Perched inside a pile driver in East London in May 1988, Margaret Thatcher attempted to operate heavy machinery clad in her trademark skirt suit, high heels and pearl earrings.
The Iron Lady was also sporting something less instantly recognisable that day: a hard hat with two words emblazoned on it that would come to embody the very essence of Thatcher’s vision for Britain: “Canary Wharf”.
The regeneration of London’s depleted docklands in the late 1980s and early 1990s became a physical symbol of the former prime minister’s free market revolution.
In a speech at the site in November 1989, Thatcher praised the development as “one of the most exciting” projects she had ever known.
“Ten years ago, it would not have been possible even to think in such bold, ambitious terms,” she said. “And then a number of things began to happen. First, there was a change of government in 1979. I think that was a very good change and a very wise one. Then that government started to do remarkable things.
“We were farsighted, because we knew the spirit of enterprise that Britain had been capable of, we believed that was still possible to be present in our people, and we took a risk, and planned on the assumption it was.”
Boosted by the Government’s “Big Bang” liberalisation of financial services, Canary Wharf quickly grew to become the UK’s second largest financial district, home to some of the biggest names in global banking, including HSBC, Morgan Stanley and Citigroup.
Cocktail of challenges
But 35 years on from Thatcher’s acclaim for the development, Canary Wharf is facing a cocktail of challenges that pose a threat to its future as a financial hub.
The lingering popularity of working from home at least part of the week has prompted global businesses to reassess their office space needs, leaving skyscrapers a less attractive proposition than they once were. HSBC, arguably the district’s most recognisable resident, is considering whether to leave Canary Wharf as it downsizes.
At the same time, Britain’s net zero push leaves building owners facing massive costs to bring old skyscrapers up to new green standards. In some instances, owners face paying millions to rip out old gas systems and replace them with heat pumps.
It leaves Canary Wharf and its residents with an unenviable situation: higher costs just as incomes threaten to fall.
Last month, credit agency Moody’s cut Canary Wharf Group (CWG)’s rating further into junk owing to a “difficult operating and funding environment”.
To combat these challenges, Shobi Khan, CWG’s chief executive, is attempting to pivot the group’s focus away from office blocks and towards residential and retail properties, with ambitions to develop the district into a world-leading life sciences centre. It is hoped that bringing in this fresh blood will boost Canary Wharf’s appeal and help fund its net zero overhaul.
But as a number of banks and law firms prepare to bid farewell to Canary Wharf, London’s financial centre faces a race against time to reinvent itself. Will it succeed?
‘I personally would go mad’
Canary Wharf was given its name from the quay where fruit and vegetables from the Canary islands were once offloaded. The development was the creation of Canadian property tycoon Paul Reichmann and his company Olympia & York.
Construction began at the site in 1988 after Thatcher’s environment secretary Michael Heseltine established the Docklands Development Corporation quango several years earlier.
Despite fierce opposition from locals, Canary Wharf’s first skyscraper, One Canada Square, rose from the docks in 1990. However, at the time it was not to everyone’s taste, with then Prince Charles commenting: “I personally would go mad if I had to work in a place like that.”
Notwithstanding a lack of royal approval, companies still flocked to the refurbished area. However, despite early popularity, the project soon ran into financial difficulty.
Canary Wharf went bankrupt in the 1992 property crash with Reichmann pulling together a consortium of wealthy investors, including Saudi royalty, to buy it back from the banks. In 1999, they listed the company on the London Stock Exchange before it was taken private in 2015 by Canadian money manager Brookfield and Qatar’s sovereign wealth fund in a £2.6bn deal.
Since the takeover, the outlook for much of Britain’s commercial property sector has changed markedly. Demand for office buildings is waning and an inflationary environment is increasingly putting pressure on companies’ finances as debt servicing costs rise.
A recent report by Schroders found that the value of UK commercial real estate plunged by more than a fifth between June 2022 and March this year – the sharpest correction since the period immediately following the collapse of Lehman Brothers in 2008.
Downturn begins
Canary Wharf has become a symbol of the recent downturn in the global property market. Moody’s decision to downgrade its credit rating deeper into junk territory comes as payment of £1.4bn of debt comes due in 2024 and 2025.
The rating agency warned that Canary Wharf Group may need to offload buildings and ask shareholders for additional capital in order to refinance and pay its debts.
The rapid rise in interest rates has hit UK commercial property hard, pushing up the cost of borrowing for landlords and denting the value of their buildings. The higher interest rate environment has coincided with banks restricting lending, which risks creating a funding squeeze for landlords who will soon need to refinance their debt.
David Scott, head of UK investment research for real estate at FTSE 100 asset manager Abrdn, says: “Lending is increasingly difficult in the office sector at the moment and it is incredibly difficult to find debt facilities.
“The ongoing stress in the banking sector has caused credit conditions to tighten and while debt is still available, lenders are being more selective, while financing costs are higher.”
