City analysis: The battle over the real estate market

It’s property work, but not as we know it: fussier clients mean firms are having to redefine their offerings and there is still talk of the magic circle backing away

The real estate sector was hardest hit by the 2008 global crash, prompting scores of firms to reduce their involvement in the market until economic recovery got underway. The reawakening of the sector has been welcomed with caution on the legal scene. As with many other markets, clients are fussier about legal spend and, in response, firms are having to find new ways to stand out from the crowd. 

Croydon’s redevelopment plan

That said, there is fresh life in the market, reflected in growth for many in The Lawyer UK 200 top 15 real estate practices, buoyed by wider consolidation in the profession. Herbert Smith Freehills, for example, saw a 33.9 per cent jump in real estate revenues, from £40.1m to £53.7m, while at Pinsent Masons revenue climbed by 30.8 per cent, from £33.1m to £43.1m. 

The biggest loser of the year was Ashurst, where revenue fell by 23.8 per cent, from £38.6m to £29m.

And what of the magic circle? At the end of 2012/13 many in the sector were questioning whether Linklaters was really as committed to real estate as it professed to be. Many in the market maintain that this is the case but Linklaters, which saw real estate revenues stay flat at £54m for the past two years, insists that a newly invigorated debt market and a reduction in pure asset dealing has given it a bigger chunk of complex advisory work.

In-house counsel are getting tough on fees and creating competition by cutting panel places.

Pinsent Masons property head Adrian Barlow comments: “It’s a volatile market we’re living in and clients have less loyalty now – it’s all about service and price.” It is a common tale. “Lots of lawyers are chasing not enough deals, so there’s pressure on fees going downwards,” another partner says.

While tough conditions are a truth universally acknowledged, there is less certainty as to who will win out. Ashurst real estate partner Hugh Lumby reckons it will not be any firm in the magic circle which, he says, has lost its appetite for real estate work. 

“We’ve seen the withdrawal of the magic circle from the real estate market,” he suggests. “They’re looking at focusing on key corporate and finance clients and they don’t see the profitability in the real estate market.”

Another partner adds: “We’ve seen the magic circle back away from real estate to much more finance-driven practices.”

Of course, those in the magic circle reject such suggestions. 

“It suits Berwin Leighton Paisner [BLP], Nabarro and others to say the magic circle are backing away from the area, but what we offer is a skill-set that allows us to apply ourselves to the deals being made in the market at the minute,” one magic partner lawyer says. “To talk of real estate in terms of ‘I buy assets, I sell assets’ is a rather constrained view.”

So, this is the stall being set out by magic circle firms fighting allegations of irrelevance.

While the sector used to be defined by a steady churn of acquisitions and disposals across a range of industries, deals have become more about the transfer of complicated finance vehicles by overseas funds. A cautious marketplace has boosted activity in joint ventures in financial shares by an increasingly overseas-dominated cast list of sovereign funds, pension funds and insurance companies looking for safe real estate bets.

This is where certain magic circle firms with strong corporate finance approaches have thrived, including Clifford Chance, which made off with the State Oil Fund of Azerbaijan’s (Sofaz) first foray into real estate with an indirect investment in London’s St James’s Street for £177.3m. The firm clung to its spot near the top of the table this year with a steady real estate turnover of £74m split across 32 partners.

According to Clifford Chance real estate partner Mark Payne, “Sovereign wealth funds have been a growing force and of course they do huge deals and have a lot of money to spend, so you get wonderful high-value deals from them.”

The firm has acted for more than 10 sovereign wealth funds and is taking on several large contracts for new clients in that sector.

Clifford Chance also advised Hammerson on a joint venture with Westfield to redevelop two shopping centres in Croydon, with a team led by head of London real estate Jonathan Solomon, real estate partner Franc Peña and real estate counsel Sarah Thomas. The firm also fielded sizable teams from tax, corporate, employment and competition practices to supplement the team.

According to Payne, “The Hammerson deal was a perfect example of a 50/50 joint venture where the lawyers have to be able to move the assets, but also deal with all those corporate assets, and we do that within real estate.”

