Wednesday, August 27, 2008

Romania: Mounting Pressure

Oxford Business Group Latest Briefing

As real estate sectors in various parts of Western-Europe are suffering from the sub-prime aftermath, hopes have been high for the resilience of the housing boom in Romania, among other Eastern European countries. However, various parts of the market are facing hard times.

With sales slowing down or coming to a full stop for many of the ongoing developments in the country, particularly in and around Bucharest, industry insiders are foreseeing a slowdown in the residential real estate market for the coming 12 to 24 months.

"Due to rising prices and compressed profit margins, speculative investors, representing 40% of total demand up until the end of 2007, have disappeared from the market. The remaining 60%, consisting of end-users, are facing difficulties in obtaining mortgages due to tighter rules following the global credit crunch," Radu Lucianu, managing partner at CBRE-Eurisko, one of the country's leading real-estate consultancies, told OBG.

Despite his belief that the global financial crisis has only marginally affected the Romanian financial system, clients have been hard hit by more rigid requirements such as advance payments, increased collateral and higher interest rates.

In some cases, this has led to cancellations of residential projects. Both Energoconstructia, one of Romania's leading construction companies, and Sonae Sierra, a Portuguese developer that has teamed up with with Irish investor Caelum Development, have decided to cancel residential projects due to the pessimistic outlook. A similar trend, though more measured, can de identified in the retail segment. Rising land and development prices, fierce competitiveness and a risk-averse financing climate, are forcing some developers to either opt for smaller size projects or abandon the project completely.

"Many of the projects that can be executed according to initial plans are likely to face a delay in completion as the funding will come more gradually than initially expected," Razvan Gheorghe, managing director at Cushman & Wakefield Activ Consulting, the Romanian subsidiary of global consultant Cushman & Wakefield, told OBG.

These concerns were echoed in a report recently published by PriceWaterhouseCoopers stating that "the Romanian retail segment is in need of a correction and should be avoided by investors." The report specifically refers to "developments in secondary locations with little infrastructure and highway access."

As the wave of retail development is reaching medium and smaller-sized towns, industry insiders are waiting to see the validity of the report's predictions. On the other hand, as Gheorghe stated, "the country has a lot of catching up to do in terms of retail space per capita ratio (measured in Gross Leasable Area per 1000 inhabitants), which is only 20.9% of the EU-27 average. Current projects are merely catering to demand."

Having said that, Romania is one of the biggest domestic markets in Eastern Europe and with disposable incomes rapidly increasing, the outlook for development of retail space looks fundamentally positive.

Investment in the Romanian commercial property segment in the second quarter of the year grew by 18.6% year-on-year to 696m euros, compared to 119m euros in the first quarter. These figures clearly show that Romania is outperforming neighbouring countries such as Hungary, which registered investments of 15m euros in the second quarter, the Czech Republic (141m euros) and Bulgaria (251m euros). In fact, Romania is ranked among the only four European countries - together with Russia, Belgium and Denmark - that have experienced growth during this period.

Despite these impressive achievements, Costel Florea, head of Capital Markets, Cushman & Wakefield Activ Consulting, stated in a recent industry report that this growth is attributable to deals that have been initiated last year and that this year's investment funds are taking a bearish attitude. This is partly due to the increased cost of financing, which reduces profit margins and, resulting turn, investors' interest. Florea forecast that sales prices for commercial properties will be lower than in 2007. The results of this downturn are expected to be visible in third quarter-results, which are expected to be weak, according to the report. Meanwhile, industry analysts expect transactions to pick up again in this year's last three months.

On the other hand, logistics and warehousing are holding up well. In a separate report by Cushman & Wakefield, Romania is ranked 13th among Europe's 25 leading performing countries in this segment of the market. Romania proves to be highly competitive in this regard, mainly due to the low rents in the industrial/logistic sector (48 euros per sq metre per year) and the low costs of the labour force. The growing volume of freight transiting through the port of Constanta

Despite a somewhat gloomy outlook for some segments of the country's real estate market, analysts expect a long-term sophistication of both the industry quality levels and the regulatory framework, eventually leading to a stronger, more mature market. Underlying this is the ever-pressing need for infrastructure development, which is hoped to take off sooner rather than later.
- it has increased by 277% in the past three years - is an important driver of this development.

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