Robert Walker, head of UK real estate at PwC, adds: “Real estate is in some instances highly leveraged, so when people need to refinance in the next year, it will certainly be challenging.”
It is understood that the restructuring industry is keeping a close eye on CWG in the event it faces any difficulties meeting its debt obligations.
During the pandemic, the company was forced to negotiate a covenant waiver on its retail and construction loans, while Brookfield wrote-down its holding in the company by $231m (£184m) last year.
CWG’s Khan appears nonplussed about Moody’s downgrade and discloses that the company has a £130m untapped line of credit. He says: “I think we’re well capitalised. We’ve got cash on the balance sheet and well leased assets.”
He argues that the downgrade reflects the broader market environment and says there is a tendency for people to look at commercial real estate with a “broad brush approach”.
He adds: “You have to look at not only the location, but the quality of the asset. As real estate goes through these cycles, what always happens is quality wins. People gravitate to the best assets and the best assets hold their value, and that’s what we own.”
Dearth of workers
For the best part of three decades, Canary Wharf has been a byword for finance, but international banks have been reducing their footprint in London in recent years and, since the pandemic struck in 2020, a home working revolution has taken hold, leaving once bustling office buildings a shell of their former selves.
A recent survey by estate agent Knight Frank found that half of large multinational companies are planning to axe office space in the next three years as they adapt to permanent hybrid working.
Canary Wharf has not been immune. One person who has worked at a bank in the district for over a decade says the district suffers from the dearth of office workers on Mondays and Fridays like many other areas in London.
However, he adds that CWG has “massively pivoted” to boost the retail and hospitality offerings in the area. “They’ve changed the image of what the place is like,” he says. “Before the pandemic it had a sort of stiff corporate culture and didn’t really have much of a personality. But Covid has forced it to lighten up.”
Restaurants have sprung up in the area, including a floating branch of steak chain Hawksmoor housed on a barge, and a go-karting track has been installed under the district’s central Cabot Square.
However, while CWG is trying to diversify the area away from office space, financial companies still account for 55pc of the group’s rental income.
Most companies with a large presence in the district have also embraced hybrid working, resulting in lower office attendance compared to pre-pandemic levels. CWG’s own policy is to allow its employees to work from home for one day a week.
This shift has left many companies re-evaluating their office space requirements and the needs of their employees in a hybrid working world.
Last year, elite magic circle law firm Clifford Chance announced that it would move its headquarters from Canary Wharf – where it has been since 2003 – to the Square Mile when its lease runs out in 2028.
HSBC is also reviewing whether or not to stay at its 8 Canada Square headquarters, dubbed the “Tower of Doom”, with bosses last year telling staff it was examining the “best future location in London for our global headquarters”.
Khan says: “We have made HSBC a proposal and they are going through their evaluations.”
Revolut, which has been based in Canary Wharf since it was founded in 2015, is similarly hunting for a new London headquarters, while there remain question marks over Credit Suisse’s building in the district, with thousands of jobs expected to be cut following its takeover by rival UBS.
However, in a vote of confidence for the area, Wall Street giant Citigroup is undertaking a three-year revamp of its skyscraper that will cost £100m.
Still, the home working shift is raising questions about the future and value of office buildings across the UK.
PwC’s Walker says: “Office as an asset class is tricky. What does the future of offices look like? It’s a difficult question to answer as there are very different views on hybrid working.”
Michael Eakins, chief investment officer at FTSE 100 pensions giant Phoenix, says this uncertainty is causing headaches for investors.
“There is still high demand for grade A office space in central locations with good transport connections,” he says. “But satellite regional complexes are suffering and that sort of speaks to Canary Wharf, which is not really in a central location.”
He adds: “I don’t put Canary Wharf in this category, but there are growing fears that many secondary office locations could become obsolete.”
Race to reinvention
For Khan, the future for Canary Wharf lies in attracting shoppers, socialites and residents to transform Canary Wharf into a 24-hour, seven days a week “city within a city”.
He says: “When we started out we were 100pc financial and now we’re only 55pc financial. We want to attract different industries.
“We’re not renting space, we’re renting an environment because this environment will make people want to come to the office. We want to create amenities so that when people do come, they’re excited to hang out with their colleagues and friends.”
This process began pre-Covid but Khan is putting the new strategy into overdrive as he seeks to make up for the slump in office workers.
CWG started building its first residential towers in 2015 and expanded east into Wood Wharf. Today, the company says more than 3,500 people live on the Canary Wharf estate, up from zero just five years ago. There are currently 2,200 units built with a further 2,000 under construction.
As part of the “Canary Wharf 3.0” project, as Khan calls it, CWG has invested heavily in amenities in a bid to shed its image of a somewhat soulless setting occupied by domineering glass and steel structures and overworked bankers.
The company has recently designated a section of the docks for open water swimming and is set to open a Padel centre – the popular Spanish sport that is a cross between tennis and squash. It is also expanding its green areas and boardwalk to provide greater access to the water.
