Real Estate is Second Largest Sector in Saudi Arabia after Oil

Interview with Mohammed S. Alkhalil, President of FAD Investment & Development

We have seen land and real estate valuations in Saudi Arabia going up by five times in the past few years. Real estate now seems to be overpriced. What is your perception of the real estate sector in Saudi Arabia? What is the outlook for 2014 and 2015?

First of all, thank you for this interview covering the real estate sector in Saudi Arabia. This is a very important region and should be covered.

Real estate is a major issue in Saudi Arabia. It is the second largest sector after oil and gas. Saudis love to invest in the real estate sector. We have a long history with real estate. This sector motivates many other sectors, such as manufacturing, building materials, appliances, engineering, cement, steel and so on; most of these sectors depend on the real estate sector. Real estate is a hugely important sector all over the world. It is a very attractive investment option for Saudis; in fact, the sector is just as attractive as the stock market. It tends to be easier to invest in real estate as opposed to other operational investments.

Real estate is a major issue in Saudi Arabia. It is the second largest sector after oil and gas. Saudis love to invest in the real estate sector.

Without a doubt, some prices are high, others are on average, and others are appropriate according to people’s needs. The reason for this is supply and demand; the higher the demand, the higher the prices. You can see that in some areas of the capital there is huge demand. For example, over the past 3 years demand for commercial properties and shopping malls has been very high and so the prices have increased. There are also some particular areas of the main cities in Saudi Arabia, such as Riyadh, Medina, Mecca and Jeddah, which have huge demand for housing. This is normal all over the world; there are areas that are high-class locations and other areas that are middle class etc. Therefore, it all depends on supply and demand. A certain percentage of Saudis use real estate and land purchase as an investment and this has contributed to the high prices in some areas.

We have faced some problems with regulations and the motivation of developers. The government should address these issues and help motivate developers to build housing. There is a lack of housing, which means supply is not meeting the demand. We need to resolve these issues.

There are also many opportunities for international investors here. Saudi Arabian youth represents more than 60% of the population, which is a positive figure for future growth. The government is spending a large amount, which further stimulates the economy. The economy is doing well overall and is very attractive for investors.

We do need to update some regulations. We have just updated the mortgage law. Obviously, it will take some time for it to be implemented correctly. Improved implementation of the regulations for this sector will help a lot. Additionally, banks today are reluctant to give developers loans; this is another issue that needs to be addressed so that we can motivate people to build. These improvements should definitely help make the prices “normal” and comparable to other countries.

Which segment of the market is over-valued and which is under-valued? Where are you making your investments at the moment?

I think that for each segment it depends on the location. If there is high demand in a certain location, the prices will definitely go up. Right now, housing is the big issue. I think that the commercial segment is a strong sector, and I see that the industrial segment is picking up. I invest a lot in the industrial and storage segment as it seems to be a current trend. For us, it is better to deal with companies than with individuals. I prefer to work business to business because working with individuals’ specific expectations is a bit more complicated. I did begin investing in the housing market, but I moved towards the industrial segment and the storage segment. In these areas, you have to be creative to meet the needs of each company.

What are the possible returns on investment in the industrial segment of the real estate sector in Saudi Arabia?

It depends if it is land development, which would possibly have returns of 20% to 30%, or if it is rental, which would have around 6% to 11%. These are normal, average figures for returns on these segments. In housing, the returns can be between 25 to 35% depending on the location, design, materials used etc. These are yearly appreciation figures with loans and credit.

What areas would you identify as being the most promising for investment?

I would say that now it is the housing segment. The industrial segment is more challenging because it has very specialised needs and the government is a competitor since they are building industrial zones.

In the housing segment, there is a lot of demand for middle-income housing all over Saudi Arabia. I think that in the mid-sized cities there is a desperate need for middle-income housing, more so than in the bigger cities, but overall there is a demand for housing. In the bigger cities, you can sell easily if you are in the right location, with the right design, and the buyer can find the right mortgage.

You also invest in industrial agriculture and other sectors. What are some of the challenges that you face when it comes to these particular investments?

Real estate is my passion and I have been working in that market for more than 30 years, but we know that we have to invest in other areas too, in case of recessions. That is why we are investing quite a lot in food. We are also investing in steel; we are going to set up our own steel factory soon. We also want to invest in creative, alternative energy and agriculture. In some areas we are just silent investors; we are on the board but we are not operational investors.

Why did you choose to invest in agriculture, renewables and the steel industry?

We decided to invest in steel because of my background in the real estate sector, which is seeing good growth. We invest in food and agriculture because they are in demand all the time, even during a recession, and it is very important to make sure you have an constant economic cycle. We invest in renewable, alternative energy because it is the new world trend. You have to work hard for your future; a small investment can pay off in the future.

The agricultural policy here in Saudi Arabia did not prove to be very successful. A lot of underground water has been depleted and it is not renewable. The Minister said that during the last 15 years the country has used the same amount of water that previously had been used over 1,000 years. They are now switching to a less water intensive agriculture. Some segments of the agricultural sector are still not doing very well but there are others, such as milk production that are successful.

Everybody seems to be investing in steel now. It has a big future. Saudi Arabia still imports steel, which shows that there is a lot of local demand. However, there is a lot of competition coming in. Qatar is investing in steel along with many other countries and investment companies.

