He may not know it, but John Prescott the British Deputy Prime Minister, is a tenant of the Allied Irish Bank Investment Managers (AIBIM). The Irish fund manager's property arm recently bought a 31,000 sq ft office block in Victoria, central London, that is let to Mr Prescott's department - TheEnvironment, Transport and the Regions - on a 25-year lease at £935,000 sterling per annum. The occupant is the Cabinet Office.
AIBIM was acting on behalf of around 20 private clients in the £14 million deal, according to Caroline O'Shea, head of Property for AIBIM. Number 38 Great Smith Street, Victoria, is one of the larger property investments managed on behalf of private clients by AIBIM. In total, AIBIM has private client property holdings of £64 million on its books. However, its main property focus is the Allied Irish Property Fund, a £300 million unitised fund that is marketed exclusively to pension schemes and charities.
AIBIM does not actively promote the private client part of its business and will only invest a minimum of £2 million on their behalf. The focus of much of the private client investment business in recent years has been the office market in the southeast of England.
The British market offers opportunities to investors who are finding it difficult to get into the booming Irish commercial market, says Ms O'Shea. AIBIM does not invest any of its own fund's money outside Ireland but has built up considerable expertise on this aspect of the British market, she says. "It provides an opportunity for private clients. There are good quality investments at attractive yields. They can also use borrowings to hedge some of the currency risk," she says.
She predicts that the office sector in Britain will produce "stable but unexciting growth" over the next year or so. Currency risk and other prudential factors make the UK market effectively off limits to the Allied Irish Property Fund (AIPF). In any case, Ms O'Shea believes that the Dublin office market - the main focus of the AIPF's activities - offers better returns. Any of AIBIM's pension fund clients who want exposure to the UK market can do so via UK property unit trusts.
AIBIM adopts the same principle in both markets: chasing occupied demand and rental growth. "It is not an unusual strategy, but for us it is very important and fundamental," says Ms O'Shea.
The AIBIM approach boils down to buying only the properties that occupiers want, on the basis that they will pay more to rent them and that will in turn drive returns.
When buying a property, AIBIM has a target rate of return that is linked to government gilts of around 9.5 per cent. They compare the target with what the property is yielding in terms of rent, which averages around 5.7 per cent a year in Dublin. In order for the investment to be attractive to AIBIM, the annual rental growth must make up the difference between 5.7 per cent and the target rate of return.
"At present, prime office rents in Dublin are growing by 14 per cent. We still think that the property market here is going to perform very well over the next year," says Ms O'Shea.
In recent years AIBIM has added another string to its bow which Ms O'Shea calls "active management". The fund has reviewed the properties in the portfolio and identified a number that are ripe for redevelopment.
A good example of this approach, she says, is One Airton Close, a modern office development in Tallaght. AIBIM has knocked down a 16,000 sq ft warehouse - previously let to Sharptext - and built 47,000 sq ft of new high spec office space on the site. The new property is worth around £12 million, which is a considerable gain on the £85,000 or so that AIBIM paid for it roughly 15 years ago.
AIBIM assumed all the risk associated with the development but negotiated a fixed price contract with the builder to remove the construction risk. "We were happy to take on the letting risk," according to Ms O'Shea.
The letting risk is not insignificant. Congestion and high rents in central Dublin will make the block attractive to many businesses, particularly with rents at around £15 per sq ft compared to £40 per sq ft in the city centre. The problem is that by and large, most people still prefer to work in the city because of other attractions. Ms O'Shea is gambling on Airton Close's location, close to Tallaght Town Centre with all its amenities, to provide the same draw.
AIBIM is looking at a similar development nearby at Airton Terrace, where it plans to increase the size of a development of industrial units from 39,000 to 60,000 sq ft. There is a limit to the amount of this sort of redevelopment that it is prudent for the AIPF to undertake, she says.
We look at "risk across our portfolio and make sure it is balanced. Developments are more risky, so we are careful about the amount of development we do", she says.
AIPF is looking at a number of re-developments in the city centre but will probably get involved with a developer to share the risk. This approach is being adopted at 6 Burlington Road, an office block which AIPF plans to redevelop along with John Flynn and Paddy Kelly.
"Development will account for 10 per cent of the portfolio," Ms O'Shea predicts.
The £300 million AIPF is split along the following lines: office, 63 per cent; retail, 30 per cent; industrial, 7 per cent. In addition to the fund and the £63 million of client holdings it manages, AIBIM also manages £136 million of other properties on behalf of institutional investment funds.
The total pie of just over £500 million is split £440 million in Ireland and £60 million in the UK. All of the fund's office and industrial investments are in Dublin, but it has some retail holdings in Cork, Limerick and Wexford. In common with other investment funds, AIPF has trouble finding suitably large investment properties outside Dublin.
"We also need properties where there is significant demand that will drive rental growth," she explains.
The Government's commitment under the National Development Plan to redirect development to areas outside Dublin is unlikely to make it more attractive for funds such as AIPF to invest outside the city, says Ms O'Shea.
"It may lead to more office and industrial development outside the capital but will not necessarily create tenant demand."
The strategy adopted by Ms O'Shea and her colleagues has resulted in the AIPF recording above average returns on a three and five-year basis and it is ranked number one in both categories by Mercer Consultants. In the nine months to September, the AIPF has returned 18.1 per cent compared to an average of 15.9 per cent and is currently ranked second.
The annual returns over three years have been 32.2 per cent (industry average 27.8 per cent) and over five years 26.2 per cent (industry average 23.3 per cent).
Ms O'Shea attributes AIBIM's good performance to a number of factors apart from the basic strategy of chasing rental growth. One is the multi-disciplinary approach adopted by AIBIM.
"The property management team is very much part of the AIBIM asset management team. We sit down with the other teams - gilts, equities - and have regular weekly meetings. The result is that we take a more balanced view of investments," she claims.