Despite the economic headwinds, Khan remains bullish about the area’s future. He says: “Last year, we had more than 54 million people come through our shopping centres – the highest ever. And we’re already 20pc higher through May on that number for this year.
“The Elizabeth line has been a game changer for us, it’s been phenomenal and our retail vacancy is less than 3pc.”
As financial companies reassess their allegiance to Canary Wharf, CWG is trying to entice Britain’s life science industry to move into the area. But in doing so, it will have to compete with university strongholds like Oxford and Cambridge, as well as London’s King’s Cross.
To its credit, Canary Wharf has already attracted a number of health agencies such as the Medicines and Healthcare products Regulatory Agency (MHRA), Genomics England and the NHS Transformation Unit.
Khan says: “We identified in 2019 that life sciences was a great sector and canvassed the market. We’re building Europe’s largest laboratory building in North Quay. That will be 23 stories with 800,000 sq ft of lab space. We’ve got the burgeoning UK life science ecosystem already here and see it as a growth area.”
PwC’s Walker believes this pivot makes sense: “If the UK wants to be a leader in life sciences, it will need to create new campuses. Canary Wharf could become one of these centres as there will be questions about how some of this office space can be revamped.”
Khan envisions companies moving into the area with their employees living in its environs. He says: “As companies look to attract and retain talent, we can provide housing for them. So they’re not having to do this hour and a half commute outside of London.
“They get to stay in London, get the benefits of living in London, and all the culture that’s here, as well as being in an amazing environment to live at work and or play.”
Net zero nightmares
Businesses are reassessing whether they want to be in the Wharf as the challenge of retrofitting buildings to meet new environmental targets looms. The investment is expected to bring significant added costs.
Property has found itself in the firing line of Britain’s net zero push, with new minimum energy efficiency standards requiring all commercial properties in the UK to have an Energy Performance Certificate (EPC) rating of C or better by April 2027 and B or better by 2030.
Investors and analysts say that meeting these regulations pose a significant challenge to the industry as a whole.
Phoenix’s Eakins believes that many landlords are failing to appreciate the costs involved in bringing their buildings up to standard.
“We are in an environment where it is much tougher to raise financing and there will be much higher capital expenditure needed to meet sustainability requirements,” he says. “Many companies are underestimating the requirements to meet the bare minimum. Retrofitting assets is an extremely expensive business.”
PwC’s Walker agrees. “There are going to be huge capital expenditure costs on top of a number of existing headwinds,” he says.
A report by Savills last year estimated that UK office landlords were set to spend at least £63bn collectively over the coming years to meet the new energy standards.
Walker adds: “Ten or 20 years ago, the industry was a different beast. But occupiers of real estate now need to be net zero by a certain date and if the buildings they are in are not carbon neutral then they’ll have little option but to terminate their lease.”
CWG owns seven office buildings in the area that are all around 30 years old. Khan says: “All of our buildings are compliant with EPC government requirements right now.”
However, the company will still need to invest heavily to bring some of its buildings up to standard by the 2030 deadline.
One Canada Square, the building where CWG is headquartered, has an EPC rating of C at present. To make it compliant by the 2030 deadline, CWG has said it will need to replace gas-fired boilers with heat pumps in the building to maximise efficiency and replace chillers with more up to date units.
Meanwhile, Westferry House, which is not owned by CWG, currently has a D rating, highlighting the pressures on other landlords in the area to comply with the regulations too.
Abrdn’s Scott says sustainability is of “fundamental importance” for investors looking to invest in commercial properties.
He adds: “It’s no longer a ‘nice to have’ but a ‘must to have’. That’s why we’ve seen more nervousness around secondary and older parts of the market. When we’re looking at investing, the assets now have to be best in class.”
There are growing fears that the costs associated with retrofitting buildings, particularly given the current tight credit conditions, could lead to some landlords going bust in certain parts of the commercial property market.
Scott adds: “We expect that there will be pockets of the market that will experience distress. Office buildings that are not deemed to be best in class may see pockets of distress come through.”
In her 1989 speech at London’s Docklands, Thatcher called on the country to embrace a new spirit of enterprise and adventure that she said was epitomised by the Canary Wharf project.
She said: “I believe that with the restructuring, with the renewal that we have seen in Britain, we should be in perhaps the best position to lead Europe at the beginning of the next century to the tremendous position in world affairs of which she is worthy by her past, and it is our task to make it worthy by her actions today, and into the future.”
In some respects, CWG’s plan to transform Canary Wharf into a new vibrant mini-city rather than a financial centre could be seen as an invocation of Thatcher’s entrepreneurial spirit.
However, with economic storm clouds gathering, debts coming due, financial tenants migrating to other areas and environmental rules heaping added costs on to landlords, questions remain over whether Khan and CWG will be able to deliver on their lofty ambitions for Canary Wharf.
Source: finance.yahoo.com