Council enters hotel business in investor-backed income strip deal
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A London borough has agreed an innovative lease deal, predicted to earn it £600,000 a year – and leave it holding the freehold of a central London development site worth almost £100m.
London Borough of Barking and Dagenham’s cabinet this week agreed plans to enter into a 50-year lease arrangement with an institutional investor who is set to own a new “aparthotel” in Aldgate.
The council will provide a guaranteed income stream to the new owner while sub-leasing the building to a hotel operator, with the council pocketing any difference.
A report to cabinet said: “This council would retain a profit rent to reflect rental obligation required by the institutional investor and any index uplifts will be mirrored in the aparthotel operator’s lease to ensure the profit rent margin increases at the same level.
“The council will receive the freehold of the property at the end of the headlease period which GVA have advised is currently valued at £94.6m.”
The aparthotel, which is currently under construction, is aimed at meeting demand from business visitors to the City of London.
According to the council, the overseas investment fund which currently owns the site will continue to take all construction and development risk until the building is completed in November.
At this point, it will sell to another institutional investor, to which the council will make guaranteed lease payments over 50 years.
The cabinet report explained the deal, saying: “A key investment objective of the institutional investor in purchasing the asset is to create stable and low-risk long-term returns to pay future pension liabilities.
“Such investors commonly aim to reduce their income risk by seeking to insert an intermediary tenant (in this case the council) to sit between themselves and the ultimate occupational tenant and who has a better credit rating than the occupational tenant.
“In return, the intermediary tenant receives a profit set at a level commensurate with the level of risk transferred.”
At the end of the 50-year lease term, the site will be transferred to the council for a peppercorn fee.
The site would present the possibility of redevelopment for commercial or residential uses, the cabinet report said.
The building has been designed to allow for the possibility of future conversion to alternative uses in the event that the aparthotel operator defaults on its lease payments, the report said.
The aparthotel sector – which provides extended stay accommodation for guests – is gaining increasing interest from institutional investors, with investment company LaSalle Investments having bought six facilities in London in the past year.
The council said it would hold the new property in the commercial asset class of its investment and acquisition strategy.
The strategy, approved by the council’s cabinet in October allows for the creation of a property portfolio, targeting an initial revenue return of £5.2m by 2020/21.
Set up costs and stamp duty incurred by the council up to an agreed amount will be funded by the institutional investor.
