Highway to heaven?
Among emerging real estate asset classes, motorway service stations is at the more obscure end of the spectrum. But as investors search the globe for new and unusual asset classes in their never-ending pursuit of diversification and enhanced returns, this fledgling sector does occasionally pop up on the radar screens.
Some pension funds have explored the options but most are watching from the sidelines. For now, private equity players are expected to dominate although farther down the road the sector could be included in an umbrella portfolio of alternative real estate asset classes.
ATP Ejendomme, the real estate arm of ATP, the €51bn Danish labour market pension fund, is a case in point. The fund has not considered investing in motorway service stations but it is not discounting the possibility in the future.
Michael Nielsen, managing director of ATP Ejendomme, confirms that while there are no immediate plans to invest in motorway service areas, it might do so in three to four years time. "At the moment our investment strategy is focused on traditional office and retail real estate as well as segments such as residential and logistics. We have not yet investigated any opportunities in this area and any investment would depend very much on the lease structure, the rationale and environmental issues."
The same applies to ABP, Europe and the Netherlands's largest pension fund with €209bn in assets under management. In its new three-year strategic investment framework, the fund is setting aside 2% of assets for global infrastructure. Although it too is not looking at motorway service stations, a company spokesperson said they might be considered if one is included as part of a toll road package, for example.
According to Maarten Thissen, an analyst with DTZ, a UK-based global real estate advisory firm, there have only been a handful of deals involving service stations over the last six years and they have mainly been in the private equity sphere. One of the first deals of note was in 2000 with the £300m (€450m) sale of 180 petrol stations by Shell to the Octane Partnerships, the first venture between London-based property managers Rotch and London & Regional. This took place during a period when several large oil companies were disposing of their property assets and concentrating on their core businesses. Octane realised its investment early last year when it sold the business to The Englander Group, a north London-based family trust, for £460m.
Another innovative deal two years ago was Terra Firma Capital Partners' €2.1bn secondary buyout of Autobahn Tank & Rast from Apax Partners, Allianz Capital Partners and German airline Lufthansa. The trio, which had bought the 380 service stations and 340 petrol stations in a German government privatisation programme in 1998, decided not to float the business. Terra Firma refinanced the company's debt at a lower rate of interest and managed to get it classified as an infrastructure project instead of a leveraged buyout.
More recently, there has been a lot of activity brewing in the UK among the three main contenders who have a lock on the country's motorway service network, with 90% ownership between them. Last April, Compass sold its Moto service station and Upper Crust food chain to a consortium led by Macquarie Bank in a £1.8bn deal.
The price tag of about £600m for Moto's 43 service stations was far higher than the market expected and broke the ceiling on valuations for companies in the sector. In fact, Autogrill, the European food giant controlled by the Benetton family, withdrew from the bidding because of the lofty pricetags being bandied about.
The Moto deal, however, was considered good news for its two principal UK rivals - Roadchef and Welcome Break, which are currently on the auction block. Delek, an Israeli group, which is worth about $1.9bn (€1.4bn) and is listed on the Tel Aviv Stock Exchange, is in discussions to buy RoadChef for £450m from Nikko Capital Investors, while Robert Tchenguiz, a property tycoon, is expected to put a portfolio of nine Welcome Break motorway service stations on the market for an estimated £365m.
The operating business of Welcome Break is still owned by Investcorp, the Bahrain-based investment group, which sold the nine properties to Tchenguiz, as part of a rescue package in June 2004. Tchenguiz and Royal Bank of Scotland, his partner on the deal, paid £270m for the assets through a sale-and-leaseback deal. Investcorp is now considering selling the remaining 15 service stations and is in early stage discussions with potential buyers.
It may be hard to believe that some of these service stations are such coveted assets for the private equity firms. Their image often tends to be of dingy, dank places with overpriced, poor quality food and drinks. This is despite the fact that over the past five years, operators in the UK have poured tens of millions of pounds to upgrade facilities and attract brand name operators such as Marks & Spencer, Costa Coffee and Starbucks. Their aim was and is to increase the spend of each visitor, tempting them with coffee or a retail purchase.
According to Simon Galway, senior director at CB Richard Ellis's petroleum and automotive services global corporate services, it is the potential turnaround situation and steady cash flows that has attracted private equity firms, who are looking to exit within three to five years. Institutional investors, on the other hand, could enjoy the long leases - typically 30 years - and strong rental income, particularly from a refurbished site with household name shops.
As Jonathan Knight, a UK fund manager with ING Real Estate Investment Management, notes "We like the sector as an alternative asset since sale and leasebacks/sale and manage backs offer long-term rental contracts, relatively secure income and the supply of the asset class is limited by planning constraints. They would particularly suit investors looking for annuity type income. The operator quality is key and also understanding whether the investor, in the event of operator default, can look through the operator to take rental income from concessions such as an M&S Simply food outlet or the petrol forecourt operator."
Despite these benefits, ING has decided to turn its attention to the alternative sectors of healthcare and nursing homes. "We took a long and hard look at motorway service stations 12 months ago when they looked more attractive. Today they look expensive and we believe that other sub-sectors may offer better returns and more opportunities."
AXA Real Estate Investment Management is also looking in this direction and may in the future include motorway service stations in a larger portfolio of alternative real estate assets. Anthony Shayle, head of business development and marketing at Axa, believes one of the biggest challenges is finding the right assets. "The UK is the most developed market but it is dominated by three main players while the continent is much more fragmented, with several smaller operators."
In other words, supply is restricted on both sides of the Channel plus it is hard to persuade the operators in Europe - many of which are family run - to sell. In the short term this scenario is unlikely to change. For example, in the UK, until 1992 service stations had to be 30 miles apart but the change in the law to 15 miles has not prompted a new wave of building. This is because few local authorities have given their approval for new sites.
Currently, the Highways Agency in the UK is inviting all and sundry - motorists, businesses and other interested parties - to contribute to a consultation about improving service stations. The first service stations were opened in the 1950s with the advent of the motorway, but the reams of regulations accompanying them have barely changed in 50 years.
Although open to suggestions, the government is adamant that these stations will not become destinations in their own right because if they do the roads will become more congested and businesses located near the motorway will suffer.
Moreover, motorists should not expect the ban on alcohol being sold to be lifted due to fears of drinking and driving. As for the inflated prices, the government does not plan to introduce any measures of pricing policy at motorway service areas. This will remain a matter for individual operators, who not surprisingly, seem happy with the status quo.
An inquiry by the Office of Fair Trading in 2000 found high costs being charged to motorists were due to high infrastructure costs, such as maintaining entry roads and car parks, as well as servicing public lavatories. It found no evidence of excessive profits or price-fixing. The one area which might see change is the amount of retail space permitted. At the moment, there is a 5,000ft2 limitation but the consultation paper does mention the prospect of raising this to 10,000ft2. Operators could only look with envy at Henry Boot Development's redevelopment of the 50,000ft2 site, including 30,000ft2 of retail space in Ashford. It is one off and not a sign of the government's willingness to create new mammoth rest stops.
A spokesperson for the developer says, "It is not technically a service station but a port early arrival terminal as it is only two miles from the Channel Tunnel Rail Link terminal and 12 miles from Dover's ferry and Hoverspeed terminals. It was not an easy deal to do and took five years plus of negotiations. However, I do not see the space increasing substantially at motorway service stations. The challenge for operators is to use the space more creatively."