SPEAR REIT: “Stronger Than Ever Before”

Spear REIT, a leading South African Real Estate Investment Trust, completed a major portfolio acquisition in April 2024, catapulting it from focused regional property fund to a meaningful organisation on the cusp of becoming a prominent mid-cap REIT. Investing solely in the beautiful and busy Western Cape, Spear’s portfolio is home to high-quality office, industrial, and convenience retail assets that offer clients a superior property experience and drive long-term, sustainable results for shareholders.

“Spear is stronger than ever before because of its focus on the Western Cape and its ability to neatly complete a major transformative transaction in a market environment that is very challenging,” smiles CEO Quintin Rossi. 

Having pierced the ceiling of small REIT designation, the team is more determined than ever to grow further, highlighting the Western Cape as a compelling opportunity for property investors. 

Rossi says that the recent transaction has taken Spear from its genesis of 12 properties worth R354 million in 2011 to 39 properties worth approximately R5.3 billion.

“Spear’s most recent portfolio acquisition was a transformative transaction aligned firmly with our operating and investment strategy. We saw our asset value increase by R1.15 billion, but more than that we saw our market cap increase significantly to R3.4 billion,” he says, adding that trading liquidity and Spear’s price per share have all improved.

THE INVESTMENT CASE FOR SA

Positivity around the Western Cape as a region was a major driver of success. South Africa as a whole saw a mixed 2024 with high interest rates, election uncertainty, foundational infrastructural issues, and highly unpredictable local currency But in the Western Cape, driven largely by the success of Cape Town and its impressive agenda of service delivery and infrastructure investment, there is optimism and ambition.

“From a provincial perspective, the Western Cape is surely now the investment case for South Africa given the fact that we have the lowest unemployment rate and the highest labour force participation in the country, and we also see a very strong semigration trend with 150,000 people per annum moving here. That bolsters the demand not only for residential real estate but for commercial, industrial, and retail real estate. That is where we find our niche,” says Rossi.

Spear acquired assets spread across more than 93,500m² from Emira Property Fund which offloaded to recycle capital for future acquisitions. Particularly exciting for Rossi is the nature of assets, two of which are in the medical industry, offering long-term contractual income certainty. 

“The medical retail assets make the tenancy longer-term because there is a lot of work that has to go into acquiring licenses and certifications for the professionals that work on site and the services provided at the medical facility. One is a 48-bed sub-acute day hospital and medical facility that also requires licensing. We would like to gain more exposure to this market at the right pricing level and right tenure looking forward,” he says. 

The result of this, and the range of other assets now under Spear ownership and direct management, is a strong financial performance that the business expects to continue. 

“Our interim financials for the period show a positive improvement in group revenue, operating profits, and good like-for-like contractual revenue growth in a market where our vacancies have declined significantly coming off the back of a year which was a year of relative uncertainty. We had the election to contend with and that put pressure on bond yields. We saw pressure on general market sentiment up until the formation of the Government of National Unity,” details Rossi. 

However, always the advocate for the Western Cape, he explains that the fundamentals here are simply stronger than elsewhere, and having this underpinning structure behind the business makes planning and strategizing easier. At the same time, there is pressure on the property industry with high demand and low supply. Table Mountain to the south and the ocean to the north make for limited land availability, and access to zoned land in the right locations is challenging and expensive. 

“We see more and more cranes on the skyline – there are cranes at the Waterfront, Century City, Tyger Valley, Somerset West, and there are cranes in Paarden Eiland. For that to happen, the ground must be fertile,” Rossi asserts. “That is one thing that has been consistent from a provincial and municipal macroeconomic perspective – the governance and policy certainty has helped to attract capital. We have also seen a very strong recovery in the commercial office sector where vacancies have plummeted across nodes, and that is driven by a very strong return to office momentum by many companies as well as very strong BPO sector demand. That industry is now a significant occupier of large office space in the Cape Town CBD.” 

A range of issues dogged the commercial property sector for a number of years with loadshedding, utility costs, security, and general economic factors capped off by the fallout from the COVID-19 pandemic and subsequent lockdowns. But businesses – including corporate giants such as Vodacom, Nedbank, Allan Gray, Investec, Amazon etc have now mandated a return to in-office working. For Spear – which invests in high-quality assets, improving them significantly – this is an ongoing opportunity catalysed by robust regional fundamentals. 

