In this episode of our Insights Series Adam Bronts, CEO of Castlerock, shares his expert insights on commercial property. Benefitting from the recent turning of the interest rate cycle, commercial property investment can offer investors steady income from assets with capital growth potential.
Castlerock specialises in government-leased assets delivering purpose-built, high-spec buildings in often regional hubs. Their hands-on management and long-term relationship focus has created a track record of sticky tenants and steady returns.
This episode offers valuable insights into how commercial property can anchor a portfolio with reliable income and capital growth potential, especially in a market where quality, location, and tenant strength matter more than ever.
Hello, I'm Darren Connolly, CEO at Investment Markets, and I'd like to welcome you to the Super Six. Six experts, six asset classes, and one outlook for your investment portfolio. Before we start, however, I need to remind you that this is all general advice and general information only, and nothing that you see or hear should be construed as an investment recommendation. You will need to decide what is right for you. With me today is our expert on commercial property, Adam Bronts, CEO at Castle Rock. Welcome, Adam.
Thanks for having me.
Now, Adam, we're looking at commercial property as an asset class. What have been the main themes in that asset class in the last 12 months?
Yeah, I think, look, over the last 12 months, we've now seen some stabilization of interest rates and the conversation was really around interest rates dropping. So, earlier this year, that's now really stabilized over the last sort of six months. And that's probably had a positive effect on the property market. It's become a bit more buoyant is certainly what we're seeing in this last six-month period. And we're certainly seeing some good transactions come through from a retail perspective down to QSR, suburban shopping centers and the like. I think office is still, certainly down here in Melbourne, there's still some struggles with that. A lot of people holding onto their stronger assets in the office market. We're starting to see some of the more B grade office come to market and probably selling for a little bit less than what the vendors had expected.
Do you expect values to then start to pick up in that space?
Yeah, look, values in office have always been driven around yields, right? So the stronger your tenant, the stronger your covenant, the stronger your WALE, the stronger the lease profile of that building is always going to push up the values of those assets. So that's why I say we haven't really seen a lot of transactions of strong, well-covenant buildings over the last sort of even couple of years, really, that's going to help define that marketplace at the moment.
So you think people are sitting things out for a little bit and waiting for a new dawn, so to speak?
Absolutely. So are we through the bottom yet? I don't know. Maybe. Yeah, sure. But we're certainly close.
Well, the game isn't really to time the market, Adam, is it?
No.
It's to stay in.
That's it.
Now, Adam, what separates your approach at Castle Rock from others within the commercial property sector?
So we've had a really targeted approach to the acquisitions and developments that we do for our funds, and it's really been centered around government lease property. And furthermore to that, it's really been centered around government lease property beyond the CBDs of Australia. And what we mean by that is locations like Bendigo, Ballarat, in locations here in Victoria or Townsville, Mackay and things like that out in Northern Queensland. And we've operated up and down the entire eastern seaboard and over into WA and down into Tassie as well. The reason why we're focused really particularly on this asset class is because we found that government in these locations are very sticky tenants. They tend to occupy the best possible building in that location. That's usually purpose-built for them. And if you can get in there and maintain the building and manage the tenant well, they remain very sticky tenants.
Well, it's probably fair to say that government tenants don't want the worst building on the street, so how does that fit with what you do?
Certainly. I think a good example is an asset that we own up in Townsville in Far North Queensland. It was built about 10 years ago now, purpose built for the Queensland state government, and it has what's known as an importance level four on that building.
You're going to explain what that means?
The Importance Level 4 building can withstand cyclones. It's a place of shelter in the event of an emergency in those locations. And the Queensland government uses that as a place for their emergency services to come together in an event of an emergency and they know they can operate out of that building during that period of time. So it's got its own backup power. backup water storage and backup sewerage as well. The reason why that's important is because there's no other building in Townsville or Far North Queensland that can accommodate 11,000 square metres of A-grade office in that space.
That could be the whole market for A-grade office space.
Up in Townsville, yeah. So that makes them very sticky. They need to be up there in Townsville. That service needs to be provided up there. And so if we can continue to maintain that building to a high standard, they'll remain as a good tenant.
