Charles Kingston, CEO & Editor, REFIRE Ltd.
If there is one group of workers likely to be having an unsettled Christmas this year, it is the employees of department store chain Galeria Karstadt Kaufhof. Having survived two stays of execution over the past two years, thanks to government injections of nearly €800m, their fate is likely to be sealed come next February.
GKK belongs to Signa Retail Selection AG, a subsidiary of the now insolvent Signa Holding Group. The race is on to ring-fence whichever of the hundreds of companies within the Signa Group can be decoupled from the rapidly-melting parent company, to have a chance of finding a buyer on their own merits.
The Galeria stores have long been a critical magnet for attracting consumers into downtown shopping areas. That's despite the long-term decline of the big department stores, whose market share of 13.5% in the 1970s now only makes up a paltry 1.5% of spending. We report in this issue on a study by James Cloppenburg Real Estate, the owner of many Peek & Cloppenburg fashion stores in German downtown shopping districts, showing just how much the downtowns need transformation to attract back the high-spending punters. They've been staying away since COVID, replaced by thriftier shoppers. The loss of neighbouring Galeria stores won't make that cause any easier.
The days - not so long ago - when large foreign or domestic predators would have swooped in to snatch a beleagured German retailer with the clout of the old Karstadt or Kaufhof name and their prime downtown locations, are sadly over. The attempts to salvage GKK as a going concern, after the closure of 40 stores and the write-off of more than €2bn in debt in the last two years, have this time almost surely run out of road.
The fate of the stores is part of a tortuous cycle, whereby by paying higher than market rents to their landlord - yes, the same Signa Group, but this time the property-owning part of the enterprise - the holding company could artificially raise its valuations and borrow billions more against the magically-improved collateral. This absurd logic is the direct cause of Signa's implosion in a changed interest rate environment. Most banks would be averse to propping up the ailing and tainted retail division, when it may be nursing losses on its lending to the physical store, now shrinking daily in value. It's not going to happen.
There is, however, some good news. German bank lending in the third quarter was marginally up on the previous quarter, according to the Pfandbrief-issuing association VdP and the industry index Difi. This would seem to reflect investment in residential, particularly multi-family housing, to take advantage of lower prices, and the perception that interest rates have plateaued - at least for the moment. The VdP's boss Jens Tolckmitt describes it as pointing to "a slight stabilisation of the financing market".
It certainly does look a little more stable for Mr. Tolckmitt's members, who can selectively withdraw from the frontline of lending while storms rage around us. The heaviest losses so far have been taken by the developers with their equity capital, and mezzanine investors, many of whom are facing wipeouts. The big lending banks themselves (apart from those, of course, exposed to Signa) have so far largely been able to contain their losses. If anything, the higher interest rate regime has been rather lucrative for the banks, many of whom are enjoying record profitability.
Still, they DO need to be lending money to real estate. Last year 40% of all bank lending was mortgage lending to private individuals. The margins are low, but lending against private property in Germany is not that risky, given the relatively low LTV ratios.
As for the rest of us, we'll need all the stability we can get next year, as more developers hit the buffers and the 'market adjustments' continue to extract their painful toll.
Already more than one in five of planned residential units for 2024 has been cancelled, while the figure for 2025 is an eye-popping 38%. Two-thirds of the 3,000 housing company members of national organisation GdW won't be building ANY new 'affordable' housing in the next two years. We're hearing of more companies that are already putting employees on "short-time working" as the construction sector reduces its capacities and qualified staff start looking for jobs elsewhere. We know how this ends - as with COVID and the hospitality industry, when the crisis was over the workers didn't return. Those who do, demand higher wages, adding to the upward cost spiral, and cancelling the benefits of now-lower commodity and building material prices.
And this is for housing, where there is proven enormous demand. As industry veteran Dieter Becken recently reluctantly concluded, it now looks as if the industry can't trade through the crisis to resolve its problems. A gap of two million housing units is opening up over the next two years, by his reckoning. Only outside help can now ride to the rescue.
But where is this help going to come from? The government coalition in Berlin has just woken up to find that €60 billion that they had planned to start spending on infrastructure repairs and all manner of climate, industrial, building and housing subsidies, has suddenly evaporated into thin air. We're good till the end of 2023, they say. After that, we'll have to see.
Well, excuse me, but it's nearly Christmas. Like, do we still have the €10bn in subsidies committed to chip-maker Intel to open its promised factory in Magdeburg, along with the €5bn to bring Taiwan's TSMC to Dresden? Who knows? Here at REFIRE, we certainly don't.
At some point, the market will crawl back to life, probably at interest rates of 3-4% for the next five years. For developers, the high margins and yields of 20-30% are history, gravitating to the 8-12% that was the long-term norm. Those who can, will take over crisis-ridden projects of fallen colleagues, helping investors to salvage anything workable from the half-finished ruins dotting Germany's cities.
There'll be no shortage of work over the coming years. A new breed will rise from the ashes. Hardened ex-developers will become consultants on stranded assets, advising banks, bondholders, pension funds and insurers how to get those projects finished or repurposed. They'll be busy in meetings with another burgeoning cohort, all the ex-brokers who are now ESG consultants, showing us how to comply with Germany's ever-receding - but still brutally ambitious - climate goals. 2024 promises to be a year that tests our fortitude. At REFIRE, as always, we'll still be focused on identifying opportunities for those who can avail of them.
