Population growth, new cities model and strong fundamentals buoy development of Egyptian real estate

Although the devaluation of the Egyptian pound in late 2016 pushed inflation upwards, strong longterm economic fundamentals have maintained interest in the real estate sector. On the other side of the spectrum, real estate developers have been able to adapt their offers to the new needs of Egyptian buyers, and have progressed with ongoing plans for housing, office space and new retail areas. Efforts to construct new cities and the New Administrative Capital are also driving innovation within the sector.

“Developers in the new cities are up against high levels of competition, so they are looking to be cost-conscious when it comes to materials and construction, while also trying to stand out from competing firms by offering innovative design and more fully integrated communities within their developments,” Khalid Bahig, vice-president and CEO of New Homes Coldwell Banker, told OBG.

Even with a long list of construction projects in the pipeline – including the expansion of roads, ports and power plants – a significant amount of attention and resources in the sector will be directed towards housing and other real estate developments in the near term. “While there are a number of challenges facing the real estate sector, it is important to keep in mind that the fundamentals are strong and that current growth is being driven by real demand from population growth,” Ashraf Dowidar, CEO of real estate developer ARDIC, told OBG.

Market Dynamics

High-end residential development remains a critical piece of the real estate market. Alongside the sector’s long-standing focus on gated communities as a way to expand into the capital’s surrounding areas, established developers are competing with newcomers to take advantage of long-term, structural demand.

As well as welcoming a growing number of developers, the market is undergoing a change in the variety of marketed housing products. With the authorities keen to move forward with the construction of the New Administrative Capital, real estate developers are accelerating efforts to build and promote housing options in the new urban centre.

Market dynamics mean developers are also facing a different type of buyer. “The market has matured rapidly in the past 10 years. Consumers are no longer looking for real estate education, because they already have gained a fair amount of knowledge from their own interactions. Additionally, customers are often hesitant because there are a lot of options for buying: auctions, primary units sold off-plan and built units. The choices are huge,” Magdy M Wahba, director of business relations at Coldwell Banker, told OBG.

Despite existing demand for middle- and high-income housing options, Egypt is underserved in terms of lower-income housing. With most of the economic incentives for private real estate development firmly concentrated in the higher-income segments, satisfying the persistent housing deficit may require more direct intervention. This could come in the form of housing programmes and financial schemes that attract financing for the lower-income housing development that has taken shape in recent years.

Performance

With the population projected to reach 100m in 2019 and growing by 2.4% annually, according to figures by the World Bank, demand for real estate is likely to remain strong for years to come. The sector has taken on an important component of total investment in infrastructure in recent years. According to the “African Economic Outlook Report 2018”, published by the African Development Bank, total investment in infrastructure between 2013 and 2017 reached LE1.1trn ($61.8bn), with some 18.4% of that investment directed towards construction and real estate activity.

In early 2018 the country’s annual inflation rate reached 22%, pushing many Egyptians to put their money in real estate as a way to offset the erosion of the currency’s value. However, a long-standing inclination to invest in real estate encouraged those with available money to invest well before the country’s recent challenges emerged. This has fuelled the development of real estate projects and gated communities, particularly in the areas around Cairo.

Because many of these dwellings were acquired as investment vehicles, high vacancy rates persist around the central areas of the capital. According to the Central Agency for Public Mobilisation and Statistics, as many as 13m homes, both completed units as well as those that were close to completion, were unoccupied in Egypt as of late 2017.

Regulatory Environment

Responding to recent economic challenges, the authorities have been looking at regulations that might help shore up the country’s finances, some of which are likely to have a direct impact on the real estate sector. In mid-2018 the government stated that it would modify the country’s residency regulations to allow real estate investors the opportunity to live in Egypt.

Quoted in international media in August 2018, the head of the Real Estate Development Chamber at the Federation of Egyptian Industries, Tarek Shoukry, stated that investors who purchase a real estate asset for $100,000 would be allowed a one-year residency permit, while those buying units valued at $200,000 or $400,000 would be eligible for threeyear and five-year residency permits, respectively.

Other changes in sector laws are geared towards strengthening safety standards. The government stated in December 2018 that in early 2019 the authorities would approve both a unified building code and a temporary law to address violations of the construction code. Tightening regulations has long been a priority for the sector, due to the massive amount of informal building that takes place in Egypt. In many cases, insufficient safety standards have led to building collapses. The issue returned to the fore in December 2017 in the central Cairo district of Rod Al Farag, when a building collapse triggered the collapse of two adjacent buildings due to poor overall infrastructure.

In January 2019 the unified building code began to take effect as an inactive law from 2008 was revived, stating that citizens must paint the front of their houses in order to obtain a construction licence. Although the code does not give details of a clear penalty for non-compliance, it states that violations of construction designs will be punished with a minimum of six months in prison or a large fine. According to local media, this measure is the beginning of a “nationwide plan to give residential buildings a standard facelift aimed at curbing visual pollution and boosting the country’s image”.

