Red tape – The elephant in the room

GRI Club Portugal 2019

Property developers, investors, fund management companies, associations and banks met together for the 1st Portugal GRI Club 2019 real estate event in Lisbon in May. The take-home is that Portugal still has a lot to offer for new international investors, but planning permission and bureaucracy remain a problem

After years of recession, Portugal is now centre stage when it comes to real estate investments in Europe and a major investment destination for international real estate players.
But the question is, should local developers and global investors partner to navigate through supply and demand challenges, not to mention reams of red tape, especially in core offices and new-build residential projects?

Local partners — is it easier?
One local partner with a lot of experience in real estate investment and which has brought a lot of money to Portugal addressed how they “sold” Portugal as an investment destination and the advantages it offers to overseas investors in the market.
In general terms, when a foreign investor decides to invest in real estate, either they set up their own structure or they sub-contract to a partner – both with advantages and disadvantages.
Sub-contracting to a local partner is a quicker and more reliable road to success because that partner already has local market knowledge. However, if setting up their own structure, the investor needs to hire the right people with the right knowledge and connections and, most importantly, most overseas investors in Portugal – often private equity funds — must secure and have access to their funds when they want to exit.
If on setting up your own structure, you want to exit the market and close the structure, local labour laws can make this difficult. Therefore, sometimes it is actually cheaper and more efficient to sub-contract to a local partner.

Regulated or non-regulated
A second option is to hire a regulated company as a local partner or sub-contract to a non-regulated company.
With a local company, heavily supervised by the Bank of Portugal and the Market Securities Commission (ensuring compliance, internal audit, risk management and data protection), this can make projects complicated and, in fact, some non-regulated companies have an easier time because they are not regulated.
It is also important to understand that investing in real estate has two main components: the rational and emotional.
The rational side means having all the expertise when dealing with local laws and local taxes.
When investing in other asset classes, like capital markets with data, you can invest almost everything by computer.
On the other hand, with real estate, local expertise is required because tax regimes are not the same in all European markets and the laws, too, are not equal, so real estate investing and developing can be a nightmare when going it alone. A good example is Russia where, 20 years ago, an investor would have never invested without a local partner.
On the emotional side, in real estate you are dealing with people. It is not a deal you can close using a computer, so it is important to access the best deals and solutions at the best price. If going it alone, the investor may end up purchasing at a higher price and selling at a lower price. Local partners know the players and the market sentiment, which makes the process easier and more efficient.

A relationship-based market
Portugal is a very relationship-based market, where local people with local knowledge and local contacts are important when getting started – in finding the right price and understanding the competition.
All these factors have a direct impact on the value of the real estate asset during the acquisition and project phases.
Whether you have a very strong focus on operating as a private equity player and both invest and develop, co-investing with an international partner takes on an increasing point of relevance from a local operating partner standpoint, in being able to offer a good level of support and expertise.
There is a lack of co-investment in the Portuguese market and if local operating partners can offer co-investment and provide trust, confidence and reliability, this will put an increasing value on the appetite and capacity to co-invest.
When discussing regulated and unregulated options as a private equity developer and, in particular, a developer with a GPLP structure [a private equity firm is called a general partner (GP) and its investors that commit capital are called limited partners (LPs)], it is important that the GP has the best interest of the development and LP investor at heart when dealing with other people’s money.

PPP – State involvement?
There is an argument that the State should be open to co-investment with any project that brings value to the table.
However, there have been cases in the past where partnerships between the State and co-investors did not go as planned because the financing was either not well-structured or there was not an alignment of interests.
One opinion is that such projects involving the State should be the “exception rather than the rule”, favouring instead either entities developing projects by themselves or in partnership with investors.

International investor expectations
When international investors look for a local partner for a real estate project, track record and experience are vital, as well as the ability to execute the articulated strategy. In terms of alignment, it is a question of what is meaningful and challenging regarding real money, which might not be in terms of a percentage but more in terms of demand.
Many investors feel that since they are dealing in overseas markets where they do not have the on-the-ground expertise, local partners are crucial for the success of their investments, particularly in a joint venture where material co-investments are important to the operator so that, if things do go wrong, the liability and solutions are spread.

Stepping in alone
But what do international investors find are the main challenges when entering the Portuguese market? Is it fiscal policy, finding opportunities, the legal system or even the language?
Again, it seems important for non-Portuguese investors to partner with locals who know the market, have local knowledge and understand the history of the real estate market in Portugal. This means knowing how the market has developed over the past 20 years, what were the crises and why they happened. A local partner who has this knowledge can measure the risk in the market and mitigate accordingly.
And Portuguese law is, after all, notoriously complex, with many investors not understanding why they need to deal with middlemen to achieve their aims.
The kind of risks involved also have to be taken into account. If you have local planning risk, then having a local partner is advisable to navigate the planning permission regulations and laws.
Here a lawyer might not suffice alone, other than in offering technical advice. They might or might not be able to get you to see the right person at the local council. On the other hand, if you only have commercial or letting risk, the investor may be able to do it on their own using a local or international project manager.

The elephant in the room
The fact remains that getting planning permission in Portugal from local authorities continues to be a problem, with licensing taking up to 18 months or even two years to obtain, unless you know the right person.
In all discussion on property development, either with local or international investment and with or without partners on the ground, the “big elephant” is bureaucracy, particularly in the local councils as well as the question of the laws themselves being so complex.
One solution to this constraint is, therefore, to find a local partner who will have more experience in dealing with such “red tape” problems.
For now, it seems a necessary evil, but if the Portuguese real estate market wants to continue to attract more investment in the long term, the problem of bureaucracy, complicated legislation and lengthy planning permission procedures needs to be solved quickly.

Editor’s note: The Portugal GRI Club 2019 two-day real estate event operates under Chatham House rules, therefore, to protect the anonymity of the speakers, Essential Business cannot reveal the specific names or companies which reflect the ideas and opinions voiced in this article.
The entities represented were: JLL, Round Hill Capital, Norfin, ASG Iberia, DeA Capital Real Estate France, Abraaj Capital, Mexto Property Investment, Allianz Real Estate Iberia, Century 21, RPM, Morgan Stanley, Gladia Capital and Ibero Capital Management among others.

Text Chris Graeme