The retail sector in the United Kingdom has always been a dynamic and significant component of the economy. As strategic partners in the realm of investment banking, we have a vested interest in the ongoing developments and trends that shape this industry. The Retail National Report United Kingdom from August 2023, provides a comprehensive overview of the current state of the market, offering invaluable insights for large institutional investors.
Understanding the Retail UK National Report: A Synopsis
The Retail National Report is a critical document that sheds light on the retail sector’s performance, highlighting key trends, consumer behavior, and the economic factors influencing retail businesses. For our clients in real estate private equity and those operating in secondaries, the report is a treasure trove of data that can inform investment strategies and decision-making processes.
Key Findings from the August 2023 Report
The August 2023 edition of the report underscores a few pivotal trends:
Consumer Spending Patterns: There has been a noticeable shift in consumer spending, with an inclination towards value-based purchases, which has implications for luxury and discretionary retailers.- E-commerce Impact: The continued rise of e-commerce has been reshaping the retail landscape, prompting a reevaluation of physical retail spaces.
- Retail Vacancy Rates: The report highlights areas with significant retail vacancy rates, presenting potential opportunities for redevelopment or repurposing.
Overview
- Pandemic Aftermath and Recovery Trajectory: The UK retail sector is on a path to recovery after enduring a challenging period marked by the pandemic. The health crisis led to multiple lockdowns and a surge in online competition, which precipitated the permanent closure of numerous shops and businesses. This resulted in a staggering negative net absorption exceeding 7 million square feet. However, the tide has begun to turn in recent quarters, with the lifting of pandemic restrictions catalyzing a resurgence in foot traffic, physical retail sales, and leasing activities, signaling a rebound in the sector.
- Demand Dynamics and Retail Evolution: The resurgence in demand has been particularly beneficial for fashion brands and experiential retailers. Fashion outlets are capitalizing on the current market conditions, seizing the opportunity to upgrade their stores within shopping centers due to more favorable rents. Similarly, experiential retailers, which focus on providing immersive consumer experiences, are in an expansion phase, indicating a strategic shift towards retail offerings that leverage in-person engagement.
- Stabilization and Market Indicators: The national retail vacancy rate has found a new equilibrium, currently standing at 2.9%. This stabilization is mirrored by a positive net absorption of 2.1 million square feet over the past 12 months, suggesting a gradual but steady recovery. Despite this, the retail sector has seen a modest decline in rent growth, with a 12-month rent decrease of 0.5%, reflecting ongoing adjustments in the market.
- Consumer Sentiment and Economic Pressures: Despite these positive signs, broader economic concerns temper the sector’s recovery. Persistently high inflation and a cost-of-living crisis continue to pressure consumer confidence. The GfK Consumer Confidence Index, which measures this sentiment, dropped to -30 in July from -24 in June, marking a decline in consumer confidence. The index reflects a growing pessimism regarding personal financial situations and the general economic outlook, which could translate into more cautious consumer spending.
- Leasing Activity and Retail Performance: Escalating costs and diminishing margins have subdued the retail leasing landscape this year, with many retailers contending with these challenges. Continued declines in retail rents have resulted from these economic pressures, and experts anticipate further reductions in the near term. However, retail centers anchored by grocery stores and high streets in affluent areas are expected to outperform, given their resilience and appeal to a more stable consumer base.
- Supply Side Considerations: On the supply front, the market is unlikely to see significant new retail space development in the coming years, which may provide some support to the current vacancy rate. Concurrently, the trend of repurposing retail space for alternative uses is gaining momentum. Notably, several department stores along London’s Oxford Street are undergoing partial conversions into co-working spaces, with similar transformations occurring across the country. Recent relaxations in planning regulations have facilitated a shift, likely speeding up the removal of redundant retail spaces in numerous towns and cities.