Cost Factors

Ongoing development projects have to contend with a more unpredictable environment, with materials and land both subject to price increases. As cities expand, land availability has become an important factor in developers’ cost-benefit calculations. “There is significant demand across the segments, but cost continues to be the limiting factor due to the price of land, which was previously 15% of the final cost but can now reach around 35% or 40%,” Ashraf Ezz Eldin, managing director of Al Futtaim Group Real Estate, told OBG.

The government’s decision to remove electricity subsidies also affected large power consumers like cement manufacturers and other producers of construction materials. The Chamber for Building Materials, part of the Federation of Egyptian Industries, estimated that prices for construction materials had risen by 30% between 2017 and mid-2018.

Housing Programmes

Higher costs are a challenge for private developers and for authorities aiming to implement public housing programmes. Although Egypt’s housing deficit is difficult to quantify, in 2015 the Ministry of Housing stated that around 500,000 homes would need to be built each year to meet current demand.

The housing gap deepened in the wake of the 2011 uprising, when the subsequent economic and political instability triggered a steep rise in unauthorised housing construction. The public sector continues to play a significant role in tackling the deficit following the government’s 2015 announcement of a five-year programme to build 1m homes for lower-income citizens. This programme, combined with a government plan to make mortgages more affordable, is viewed as the backbone of the government’s housing policy.

Other government projects have been moving forward, and although they are not necessarily geared toward the low-income segment, they may add housing capacity to cover at least a portion of the needs of the middle-income segment. In the new capital project alone, 245,000 housing units are expected to be built between 2018 and 2023, according to reports from international media. These, however, are likely to target the upper echelons of domestic and foreign real estate buyers.

Adapting to Conditions

Although returns from the real estate market were largely led by the high-end segment, where gated communities with luxury villas were priced at the top of the scale, the overall context of the luxury market has changed. For many years, prices for new high-end housing developments were increasing at a steady pace, as wealthier citizens began to move away from central Cairo or purchased homes as investments.

In November 2016 the government let the pound float, triggering a steep decrease in its value. This prompted developers to offer better payment conditions to buyers. While requiring entry payments, many began allowing buyers to pay for the new homes over seven to 10 year periods, and even provided financing in some cases. As conditions eased, demand remained high, despite the fact that structured mortgage schemes with competitive interest rates remain limited in Egypt.

The housing stock under construction in the gated communities in and around Cairo area has risen steadily in recent years. The number of units rose from 114,000 in 2015 to 154,000 by the third quarter of 2018, according to real estate consultancy JLL. This is projected to climb to 172,000 units by 2019 and 215,000 by the end of 2020.

Developers in Egypt tend to begin construction once they secure the necessary number of buyers, meaning that most of the sales are off-plan. Even so, current conditions have caused a shift in demand due to affordability issues. “Some people will not be able to afford the larger units they were buying in the past, so developers have quickly adapted to this new reality. They are reducing unit prices and changing designs. Before 2011 people would look for larger villas. Now there are different segments within the higher-income housing market itself,” Ayman Sami, Egypt country head at JLL, told OBG.

Economic volatility, which has stemmed from the currency’s devaluation and the removal of long-standing energy subsidies, is likely to translate into higher prices for real estate. In mid-2018 the Federation for Construction and Building Contractors estimated that the current environment might see sector prices increase by 25% to 30%. Price hikes for electricity and fuel, which will affect many elements of the supply chain, were expected to be the main factors behind the price hikes.

Office Space

As Cairo’s suburbs continue to sprawl eastward, office space is expected to expand, which is enticing both domestic and foreign companies that are already operating in the country to move into the new areas. It is also encouraging new players to enter the market for the first time. The success of ongoing economic reforms will have a direct impact on how supply and demand dynamics evolve in the Egyptian market over the medium term.

In recent years, the total gross leasable area (GLA) of office space in Cairo has expanded at a steady pace, from 936,000 sq metres in 2015 to 1.05m sq metres as of the third quarter of 2018. The market is expected to receive an additional 5000 sq metres of stock as new projects are completed in 2019 and as much as 156,000 sq metres of additional office space opens in 2020. The majority of new stock will be located in the New Cairo area, which has been the epicentre of new real estate construction in recent years. Vacancy rates for office space remained stable between the third quarter of 2017 and the same period of 2018, at around 14%.

Rent Dynamics

Average rents for office space in Cairo followed divergent patterns depending on the area of the city. Prime rental space prices remained unchanged between the third quarters of 2017 and 2018, at $420 per sq metre.

The biggest drop occurred in the West Cairo area, where rents fell 20% to $160 per sq metre per year. Conversely, annual rents in central Cairo increased by 12% to $336 in the third quarter of 2018, after average prices declined in 2017.

