Retail pain will be reflected in sharp rental falls - Capital Economics
UK Commercial Property

Retail pain will be reflected in sharp rental falls

UK Commercial Property Update
Written by Andrew Burrell
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The rapid spread of coronavirus over the last month has dealt another body blow to UK retail. We expected the sector to see rental falls pre-COVID, but these could now be closer to 10% in 2020, leaving levels almost 20% below their mid-2018 high by the end of the year.

  • The rapid spread of coronavirus over the last month has dealt another body blow to UK retail. We expected the sector to see rental falls pre-COVID, but these could now be closer to 10% in 2020, leaving levels almost 20% below their mid-2018 high by the end of the year.
  • The coronavirus is a further blow to retail, with the sector at the forefront of the disruption. Initial virus concerns had already hit footfall, supermarkets aside. But with the UK in lockdown from late-March, most non-essential stores are now shut (an estimated 70-80% of all shops). So, it was perhaps unsurprising that landlords did not receive their full end-quarter rents, with Intu reporting only 29% was paid. Tenants are calling for leniency or even rent forgiveness, and some have simply refused to pay.
  • Admittedly, the government has promised unprecedented support. The main measures for commercial property are loans to help cash-flow, a subsidy for furloughed workers and protection from eviction for the next three months. Beyond this, there was business rates relief, mostly for smaller retailers, in the recent Budget. (See our Update.) But, these will not mitigate for lost activity and retailers will have other costs to pay in the meantime.
  • Neither does this support offer much to landlords and with the government banning evictions for three months, they have limited sanction. Some have acted aggressively, with threats of legal action after the ban, but there is a recognition that they will need to work with tenants, with British Land, for instance, already offering concessions. Whatever, difficult negotiations can be expected over the coming months.
  • Even before the crisis, the retail sector was in structural decline thanks to online competition. In the last 18 months, retail rents have fallen by 7% against a background of rising rents in other sectors. (See Chart 1.) We had expected another 5% or so drop this year even before the lockdown.
  • But it is now clear that the virus is likely to accelerate structural change in retail. The rate of store closures will rise sharply over the coming months, with struggling food and beverage most at risk. Landlords will bear the brunt and currently seem able to take this load, but at a further cost to their incomes. In truth, they have little alternative short-term, though if the disruption is more prolonged, there is a danger that they could begin to have financial difficulties too.
  • Of course, many of these issues are not unique to retail. But retail was most fragile before and its activity appears most disrupted by containment. As a result, it is inevitable that the rental outlook will worsen this year. We have downgraded our rental growth forecast to -10% for all-retail, with shopping centres worst hit. (See Chart 2.) This will make the current downturn deeper than the GFC. And even this is a best case, assuming a quick rebound if the virus is contained in Q2, which is still by no means certain.

Chart 1: Rental Value Growth (% y/y)

Chart 2: Retail Rental Value Growth (% y/y)

Source: MSCI

Sources: MSCI, Capital Economics


Andrew Burrell, Chief Property Economist, +44 7985 902 151, andrew.burrell@capitaleconomics.com
Prohad Khan, Property Economist, prohad.khan@capitaleconomics.com