In this Q&A, partner Volker Zerr explains some of the key takeaways plus brings us up to speed with likely outcomes of rising financing costs and general global economic uncertainty. 

PropertyEU: Covid was still having an impact in 2021. What were the general trends the firm saw?
Volker Zerr (VZ): Following the Covid-related lockdown, investor confidence in the real estate investment markets quickly returned. At over €60 bn, the transaction volume in 2021 on the German investment market for commercial real estate reached pre-pandemic levels. However, a certain degree of restraint was still evident in the retail and hotel asset classes, which can be attributed to the month-long lockdown.

PropertyEU: There has been strong interest in European real estate, including from overseas buyers throughout 2021. But domestic players seem to dominate. What has CMS noticed in the market?
VZ: At the height of the pandemic in 2020, the share of domestic investors predominated. This was mainly due to travel restrictions and the lockdown, which made site visits difficult. In 2021, we saw significantly more foreign investors again. In fact, foreign investors accounted for 55% of the total volume. However, the foreign investors were mostly those of European origin. The number of intercontinental transactions still remained below the pre-pandemic level.

PropertyEU: We now seem to be in an even more uncertain phase than just three months ago. What effects, if any, is CMS seeing when it comes to real estate investing given all the headwinds? What is the mood among buyers and sellers?
VZ: In view of the war in Ukraine and the associated global impact on the real and financial economy, the first quarter of 2022 again saw considerable uncertainty on the investment markets. Market participants are currently looking to the market for guidance in many cases. In addition to the asset classes office, logistics and residential, there are signs of growing interest in alternative asset classes, including healthcare/life sciences.
In 2021, there was a significant increase in major office deals with high transaction volumes in the core segment. In view of the existing uncertainties, this trend is unlikely to continue in 2022, as the desire of many investors for risk-averse investments is likely to increase. Equally, with the enormous rise in financing rates at the beginning of 2022, there are also signs that the recently historically low prime yields will rise to over 3% gross initial yield.

PropertyEU: Are there particular asset classes/deal structures or geographies that your clients seem more interested in as 2022 unfolds?
VZ: The logistics and residential asset classes enjoyed increased demand. While office investments saw a slight decline, this asset class remained strong amongst the leaders. In addition, there was increased demand for alternative asset classes, including healthcare/life-sciences.
With regard to ESG compliance, we also observe that value-add investors in the office segment are increasingly assessing existing properties in terms of their "manage to green" potential and that attractive opportunities are arising here. In general, we have noticed that ESG compliance has become immensely more important for investors in the past year. It can be assumed that this trend will continue in the coming years.

PropertyEU: What is the trend around purchase price adjustments? Regardless of a contractual term, does CMS believe parties are renegotiating the price of a deal a lot more recently due to various factors e.g., interest rate movements, construction costs rising?
VZ: Purchase price adjustments are frequently agreed for project developments where the space to be built and the agreed rents have not yet been determined at the time when the contract is concluded. Price adjustments are less common for existing properties. Given the rise in interest rates, it cannot be ruled out that buyers will attempt to renegotiate prices in the course of contract negotiations.

PropertyEU: What other trends were identified in the study related to the purchase price?
VZ: We are increasingly seeing the seller's desire to obtain security for the buyer's financial obligations. This primarily applies to payment of the purchase price, but also includes the buyer's obligation to pay notary expenses and property transfer tax. Securing the buyer's financial provides the sellers with a degree of transaction security, which is especially coveted in times of pandemics and war. A deposit in a notary escrow account or a letter of comfort is often chosen as security.

PropertyEU: What have you noticed regarding objective and subjective guarantees? Does it appear sellers and buyers have found it hard to agree on this aspect when it comes to a deal?
VZ: The question of whether the seller gives objective or subjective guarantees is often a controversial issue in contract negotiations. While the seller wants to give as few objective guarantees as possible, the buyer tries to negotiate as many objective guarantees as possible. The reason for this is that objective guarantees create liability on the part of the seller for the existence of a certain circumstance, regardless of whether the seller is aware of it. In the case of a subjective guarantee on the other hand, the seller is liable only if the buyer can prove that the seller was also aware of the circumstance or defect contrary to his warranty. As a rule, a compromise is reached so that both subjective and objective guarantees are agreed in the contract.

PropertyEU: There seems to have been an increased frequency of development projects being agreed. Does CMS agree, and does the firm suspect there has been any impact on the % of contracts in which there is a contractual limitation period expressed? How is this explained?
VZ: In 2021, we noticed a slight trend in favour of buyer-friendly regulations. This was reflected, amongst other things, in the fact that buyers were able to negotiate longer warranty periods more frequently, especially for existing properties. In the case of project developments, it is still the case that the seller is usually released from personal liability and the warranty claims to which he is entitled against the contractors are assigned to the buyer with the corresponding warranty periods.

PropertyEU: Has CMS been in a position whereby it is advising the buyer which has wanted to and gained this contractual safeguard?
VZ: Buyers must ensure that their negotiated warranty and guarantee claims are valid during the warranty periods and that the seller still has sufficient creditworthiness with regard to their fulfilment. The latter is sometimes not always the case, as the object of purchase is not infrequently the seller's only asset. In such cases, buyers are well advised to obtain security from the seller, e.g. in the form of bank guarantees or letters of comfort.

PropertyEU: De minimis and Basket clauses are two similar clauses generally serving to protect the seller. What should buyers understand about them?
VZ: In the case of de minimis and basket clauses, buyers must be aware that they have claims against the seller but can only enforce them once the corresponding thresholds have been reached. Buyers must therefore ensure that these thresholds are as low as possible, otherwise they run the risk of not being able to enforce their claims for breach of warranty later on.

PropertyEU: It seems liability caps are quite frequently left out of agreements. For example, in Germany and Austria although the percentage has risen, it fell back again to 63% in 2021. The market seems to function well without such cap clauses, but does CMS ever insist on a clause being inserted?
VZ: In our view, most transactions contain liability caps. Only in projects developments, where the seller owes a newly built property, are these liability caps less frequent, as the seller assigns his warranty claims against the builders to the buyer and the builders have generally not agreed any liability caps. We believe that the slight decline in liability caps is also due to the fact that buyers were better able to assert their positions in contract negotiations than in previous years.

PropertyEU: We note the tendency for agreements to exclude liability on the part of the seller in the event of knowledge. Are you aware of any situations where a buyer has become unhappy, and the parties have needed to refer to the relevant contractual term in an agreement or is this an absolute rarity?
VZ: In practice, the cases in which there are disputes between the parties in connection with the transaction, especially regarding breaches of the duty of disclosure by the seller, are fortunately the absolute exception. In most cases, disputes can be settled out of court and amicably. Both parties are always well advised to avoid going to court if possible.

Volker Zerr is a partner at CMS within the law firm’s Germany real estate team who takes the lead role in the company’s annual European Deal Point Study