- Investment Climate and Market Resilience: Retail investment in the UK had been on an upward trajectory until spring 2022, buoyed by declining prices and redevelopment opportunities in shopping centers that attracted investors. However, the landscape has since shifted due to rising interest rates, stubborn inflation, and faltering retail sales, which have collectively rendered retail property less attractive and made financing more onerous. Despite the likelihood of rising yields in the near future, certain market segments, such as a shop on London’s Bond Street that recently fetched a yield of 2.6%, demonstrate pockets of robust demand and investment resilience.
- Supermarket Segment and Market Support: The supermarket segment of the retail market continues to exhibit strength, with demand supporting pricing in this niche. This suggests that while the broader retail market faces challenges, specific segments may offer stable investment opportunities, particularly for those focused on essential retail services like supermarkets.
Leasing Overview
- Recovery and Momentum: Post-pandemic, footfall and retail sales have significantly increased, supporting the sector’s recovery. However, the momentum has slowed due to the cost-of-living crisis and weak consumer confidence.
- Demand and Rent Re-basing: The wave of business collapses has subsided, and demand for retail space is picking up as rents adjust to new market conditions.
- Positive Net Absorption: Over the past 12 months, national net absorption has been positive, with demand expanding beyond supermarkets and discounters.
- Vacancy Rate Stabilization: The national retail vacancy rate has stabilized, supported by the conversion of retail space to other uses.
- Retail Take-up: Despite challenging economic conditions, retail take-up has been relatively robust, though still below pre-pandemic levels.
- Expansion of Discount Retailers: Discount retailers, particularly B&M, Dunelm, and Poundstretcher, are expanding, with B&M planning to add 45 new stores.
- Growth of Value Supermarkets and Lifestyle Retailers: Lidl, Aldi, and Decathlon are actively expanding, while the UK sees its first cashier-free grocery stores in London.
- Revival of Department Stores: Developers are repurposing former Debenhams stores for residential and entertainment uses, with significant conversions underway in Manchester and London.
- Fashion and F&B Retailers Re-entering Leasing Market: Zara, Uniqlo, and other fashion brands are signing significant leases, indicating a return to physical retail.
- Luxury and High-Street Fashion Expansion: Luxury brands like Gucci and high-street retailers such as Flannels and Next are opening new stores, signaling confidence in the physical retail market.
- First Physical Stores for Online Brands: Online brands like Boohoo are opening physical stores, with Sports Direct expanding its presence in Manchester’s Arndale Centre.
- Online Competition and Multichannel Resilience: Retail vacancy has increased over the past decade due to online competition, but businesses with strong multichannel strategies have shown resilience.
- Outperformance of Coastal Towns and Affluent Suburbs: Coastal towns and affluent suburbs have outperformed during the pandemic, benefiting from domestic tourism and remote working trends.
- New Developments and Market Evolution: New developments like Edinburgh’s St James Quarter are changing the retail landscape, with major retailers moving from high streets to modern retail spaces.
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Construction Overview
- Impact on Retail Projects: The pandemic has led to delays, cancellations, or amendments of numerous retail projects across the UK.
- Historic Low in Construction: Currently, 5.2 million SF of retail space is under construction, the lowest in over 15 years and less than half compared to the peak of the financial crisis in 2009.
- Shift to Alternative Uses: The conversion of many shopping centers and department stores to alternative uses suggests a minimal net addition of new retail space in the coming years.
- Department Store Repositioning: In London, several department stores, including former Debenhams locations, are being transformed into co-working spaces or residential units.
- Mixed-Use Redevelopments: Former House of Fraser stores in major cities are being redeveloped into mixed-use projects, reflecting a shift in retail strategy.
- St James’s Quarter Development: Edinburgh’s St James’s Quarter, at around 1 million SF, stands as the UK’s largest retail delivery since the pandemic.
- Battersea Power Station Retail Element: The largest project completed in 2022 was the retail section of London’s Battersea Power Station, totaling over 300,000 SF and leasing successfully.