Those outside the magic circle, however, maintain this type of real estate work is shifting further into corporate finance and away from the heart of the biggest deals.

One, Nine Elms
One, Nine Elms

Distinguishing features

BLP saw real estate revenue decline by 2.3 per cent, to £60.6m, at the 2012/13 year-end, but the firm reckons it is well-placed to snap up instructions shunned by corporate-focused firms, despite a string of partner exits in the past 12 months. Overall partner headcount may have improved from 49 to 52, but this is not reflected in the figures. 

Real estate head Chris de Pury, who joined the firm this year, says BLP has restructured to differentiate itself. 

“The magic circle will do almost all corporate finance work and we’re competing hard with them, but go to the next level down and it’s development work, project regeneration and infrastructure work – that’s multi-disciplinary too, but in a different way,” he says.

BLP swiped a leading role in New York-based Ashkenazy Acquisition Corporation’s £105m purchase of London’s Old Spitalfields Market from Irish property company Ballymore. It also advised Ballymore on the sale in June this year, led by real estate partners Claire Milton and Bonnie Mahler, with fellow real
estate partner Marc Hanson advising on construction issues and Vicky Fowler on planning.

Another firm taking pride in its broad approach to the real estate portfolio was CMSCameron McKenna, storming to second place in the table this year and clinching two £200m transactions in the past two months alone.

The firm advised longstanding client Imperial College on a £900m project in Hammersmith while retaining a spot on the BT panel and taking on the mandate for the company’s redevelopment of Nine Elms in London.

“Market activity has increased, as has the interest in alternative assets – residential, particularly,” says CMS real estate head Mark Heighton says. “Energy and infrastructure-related work are growth areas too.”

Eversheds also picked up a raft of instructions on acquisitive asset management funds as well as more complex property vehicles. Profits were down slightly on 2011/12 to £75.2m, while revenue per partner fell from £1.5m to £1.4m, but the firm has worked on some of the key sector growth areas this year, with big mandates in energy, infrastructure and alternative asset work.

Eversheds sat at the top of the real estate rankings until the decision to include DLA Piper’s global revenue figures saw them pipped last year. With 153 global real estate partners and a real estate revenue of £184.8m, DLA Piper continues to be a much larger force than its competitors. But while DLA lost partners across the board and dropped its real estate contingent from 227 to 153, Eversheds held steady at 54 partners.

Legal & General continues to be Eversheds’ star client, but it has seen work flow in from investors, developers and occupiers. Real estate head Bruce Dear says the sector is all about having a “balanced scorecard”.

In one of its largest deals of the year the firm advised Segro in the £245.1m sale of its IQ Winnersh development to a joint venture between Oaktree Capital Management and Patrizia. Partner David Emberson led the team alongside Dear and senior associate Kate Anderton. The instruction was again the result of a panel appointment picked up in 2012. 

Circle line

But let’s not forget the magic circle. Linklaters has been making out with some very corporate real estate deals in 2012/13. Led by corporate partner Matthew Elliot, Canada’s public sector pension investment board’s (PSP) deal with Segro in June this year saw PSP put up €303m (£256m) of equity and Segro put up €974m of warehouse equity.

The magic circle firm was battling controversy, having taken a big hit to staff numbers. In 2012 the firm lost UK head of real estate Anne Byrne after the exits of real estate partners Joe Conder, Huw Baker and Julian Innes-Taylor and now has 21 exclusive real estate partners as opposed to 27 in the previous year. However, it claims the lines between departments are hard to draw.

Whether it is magic circle firms skimming corporate and financial practice work off the top of the market or silver circle firms wading into the ground-level fray, one thing is certain – client tactics are changing and lawyers need to be ready. High-speed buying and selling is giving way to a longer term gameplay, which could affect volume.

According to one magic circle partner: “One of the worries for the City is how much is overseas-owned and obviously the property market works on deal churn. I’ve heard it said that in another 10 to 15 years this could be a big concern for the market.”

Lumby adds: “Malaysian, Asian, South East Asian clients don’t really look at property as a physical building, they look at it as a financial product, a source of income, so a lot of these buildings are being bought by those clients for that income flow, and they probably won’t be selling the buildings for a long time. Volume in the City is being pushed up as they come in but whether that will lead to reductions in the longer term remains to be seen.”

