Real Estate Portfolio Matrix - For Most Objective Real Estate Investment Decisions Making

Navigating the dynamic and often turbulent waters of the real estate market presents a formidable challenge for investors and corporate entities alike. In an environment marked by economic uncertainties and shifting market conditions, the ability to make effective and strategically sound property investment decisions is paramount. Analysts and executives are constantly seeking innovative methodologies to optimize their investment and divestment strategies, aligning them meticulously with predefined strategic requirements and preferences.

To address these challenges, this article introduces a novel analytical tool: the real estate portfolio matrix (REPO-M). This innovative model for property portfolio assessment draws inspiration from the well-established concept of a growth-share matrix, originally developed by the Boston Consulting Group (BCG)

1. Limitations of Traditional Real Estate Analysis

• Making effective property investment decisions has become very difficult due to turbulent economies and dynamically changing real estate market conditions.
• This is particularly challenging for corporate entities with large, heterogeneous property portfolios who do not primarily invest in real estate.
• The specificity of real estate appraisal and analysis may be difficult for non-specialized owners to grasp.‍
• Traditional classification models based on geographical location and sector do not fully consider asset-specific characteristics and are not ideal for portfolio optimization
• The real estate market has inherent features that make investment strategy development challenging .
• There can be a plurality of opinions regarding the objective function of a real estate portfolio and the criteria for asset selection. The goal of real estate management is to balance risk and returns.‍
• Information flow within the real estate market can significantly influence decisions Information asymmetry is a key factor influencing investment strategies.The real estate market can exhibit informational inefficiency and high information variance due to factors like heterogeneity, low liquidity, market segmentation, and high transaction costs.This inefficiency aggravates the problem of asset selection and portfolio management, especially the trade-off between diversification and specialization.

2. Introduction to the Real Estate Portfolio Matrix (REPO-M)

REPO-M is designed to facilitate the structural analysis of real estate portfolios. It aims to help tailor investment strategies suitable for various types of investors .The BCG matrix is a well-known tool for companies to reassess the positioning of their products or services and optimize their portfolios. REPO-M adapts this concept specifically for the real estate market .

It recognizes the need for corporate entities and individuals to optimize their real estate portfolios in line with their business strategies .

3. The REPO-M Concept

The core idea is to measure a property's potential to generate positive cash flows over a specified holding period (typically 5-10 years).

• It also considers the potential for value growth arising from factors like development potential, effective management, and favorable market changes .
• REPO-M replaces market share (used in the BCG matrix) with the asset's value growth potential as a better indicator of market opportunities.

Two primary qualities of properties are used for assessment:

• Their potential to accrue value over the holding period.
• Their ability to generate stable positive cash flows.

These two dimensions are used to assess individual properties and identify subsets to meet the preferences of different investor groups .

Depending on the property's characteristics, both measures are assessed using multiple criteria. These criteria can be grouped into two basic categories

• ‍Internal factors: Related to the property's inherent qualities and characteristics.
  • Profile and characteristics of existing tenants.
  • Termination date of existing lease agreements (WAULT)○
  • Existing lease agreement provisions (rent indexation, termination dates)
  • Ability to sustain competitive service charges.
  • Technical wear and tear of the buildings .
  • Prospective changes in property value from management or improvements.
  • Opportunities related to alternative usage (highest-and-best use).
  • Possibility of resolving ownership or legal problems.
  • Size/shape of land property value with compatible sites.‍
• External factors: Reflecting changes in the external economic environment
  • Availability of competitive buildings/projects .
  • Potential legal changes affecting after-tax financial results.
  • Financial stability of existing tenants
  • Changes in the economic environment (debt financing market).
  • Prospective economic development of the region.
  • Prospective changes in zoning plans/land uses.
  • Prospective changes in transportation infrastructure and accessibility.
  • Prospective changes in property visibility.
  • Possibility of emerging competition.
  • Prospective changes in the office/retail rental market.
  • The asset's attractiveness can be assessed qualitatively or quantitatively depending on data and preferences.
  • Analysts allocate the property into one of four fields of the REPO-M analytical space, representing combinations of cash flow and value growth potential.
  • The position of properties can be presented as circles of different diameters, with size corresponding to the property's value, allowing classification based on investor buying potential.
  • Due to the heterogeneity of real estate assets and the multitude of determining factors, quantitative methods have limitations, and expert appraisal may be a valid option.