“We have also seen a lot of new development activity in places like Riverlands, where global organisations such as Amazon have recently opened their Africa Headquarters and numerous other national and international occupiers will be taking up corporate office tenancies over the next 12 – 18 months. We have also seen some great transactional activity in the retail sector where retail centres have traded at what I would consider frothy valuations. All in all, the property sector has turned a corner, specifically nuanced to the Western Cape,” Rossi highlights. “If you look at municipal infrastructure spend by the City of Cape Town, it is more than double that of Johannesburg over the medium-term budget period. The City of Cape Town has committed around R43 billion over the next medium-term budget and R120 billion over the next 10 years towards infrastructure and job creation, and we expect that this create more than 100,000 new jobs in the province,” he says, adding that this will put more money in people’s pockets in the longer-term, which then gets spent in Westen Cape economy. 

INVEST, IMPROVE

In 2023, Rossi told Enterprise Africa about the rollout of PV solar across multiple assets following the commencement of its 30,000m² GTX Park industrial development in George, a strategically located land parcel next to the George Airport which will also receive a substantial solar PV investment once the tenant driven top structures are completed over the next five years.

“We will continue to invest in our PV solar portfolio with a strategy to achieve 11 MW of solar PV generation capacity within the next 12 months. Work has already commenced on the design and planning of PV solar installations across the 13 new properties we have acquired which will add a further 1.5 MW of generation capacity within the Spear portfolio at an estimated capital cost of R20 million.

Spear renewables investment is viewed by the company as a long-term addition to a strong portfolio and less of a direct cost that offers little return.

“The ‘higher for longer’ interest rate environment in South Africa has made it challenging is for the property sector and has placed pressure on both consumers and businesses,” Rossi claims. “The cost of debt is a material factor when you deal with any property company. South Africa has a 3% inflation rate but one of the highest interest rates in the world, but we are now in a downward cycle of interest rate tapering which will bode well for declining finance costs for property owners. The operating cost for running a building – rates and taxes, central improvement district levies etc – are all things we have to absorb in an environment where management teams work very hard generate growing net property income.”

Parallel issues include the rising cost of land, construction, and insurance. Prices have increased with many viewing South Africa as a market with risks that require significant premium.

“These factors have nibbled away at the bottom line,” admits Rossi, “but we have managed to mitigate against that through the 6% top line revenue growth. Our mission is to generate a return on capital that is in excess of our cost of capital and that is where Spear has created its edge by buying well and typically something that is under-rented or has a short lease, allocate capital in upgrading and then re-tenanting it with a higher rental and longer lease, with an improved cashflow and underlying asset valuation.”

GOOD NODES

Importantly, Spear is an organisation full of optimists and the company is mindful of the challenges in the local, national, and global economy, but is buoyant about the Western Cape where it knows the lay of the land. Here, it will continue to invest, uplift, and improve as it continues on its journey to become a meaningful mid-cap REIT with aspirations to own assets north of R15 billion portfolio value.

“There are some critical elements that we look for,” says Rossi. “Offices have to include the right parking ratios because public transport is under severe pressure. We need to have sustainability concepts such as grey water, PV solar, reverse osmosis water plants etc. In industrial, we need to have the correct yard area and roof height, and we are also on a drive to eliminate asbestos roofing from our portfolio. In retail, we look at convenience retail because it is a defensive retail sub-sector and is not heavily reliant on consumers that pay with credit. It must also be close to a strong residential node with good infrastructure.

“The overarching principle is that property needs to be in a good node – we will not buy assets that are in secondary or tertiary nodes because rental growth opportunity is limited and vacancy risk is elevated.”

He highlights the technology sector, specifically the data centre industry, as another in which Spear wishes to allocate capital into, “at the right price, in the right place, given the impact of AI and growing demand for data storage. The variable is the availability of sufficient electrical supply and we are now 10 months free of loadshedding which is something we are grateful for daily.”

Dubbed Africa’s Silicon Valley, Cape Town has a thriving technology industry, home to a significant number of jobs. The city is also growing in terms of tourism and hospitality, voted number one globally for its beauty, happiness, and food-scene by TimeOut. Rossi is confident that there is more to come from this alluring area, and expects more acquisitions in the medium-term.

“From a business perspective, we saw massive institutional interest in the Western Cape story. We will remain focussed on our growth strategy around high-quality Western Cape assets that offer long-term sustainable cash flows and growing yields.”