The attraction of the Supermarket covenant

Supermarket Investment Update - May 2023

The first quarter of this year proved to be an interesting time for supermarket investments. While investors continue to struggle with a lack of available and suitable stock, liquidity has improved and we have observed a number of investors coming back into the market and successful transactions taking place.

We saw Pimco backing the Morrisons’ covenant by acquiring four long let assets as part of a circa £115m portfolio from M&G, a further indication of Pimco’s commitment to the covenant following a purchase of a sizeable portion of Morrisons’ debt last year. They were not alone in investing into Morrisons: we understand a number of sale and leasebacks were also concluded including properties in Plymouth and Welwyn Garden City, purchased by Fiera Real Estate and Abrdn respectively.

While covenant has always played an important role in investor demand, the more attractive yields of those supermarket chains with higher levels of debt, such as Morrisons and Asda, are enticing investors keen to take advantage of the price differential between these covenants and the likes of Tesco and Sainsbury. This even includes funds – demonstrated by the previous examples as well as Aviva’s purchase of an Asda in Hayes last month. Considering the calibre of the names investing, we expect this to give others in the industry the confidence to invest into these covenants and to follow suit, potentially compressing yields.

There has been little change in demand for prime long let supermarkets with those that are well located and benefit from good residual value retaining strong interest, particularly those let to Tesco and Sainsburys. It seem clear that funds’ and institutions’ activeness in this sector is currently being held back by the lack of stock, rather than their lack of appetite. The market for the smaller supermarkets and convenience stores is still dominated by private investors, as well as family offices/trusts. Evidence of this is the Aldi in Weymouth that London Metric sold to a private investor in Q1 for £6.8m (representing a sub 5% NIY).

In terms of the supermarkets’ real estate strategies, these differ depending on the chain, with the cost-of-living crisis firmly in their minds and their need to keep costs as low as possible for customers. Over the next 12 months those such as Tesco, Sainsbury’s and Asda are all looking to strengthen their convenience offerings, whilst others are fine-tuning their existing stock. In the discount sector, Aldi is looking is continue with their expansion plans while Lidl has decided to scale back its openings.

In Q2/Q3, demand is only going to increase for long let supermarket investments as further investors return to the market. In the last quarter alone, some of the smaller supermarkets have benefited from yield compression due to competitive bidding. If yields do continue to compress, this will tempt more vendors to bring properties to the market and address some of the stock shortages.  We also expect to start to see a number of Asda supermarkets come to the market via sale-leasebacks as their owners, the Issa brothers, look to reduce the company’s debt pile. 

Supermarket Update Summary