An unfinished building construction
Expect to see further carnage in the coming weeks as Germany's project developers come to terms with the brutal new realities prevailing in the real estate industry.
While smaller names have been going to the wall for several months, the last few weeks have seen some of the industry's biggest names filing for insolvency and protection from their creditors. They're unlikely to be the last. Industry bodies are now up in arms looking for the government to step in with radical new measures to revive a sector which has now effectively come to a standstill.
There is now genuine fear afoot that the recent spate of insolvencies could be followed by an even more catastrophic wave of firms going under, particularly small and mid-sized companies that don't have the resources or the clout to trade themselves back into profitability, or even to ensure their minimal survival.
At the end of July - barely three weeks ago - the Düsseldorf commercial developer Centrum and Hamburg residential developer Revitalis held up their hands when they were unable to pay their bills. They were followed shortly after by three of the biggest names among Germany's approximately 9,000 project developers - Development Partner, Project Immobilien and Euroboden.
The latest insolvencies were all victims of the same market conditions - a toxic triangle of huge cost increases, higher interest rates and an investment environment that has practically come to a standstill. Liabilities outweigh current liquidity, the company can't pay its bills. Banks take fright, scrutinise their existing lending even more closely, and trigger an avalanche effect, denying lending to ever more customers. More insolvencies.
In the case of Project Immobilien, the insolvency administrators are laying the blame on the Ukraine war, which has pushed the price of building materials up strongly, without being able to pass these price increases on to the end-customer, private individuals buying homes. Project has had to lower the valuations of its housing units, taking its cue from large listed companies such as Vonovia, LEG Immobilien, or TAG Immobilien - the latter of which last week wrote down the value of its 70,000 apartments by 7%, costing it €305m on its half-year results. Likewise, housing giant Vonovia took a €2 billion write-down, while second-biggest housing company LEG wrote off €1.5bn.
The latest Development Monitor survey from researchers Bulwiengesa underlines the pressure that all developers are operating under. The study shows that 40% of all development projects in the country are running at least a quarter more behind schedule than was envisaged at end-2022. The number of new developments being started at all is down by 50% on last year.
Projects which HAVE been started still have financing needs, despite their much higher costs, and are now more than ever dependent on various forms of short-term bridge financing. In not a few cases, developers are practically forced to start on new projects in order not to miss out on certain subsidies - such as those from state promotional bank KfW - which would otherwise expire.
But without access to fresh borrowing, many developers have to find fresh equity capital, which for many is proving a huge problem. Without more equity capital, many banks won't even look at a proposal. 'Bought' equity capital, such as mezzanine, won't go far in swaying the banks either.
One way around this is to issue 'preferred equity', which is ranked behind bank borrowings but ahead of real equity in the financial pecking order. Or to bring in a joint venture partner on an existing project or team up with other developers on a new project, and have each contribute equity. For many, this is an undesirable option as it means profit-sharing and giving up control, which project developers typically try to avoid.
Michael Peter, founder of P&P Group
Inevitably the industry is headed towards a wave of mergers and consolidations, as the weaker firms get weeded out. We recently reported in REFIRE on P&P Group from Nuremberg, led by the ebullient Michael Peter. That kind of company is, we think, more likely than others to survive the coming 'market cleansing' or 'Marktbereinigung' better than others. Well-capitalised, mid-sized, with a long tradition of building in and around the Nuremberg area, and with deep connections to all manner of local building firms, as well as local financing banks.
Real estate professor Niklas Köster of the Fresenius Hochschule in Hamburg believes that this consolidation phase could see 20% to 30% of small and mid-sized developers disappearing from the market, in a process lasting for at least the next two years. These firms often have little or no reserves, nor any retained property assets from which they could at least generate cash flow. Köster says those most endangered are "those who pushed aggressively into the market in the last five years, paid too much for building land, and whose projects haven't even kicked off yet."
Research group Bulwiengesa's head of research Felix Embacher, said: "The problem for many developers is the mix of rising construction costs, high interest rates, lower sales factors to institutional investors and the reduced willingness of private capital investors to invest." As a result, he said, there has been a massive deterioration in loan-to-value (LTV) ratios - a crucial indicator in the industry on which financing terms depend. "If additional equity cannot then be provided, the entire financial and liquidity planning is in jeopardy," he said.
Smaller developers in particular are often financed in such a way that, although separate project companies are formally established for each project, the parent company ultimately finances itself with the available equity from project to project, he said. "In other words, if a project company is insolvent, there is no equity for the next projects." A situation facing thousands of developers right now.
Tens of thousands of small investors are likely to be affected by the latest big insolvencies. For example, Bavarian-based Project Gruppe has about 30,000 small private investors who have put in about €1.4 billion into more than 20 separate funds managed by the developer, committed to building turnkey residential and commercial properties. Project prided itself on deliberately steering clear of dependency on bank borrowing, but rather raising the necessary funding from private individuals through its funds. But it too got caught out by the steep jump in building costs which its potential customers couldn't afford, given their own financing costs.
Project's situation is critical but may be partly salvageable, according to Kanzlei Schultze & Braun, the interim administrators. The developer is currently working on 118 separate projects, numbering about 1850 apartment units with a volume of €3.2 billion. The administrators will have to figure out where the immediate priorities are to keep building to create the most liquidity, at the expense of other buildings.
A special website, "Interessensgemeinschaft Project Gruppe" has been set up to keep investors appraised of the latest moves to protect as much of their money as possible. Not an easy task, given the complexity of Project's fund structures across numerous projects and geographies.
The Munich-based high-end residential developer Euroboden has 50 separate subsidiaries, of which at least 25 represent active projects. The company has 47 full-time staff whose salaries are temporarily protected pending the insolvency administrators' examining of the books. Bond holders of two corporate bonds for €115m are staring at yet-to-be-determined losses.
Earlier this month the Düsseldorfer firm Development Partner filed for insolvency, citing liquidity problems. The insolvency administrator, Christian Plail of lawyers SGP Schneider Geiwitz, said in a statement, "Due to the long as well as ongoing critical market development, liquidity reserves have been depleted. Strong increases in construction costs, the high interest rates and the enormous reluctance of financiers to grant loans are all meeting with lower valuations of properties due to the market situation."