The currency devaluation in 2016 affected the office space segment in a very specific manner. “Multinationals now are expanding operations in Egypt, and some of them are opting to buy their offices instead of leasing them. This is mainly to protect themselves against inflation, devaluation and to capitalise on the capital gain,” Sami told OBG. This new avenue is leading developers of new properties to include more office space that is available for acquisition as the projects grow.

Demand for office space can also come from smaller Egyptian firms. “Recent reforms have put pressure on spending at the same time that these reforms are creating economic opportunity, especially for small businesses and those taking advantage of developments in technology. The combination of these factors is driving demand for office rentals,” Moheb Zaki, CEO of office space operator Makanak. Office space is adapting accordingly, with many developers and promoters now offering leasing periods of under a year.

Retail

One real estate subsegment that is more likely to feel the negative impact of devaluation and the consequent reduction of available income is the retail business. With most Egyptian families closely monitoring their expenditure, retailers and real estate developers have experienced a certain degree of stagnation. A more stable overall economic performance and increased interest from foreign retailers might nonetheless help to tip the scale back towards growth.

International retailers are once again interested in investing in the Egyptian market. However, consumers’ buying power continues to be influenced by the weaker pound, causing real estate companies to be more creative with their offerings. Developers are now providing extended payment terms, and firms are looking to enter the value retail market to attract a larger pool of buyers.

A number of other retail space dynamics are influencing rent prices. Although part of the market saw a 10% increase in rent in the third quarter of 2018, that figure is largely linked to contractual rent increases in the city’s prime retail malls, which have dollar-denominated rents. However, second-tier retail mall areas have reduced their asking rent costs by 11%, partly due to an increase in competition as new retail spaces have joined the market.

Rent prices are also likely to be determined in part by the steep increase in GLA observed in the retail market in recent years. GLA has risen from 1.4m sq metres of retail space in 2015 to 1.9m sq metres by the third quarter of 2018. Supply is projected to increase even further in the near future, with the market adding as much as 300,000 sq metres of retail space across 2019 and 2020 combined.

Hospitality Segment

One real estate subsegment that is likely to benefit from the lower value of the Egyptian pound is the hospitality sector. Long a strategic economic asset and an important source of foreign currency, the tourism sector has observed a large degree of volatility in the post-2011 period. Political and economic instability deterred many tourists from visiting Egypt and the wider region, and a string of terrorist attacks, including the 2015 targeting of a charter plane in coastal Sharm El Sheikh, triggered a steep fall in tourism numbers.

This trend, however, appears to be reversing, which could help to revive the hotel business, as the government has made efforts to rebrand Egypt as a tourist destination. Meanwhile, existing hotels have undergone refurbishment, and new hotels are under construction to accommodate increasing demand, particularly in the new cities. To this end, international hotel chains are demonstrating increasing interest in establishing operations in Egypt. In March 2019 UAE-headquartered TIME Hotels announced it was opening a central reservations office in Egypt, illustrating the country’s potential as a centre for the leisure segment (see Tourism chapter).

Cairo has also long been a destination for business tourism. The city’s supply of lodging options has remained fairly consistent: the number of hotel rooms in the city increased slightly from 21,300 in 2015 to 23,000 in the third quarter of 2018.

The positive outlook for the hospitality sector is anchored in occupancy rates, which increased from 64% in the third quarter of 2017 to 70% in the same period of 2018, indicating significant growth in demand. The city’s hotels have also performed better according to other indicators, such as the average daily room rate, which rose from $88 to $95 year-on-year between the third quarter of 2017 and the same period of 2018.

A small increase in the number of available rooms is expected in the near term. The sector added around 620 new rooms in 2018, and an additional 640 rooms are scheduled to come onto the market in 2019 and 2020. Developers have also begun to shift construction away from Cairo and other traditional hospitality sites to focus on new cities.

The new supply is tapping into areas such as Maadi, south of central Cairo, and New Cairo, where much of the new premium office space is located. Construction of the new capital city also bodes well for the hotels segment: according to government projections, the new capital is expected to have up to 40,000 hotel rooms once completed.

Outlook

Egypt’s real estate sector seems poised to remain dynamic in the coming years, as its main drivers – private investment by home buyers and government-led, large-scale developments – continue to stimulate growth in the residential market. However, efforts to improve affordable housing delivery must be a priority if the country is to resolve its current housing deficit.

The high-end residential market remains a top performer for the sector, though as developers become increasingly pressured by a higher degree of competition and costs, they will need to extend their reaches beyond the small number of wealthy buyers that traditionally drive the market. Extended payment terms, in addition to real estate products that have been scaled-down to attract middle-income buyers, are strategies that will sustain the market beyond its current difficulties.

Other segments such as hotels and office space will be more closely linked to the country’s overall economic performance. Egypt’s ability to attract new foreign investment will have a direct impact on the construction of new office space.

All types of real estate development will continue to sustain higher input costs in the foreseeable future. Land prices and the higher cost of building materials – rooted in a weaker pound and rising energy costs – mean that developers will need to be sensitive to the market’s ability to absorb new supply.