancy levels, space absorption, rental evolution and specific demand for that asset type all matter.
If the transaction passes this first analysis, it is presented to the investment committee with a summary of the business plan, risks and exit strategy.
2. Due diligence, structuring and purchase
Once the initial offer has been accepted, due diligence begins, with the aim of verifying that the assumptions in the model match reality.
The technical and planning review analyses the condition of the property, the feasibility of the works and the necessary permits. The commercial part checks the expected rents, demand and potential sale value. Finally, the legal, tax and financial analysis reviews ownership, encumbrances, contracts and, where applicable, the situation of the company being acquired.
In a value-add transaction, an error in the calculation of CapEx or administrative timelines can significantly affect profitability. That is why, after completing due diligence, the transaction returns to the committee for ratification before the purchase and financing are formalised.
3. CapEx and repositioning
Once the asset has been acquired, the transformation begins. Depending on the project, this may include construction, refurbishment, redistribution of spaces, modernisation of facilities, changes of use or adaptation to the needs of an operator.
In offices, for example, the objective may be to achieve greater flexibility across floorplates. In a hotel, it may involve a full refurbishment and the entry of a new operator. In a student residence, value may be created through the complete development of the asset.
Sustainability is also playing an increasingly important role. Energy improvements and certifications such as BREEAM or LEED broaden the universe of potential buyers and reduce the risk of the property losing appeal due to lack of efficiency.
This is usually one of the most sensitive phases of the project. Cost overruns, delays or regulatory changes can alter both the timeline and the expected outcome.
4. Marketing and stabilisation
Completing the works does not mean that the value creation process has concluded. The asset must demonstrate that it can operate according to the planned business plan.
In properties intended for lease, it will be necessary to attract creditworthy tenants and sign attractive contracts. In operational assets — such as hotels, student residences or flex living — the activity must be launched and normal levels of occupancy and income must be reached progressively.
This period is known as ramp-up or stabilisation. During this stage, the speed of marketing, occupancy, the quality of tenants or operators, contract duration and the asset’s ability to generate stable income are analysed.
Contracts are especially important because they determine how risk is distributed. There may be fixed lease contracts, minimum guaranteed rent with a variable component, or management contracts.
Stabilisation makes it possible to demonstrate that the plan works. The asset is no longer valued only on the basis of its physical characteristics, but also on the quality and predictability of its income.
5. Divestment
The final phase consists of selling the asset once it has been transformed and stabilised.
Here, there is a fundamental difference compared with residential real estate. In the latter, the exit usually takes place through the sale of homes to private individuals. In CRE, the final buyer is usually another investor: pension funds, insurers, SOCIMIs, real estate funds, family offices or high-net-worth individuals.
These buyers look for assets that have already passed through the phases of greatest uncertainty: refurbished, efficient, occupied properties with contracts capable of providing visibility over future income.
Before the sale, the technical, financial and contractual documentation is organised and the marketing process is prepared. After divestment, financing is repaid where applicable, and capital and returns are distributed according to the structure of the transaction.
Where is value really generated?
The return of a value-add strategy does not depend on a single decision, but on the combination of several levers: an attractive entry point, a viable business plan, control of costs and timelines, physical and operational improvement of the asset, quality of contracts and a suitable exit.
One particularly useful metric for understanding this process is the difference between the yield on cost and the exit yield. The first relates stabilised income to the total cost of the project. The second represents the return required by the buyer at the time of sale.
When an asset generates stable income and is perceived as less risky, a buyer may accept a lower yield. This yield compression increases the valuation of the property and is one of the main ways value is created in CRE.
Much more than a real estate refurbishment
A value-add strategy does not end when the works are completed. Its objective is to deliver to the next buyer an asset in a significantly better situation than at the start: refurbished, efficient, marketed, stabilised and prepared to generate income sustainably.
Understanding these five phases makes it possible to better interpret the opportunities and risks of CRE and to understand where the value that can support the project’s final return is created.
