Soaring vacancies in German retail fuel debate about alternative usage

While the dilemmas being faced by large retailers in highly-visible retail locations like shopping centres have been well documented, the fate being suffered by less well-known retail names, particularly in small and medium-sized German towns, is of an even greater magnitude. Their difficulties are leading to significantly higher vacancy rates.

The German Real Estate Association (IVD) has just published figures highlighting the problem. The vacancy rates in medium-sized towns of 50,000 to 100,000 inhabitants have increased the most since the beginning of the Corona pandemic, by almost 27%. In small towns with up to 20,000 inhabitants, the increase was 25.4%.

Given that, at the same time, residential real estate has seen a strong increase in demand for single-family homes, IVD addresses the question as to whether such vacant retail space could feasibly be converted into residential space.

In small and medium-sized towns, around 15% of shops in 1-A locations are currently vacant, while in the respective 1-B locations the vacancy rate is as high as 25%. About a third of tenants are also in arrears on their rent, exacerbating the problem faced by many retailers. The survey respondents made it clear that they don't view the problem as just temporary, with two thirds of them viewing the situation as permanent. They too are questioning the feasibility of converting shop space into residential space.

IVD's view is that, in the A-1 locations, the vacancy rate is not a structural problem, likely leading to permanent vacancies. The space will be relettable again after the pandemic, albeit at rents lower than pre-COVID. Individual tenant demand for space is also likely to be lower.

However, in B- and C-locations, demand and vacancy rates are exposed to structural vacancy, likely to be irreversible, and hence conversion to living quarters might well be feasible, and where there is already residential living at ground floor level.

IVD president Jürgen Michael Schick commented: "Landlords must be enabled to convert retail space accordingly. At present, however, building regulations in particular stand in the way of this. Conversion requires a building application and thus compliance with current building law, which is difficult to implement economically. The building regulations of the Länder should take this aspect into account and create exceptions in favour of housing. The granted building permit should allow a return to commercial use without violating any misappropriation clauses. This could be done via a revision clause that makes it possible to return to commercial use after the termination of a residential lease."

Several experienced retail hands are already looking at the potential that may arise in the light of these structural changes. We reported a couple of months ago here in REFIRE about pan-European investment manager Peakside Capital Advisor's new PREF IV closed-end fund, which has already raised €160m and is focused on picking up on cancelled deals and auctions arising out of the market disruption caused by the COVID-19 crisis.

Peakside founding partner Boris Schran said that while the main focus of the fund was on logistics and residential, "At the same time, we are expecting several opportunities coming out of market distortions in the wake of the Covid-19 pandemic, particularly in the retail and hotel sectors, and specifically for assets which lend themselves to conversion into office or residential use.

At a recent online conference organised by RUECKERCONSULT to examine options for the retail sector to transform itself for the future, the moderator Martin Mörl of Girlan Immobilien, a veteran of retail wars from years with Prelios and Pirelli Real Estate, commented: "In the years to come, we will see numerous retail venues now obsolete switch to alternative or new uses – a process that holds a promise of huge opportunities, too. The floor space potentially vacated, for instance in department stores and commercial buildings or shopping centres could give new, small-scale and popular use types and product ranges a chance to return to inner cities. Formats that come to mind include housing, micro-logistics, healthcare, services, offices and public uses, but also innovative retail and gastronomic concepts."