So, the market may be waking up, but firms are yet to find their differentiating factor. Those that have secured top-level panel places in the past five years of turbulence will reap the rewards.

The debt boom

One of the biggest growth areas in the real estate sector in recent months has been the real estate debt markets. After a thorough bruising in the recession and a cautious five years following the sub-prime mortgage boom and subsequent bust, Continental Europe has crept back into the marketplace with a tranche of profitable loans for sale. 

According to Ashurst partner Hugh Lumby, “Spain has virtually no development work going on at the moment so the vast majority or work is investors into debt products,” while a magic circle partner says real estate debts are flowing in, “particularly from Germany”.

Germany, Spain, the UK and Ireland have accounted for the majority of real estate debt transactions, but it seems that an increasingly diverse range of clients across jurisdictions are willing to consider the sale of loans, and that these are no longer just mass sell-offs of loans backed by distressed properties plummeting in value.

German bank Commerzebank’s £4bn sale of property loans book to Wells Fargo, the biggest US lender by market value was an example of this trend. Irwin Mitchell acted for bank Wells Fargo on the real estate due diligence aspects of its £2.7bn purchase of the performing chunk of Hypothekenbank Frankfurt’s real estate loan portfolio. Allen & Overy also acted on the deal to co-ordinate the joint bid by Wells Fargo and Lone Star Funds, who acquired £1.3bn of non-performing assets. Dechert advised Wells Fargo on both the acquisition and the loan to Lone Star.


Movers and mergers

Two of the big moves in our table this year came from recently merged firms Pinsent Masons and Herbert Smith Freehills. Pinsent Masons sat at the bottom of the ranking last year, but now storms ahead with a real estate turnover of £43.3, after boosting overall turnover from £220.5m to £309.2m following the merger. 

While real estate saw a 30.8 per cent increase in revenue on the previous year, partner numbers also jumped from 35 to 46 so revenue per partner remained pretty constant at £941,000, compared with £950,000 the previous year.

Herbert Smith posted a boosted turnover after the 2012 merger with Australia’s Freehills. The firm’s revenues grew 40 per cent to £671.2m for the whole year. But the real estate partnership remained constant, hovering around 8 per cent of the total partner base and keeping real estate revenue a constant proportion of the total despite the apparent leap ahead.

Ashurst’s apparently dramatic tumble to the bottom of the table is down to a combination of factors – a slight downturn in real estate revenue as a ratio of the firm’s total and an overall revenue rise. While real estate revenue as a percentage of total turnover only dropped by 4 per cent, the revenue rise of £1m led to a 23.8 per cent drop and a plummeting ranking.

Top UK firms by real estate revenue, 2012/13

   Real estate turnover 2012/13 (£m)  Real estate turnover 2011/12 (£m)  Per cent difference  Per cent of total turnover 2012/13 Number of real estate partners  Revenue per real estate partner
1. DLA Piper  184.8  163.9  12.7  12  153  1.2
2. CMS  78.7  67.8  16.1  9.4  74  1
3. Eversheds  75.2  78.2  -3.8  20  54  1.4
4. Clifford Chance*  74  74  0  5.8  32  2.3
5. BLP  60.6  62  -2.3  26  52  1.2
6. Freshfields *  60  55  9  4.9  35  1.7
7. Linklaters*  54  54  0  4.5  21  2.6
8. Herbert Smith Freehills*  53.7  40.1  33.9  8.4  39  1.4
9. Hogan Lovells  50  52  -3.8 5  31  16
10. Pinsent Masons  43.3  33.1  30.8 14  46  0.941
11. Allen & Overy  40.4  40 1  3.4 40  1
12. Taylor Wessing  39.4  42  -6.1  17.29  57  0.691
13. Wragge & Co 36.2 35.5 1.8 30 28 1.3
14. Nabarro 36.1 35.2 2.4 31 28 1.3
15. Trowers & Hamlins  33.7  29.9 12.7  43  54 0.624

* Estimate