4. Application of REPO-M

REPO-M establishes a foundation for specific investment decisions :

• Acquisition/disposal of real estate assets.
• Overhaul of asset management strategies.
• Further development of existing or future properties. It can serve as a complementary analytical tool in real estate valuation, which is often done using the discounted cash flow (DCF) methodology.
• While DCF provides a stand-alone quantitative appraisal, REPO-M ordinally positions and ranks assets within a portfolio.
• REPO-M offers a unified approach to blend asset evaluation criteria across property types and geographies.
• It is primarily a decision-making tool for analyzing and optimizing real estate portfolios by synthesizing qualitative and quantitative information.
• Applying REPO-M to the Polish commercial real estate market (2009-2016) revealed the prevalence of core investments in terms of both number and value of transactions‍
  • Value-added investments represent a smaller market segment but offer diversification opportunities‍
  • Speculative assets appear to be scarce, which is typical of the current real estate market phase
• REPO-M can help investors optimize portfolios by allocating resources to assets best suited to their risk-return expectations and selling non-complementary assets.
• It can contribute to improving the allocation efficiency of the real estate market.
• The framework can be applied to individual portfolios to assess investor profiles and preferences and develop suitable investment strategies.
• It can help discover investment patterns and analyze prevailing market trends.
• Transactional data analysis can demonstrate investors' preferences regarding the risk-return trade-off (core vs. value-added) and their propensity for diversification.
• Expert appraisal (Delphi method with a panel of real estate brokers) was used to assess properties, demonstrating it as a valid alternative to purely quantitative techniques.
• Probit regression analysis confirmed that income sustainability and value growth potential are valid predictors of property categorization as 'core' and 'value-added'.

5. Target Users and Potential Applications

• ‍Less specialized or more diversified investors are favored by the design of REPO-M.‍
• Specialized investors are corporate entities or individuals for whom real estate is a core business activity (e.g., long-term capital investors, developers).‍
• Large institutional real estate investors (life insurance companies, pension funds) may use REPO-M to aid diversification across property types to enhance portfolio efficiency and returns.‍
• Real Estate Investment Trusts (REITs), which tend to be more specialized, might use
• REPO-M to track the balance between risk and return when engaging in capital recycling (moving from older to newer assets).
• REPO-M can be used to identify the highest and best use of underperforming assets or those nearing the end of their commercial lifecycle. This is attractive to capital investors shifting focus to development due to acquisition shortages .‍
• Companies that own real estate but are not specialized investors (e.g., industrial companies) can use REPO-M, alongside conventional valuation, to manage their portfolios and identify divestment opportunities for underperforming assets.

An example is a telecommunication company disposing of redundant network installation properties.

REPO-M may become particularly useful for this category of users due to changes in International Financial Reporting Standards and Generally Accepted Accounting Principles regarding freehold assets.

In conclusion, this article introduces the real estate portfolio matrix (REPO-M), a novel framework for assessing real estate assets based on the two-dimensional growth-share matrix concept . We have tried to outline the steps required to evaluate a portfolio of real estate assets from the perspectives of diverse real estate investors. The described approach holds applicability across all segments of the real estate market, provided that the assessment criteria are appropriately tailored to the specific property type and its unique characteristics. The decision matrix facilitates clearer decision-making in a complex and often subjective market, providing a tangible framework that simplifies the evaluation process and reduces emotional bias in investment choices.

Sources

• ‍https://jfin-swufe.springeropen.com/articles/10.1186/s40854-016-0027-8‍
• https://www.researchgate.net/publication/23736230_Decision_theory_and_real_estate_investment_An_analysis_of_the_decision-making_processes_of_real_estate_investment_fund_managers‍
• https://www.researchgate.net/figure/Decision-matrix-of-the-real-estate-investment-problem_tbl2_262161793