- Future of Retail Construction: Mixed-use projects, including designer outlet villages and supermarket convenience stores within residential developments, represent the future of retail construction.
- Weak Construction Pipeline: Construction starts have hit a 15-year low in 2022, with no signs of immediate recovery.
- Amended Pre-pandemic Plans: Developers are rethinking retail schemes such as Leeds’ Eastgate Quarter Phase 2 to incorporate residential, office, and other uses, moving away from a retail-led focus.
- Town Centre Regeneration: Local authorities and landlords are actively collaborating on retail construction projects that focus on regenerating town centers and revitalizing high streets.
- Shopping Centre Redevelopments: Investors have purchased numerous shopping centers for redevelopment or repurposing, and developers have indefinitely paused major projects like the Whitgift Centre redevelopment.
Sales Overview
- Deteriorating Investor Sentiment: Investor confidence in the retail sector has worsened due to lockdowns, store closures, and company administrations.
- Yield Increase and Market Discount: Average yields have risen, with retail property now trading at significant discounts compared to industrial properties, reversing the trend from a decade ago.
- Early 2022 Investor Interest: Early 2022 saw a spike in opportunistic investing in retail, with some large transactions driving quarterly volumes to a five-year high.
- Interest Rates and Sales Impact: Rising interest rates and declining retail sales have cooled the market, leading to decompressed yields.
- Supermarket Subsector Deals: Notable recent transactions have primarily occurred in the supermarket subsector, such as Sainsbury’s acquisition of a 21-store portfolio for £430.9 million.
- Supermarket Investment Popularity: Despite a shift in property yields, supermarkets remain favored by investors for their long-term, inflation-linked income and economic resilience.
- Redevelopment Focus: Redevelopment plays, such as the acquisition of Fenwick’s department store for mixed-use purposes, remain a key investment theme.
- Retail Parks Attraction: Retail parks, especially those anchored by supermarkets, have been popular, with significant sales like Purley Cross Retail Park for £59 million at a 5.5% yield.
- Shopping Centre Market Slowdown: Shopping centers have seen fewer transactions and higher yields, with The Mall in Luton trading at a 15.3% yield.
- Luxury Centre Price Corrections: Even central London luxury centers have faced price corrections, with the Royal Exchange retail element selling for significantly less than its previous price.
- Prime Centre Valuation Reductions: Prime shopping centers have been sold at reduced valuations, such as Birmingham’s Bullring and the Liberty Shopping Centre in Romford.
- Redevelopment and Repositioning Deals: Shopping centers purchased for redevelopment, like the Grafton Centre in Cambridge, have been popular before the market downturn.
Closing Remarks
In the ever-evolving landscape of UK retail investment, the sector has witnessed a significant shift in sentiment, exacerbated by the pandemic’s impact. Investor confidence, already tepid pre-pandemic, has been further eroded by a series of lockdowns, store closures, and numerous company administrations. This has led to an uptick in average yields, positioning retail properties at a stark discount to their industrial counterparts—a stark reversal from the scenario a decade ago. The initial months of 2022 saw a surge in opportunistic investments buoyed by substantial transactions that propelled quarterly volumes to a five-year peak. However, this resurgence was short-lived as the specter of rising interest rates and a dip in retail sales dampened the market fervor, causing yields to decompress once more. The supermarket subsector, known for its long-term, inflation-linked income streams, and historical resilience during economic downturns, continues to concentrate notable transactions and draw investor interest. Redevelopment remains a central theme, with significant mixed-use projects emerging from the transformation of department stores and shopping centers, signaling a strategic pivot towards diversification and adaptive reuse in the sector. Despite the challenges, certain segments like retail parks have maintained their allure, particularly those anchored by supermarkets, underscoring a nuanced market where location and tenant mix are key. As the market recalibrates, the narrative of the UK retail sector is one of cautious navigation through a period of recalibration and reinvention.
Note: This blog post is based on the Retail UK National Report from August 2023, and aims to provide information only.