Yes, it is a challenge but there is no sector in the entire world that doesn’t have competitors. It depends on your management, marketing, engineering and operations. You have to work smartly, you have to work carefully in the market that you are trying to cover, and you have to try to save money on your operational costs. It requires a lot of experience. We are in a joint venture with a huge, international company who has the expertise for this business. As you said, this is a very competitive world and today the world is one big village; if you have supply here then you can always sell outside. You have to find the right channel for marketing.

Regarding the agricultural sector, I totally agree with you. We are investing just a small amount in agriculture and in a very creative type of agriculture. We are not investing in the traditional line of agriculture. We are trying to find a joint venture with an international company to bring new production and marketing techniques here.

How important is it for foreign companies to have a local partner that understands the market here? Do you think it is necessary?

I think that you should never invest in any country without a local partner. A local partner is your eyes in that country; there are industrial, commercial and social issues that you cannot be aware of without a local partner. These things may seem small but they can make a huge impact on your product. I would definitely say that it is very important to have a local partner when you invest internationally and that is the case with investing in Saudi Arabia. A local partner will have experience with the local regulations and will have local connections, which is something that does not come easily to an international investor, even after just a year or two of doing business. You can save a lot of time by partnering with a local company.

Many sub-sectors in agriculture here are not very profitable, such as the segments that are water intensive. Why have you chosen to invest in agriculture?

Yes, you are right, there is a lot of water consumption here for agricultural use. This country does not use new methods for irrigation yet. We want to invest in a certain type of agriculture that uses new techniques and is not water intensive. This type of agricultural investment is our target. We do not want to use a lot of water. Many products are lacking in the Saudi Arabian agricultural market. We are trying to have a joint venture with an international company that has a lot of experience with such products. Water is an issue that we have to consider.

In terms of your returns on investments, are you in double or triple digits?

In real estate, sometimes you have triple digits and sometimes you have single digits; it all depends on the project and the year etc. It is not a fixed operational investment; you do not always know what your income might be. Overall, I can say that we are doing very well.

Are you riding the wave of the economy or are you making a little bit more than that?

We are doing better.

Every investment company must bear in mind that they are only exposed to one market. Is geographical diversification something that you would like to do?

For sure, we have started in Europe and Turkey and we have an investment in Lebanon. We, like all investment companies, need to diversify both geographically and by investment type. Even within real estate, we need to be investing in housing, industrial, commercial etc. We have a good risk management team, which is really important. The world economy is changing a lot; there are lots of ups and downs and so you need to be very careful.

It is very important to have the right local partner. That is the way to success. If you are lucky to have the right local partner then you will be ok. If not, then you have to try again and again. We are trying to save a lot of time by joint venturing with local partners. You have to study the regulations for each country and for each sector. You need to understand the potential for each investment. It is important to investigate a lot before you arrive on the ground.

Which sectors are you targeting abroad?

We are focusing on real estate abroad because it is a market that we know very well.

Which other countries in Europe are you looking into?

Spain, UK, Austria, and we are studying some eastern European countries.

Is Spain really something you would like to do?

In real estate, we think it could be good; we are carefully studying the possibilities. The prices now are very attractive.

You appear to be studying markets that seem to be overvalued. London real estate prices are reachingall-time highs; Austrian real estate prices are exploding through the roof…

In terms of risk management, you need a mature market for a fixed return of 5% or 6%. It is very important to have a market that is very mature in order to get a fixed income for the next 15 years as part of your portfolio.

In the future, what percentage of your funds will be invested abroad and what percentage will be invested in the local economy?

Saudi Arabia is definitely full of opportunities. I would say we will invest 85% to 90% in Saudi Arabian industry, not only because is it our country, but because it really is a good country to invest in. I do think that you need 10% or 15% of your investment abroad for risk management and diversification purposes.

Saudi Arabia is definitely full of opportunities. I would say we will invest 85% to 90% in Saudi Arabian industry, not only because is it our country, but because it really is a good country to invest in. I do think that you need 10% or 15% of your investment abroad for risk management and diversification purposes.

Do you feel that foreign investors´ appetite for investing in Saudi Arabia is reaching new levels?

I think so. With the new laws that are being introduced I think Saudi Arabia is a golden opportunity for everybody. The beauty of Saudi Arabia is that it is not easy to invest here yet and so there are not as many competitors as in other countries. At the beginning, it can be difficult to invest here, but once you are established it becomes much easier. The key thing is to establish an office here in Saudi Arabia. Many companies are not willing to open an office here, but you cannot succeed unless you have a presence here. It makes a big difference to the government agencies and ministries. Once they have an office here, they will be able to evaluate the market over a year or two. I’m sure that they will be successful, even if at the beginning they experience some problems. We can name a lot of big companies that are working in Saudi Arabia and are happy with their performance here.

What other advice would you give apart from establishing an office here?

You need to choose the right sector to invest in. It depends on the company. Manufacturing and petrochemicals are number one in Saudi Arabia. There are many downstream opportunities and we need many services there. There is a lot of government spending going on and they are looking for good contractors. You need to be existing in Saudi Arabia and not working remotely. In my opinion, it is not acceptable for this country to be working with companies that are doing business remotely. It is not good for the country, nor good for the company as they need to be here to be close to their clients.

Saudi Arabia is undergoing a remarkable boom, but we know from experience that in 1985 when the price of oil dropped, Saudi Arabia experienced a tremendous recession. Do you feel optimistic about the future?

I feel very optimistic. The government is doing a very good job. They are diversifying the country’s income. SABIC and ARAMCO are getting bigger. The government is part of many huge projects here. I think we will definitely see a new Saudi Arabia in 5 to 10 years. I would also say that everyone is most welcome to come and work with us.