And how did that asset originally come around? What was involved? How did Castle Rock get involved in that?
So the asset came by, there was probably about 11 or 12 different occupying tenants inside the building, and they would have been dotted around in many smaller substandard offices in that time. So the government see opportunities like that, where they can consolidate a lot of departments that tend to work together into one asset, and then they can get a purpose-built asset built out of the ground for them to their specification.
Given the way you've described the asset, I assume that building something like that or developing it is not as straightforward as just doing an A-grade office building.
Absolutely. They are very, very bespoke and usually government have a document that thick that will describe exactly what their needs and requirements are for assets like that in the regions.
So that's something then that Castle Rock have done in multiple assets around the country?
Absolutely. We started off working with Centrelink all over Australia. We were known as the Centrelink guys. We're out there in places like Carnarvon and Broken Hill developing assets for the Commonwealth government out there. And since then started really closely working with Victorian government, WA government and Queensland government really to develop and put these things in place.
So it's become a niche, a specialism?
Yeah, for the last 20 years, we've grown to love it. We really enjoy the challenges and the opportunities that come from working with governments. It can be frustrating for some, but we certainly enjoy it.
Adam, how should investors think about commercial property within their portfolio?
So play is from our perspective a defensive and income play. So having your capital put in a place where you know you've got to get some stable growth in that capital, yeah sure property prices come up and down with the market. But if you've got that consistent income coming in from those assets, that provides a good base layer for your investment portfolio. The way that we've been managing our risks is really through making sure we've got that strong government tenure with the leases, and a lot of those are long-term leases with government, especially if we're developing a brand new one for them.
Can you give us an example of how long some of those leases might be?
Yeah, certainly. A few years ago, we just finished a building with the WA state government on an initial term of 15 years, and they'll generally have five-year options post that as well. However, we've just finished from the Victorian government and that was an initial term of 10 years. I think importantly to know though, it'll generally take them five or six years to even consider whether they want to relocate into a new building, let alone get it developed for them as well. We do see them as very, very sticky long-term tenants.
So you've got a long tenure of security, if I can put it that way, of income in these assets with, and I assume that government clients tend not to chop and change. Correct. In buildings very frequently.
Yeah. And especially if you're looking after them really well, like we've done a solar panel rollout for some of our older assets. We're currently going through a rollout of EV charges through a lot of our buildings because we've noticed that government looking to move more to EV vehicles now. It's really making sure those assets stay up to date with current government requirements, which makes them quite sticky.
From an investor's point of view, they know that the assets that you're in have got that security of income over quite a long time frame.
Over a long time. To date, we've never had governments move out of any of our assets in our two funds that we're running.
That's amazing. Past performance is not a guide to the future, but that's an amazing record.
And that just goes to, we manage our buildings in-house ourselves and we build really strong relationships with our government tenants. We don't sort of outsource any of those management that happens in here. And they know that the people who are either developing these assets for them, they can call us up and go, we're having this issue. And it gets fixed straight away.
And that's a little bit different to the industry in general, but quite unusual to see people like yourselves actually manage the building. It's usually outsourced.
Absolutely. And we see ourselves as like the property partner for government. We're not sort of a landlord-tenant type relationship. We're partners in this process and we build those long-term relationships with them.
Adam, what should investors with a conservative risk profile consider when investing in this asset class?
I really think number one is finding the right manager, someone who really knows their stuff because a lot of these assets can be quite fickle. If you don't know really how to manage them, there's a really deep knowledge and they can be quite technical at times as well. Having a really good understanding of these assets and managing them properly is probably paramount. At the moment, we're distributing about 7.85% distribution rate. That's the forecast. To date, we've done about a 10.1 annual return year on year. Where does it sit in the conservative nature? It's fairly risk adjusted in that sense. We're not going to be throwing out the larger returns like the private credit guys might be doing. We're a bit more conservative than that. We've got a slow but steady growth on your capital, but also a really strong income stream coming out.
So for investors who are maybe in retirement or close to retirement who are focused on that income piece, this potentially, and not a recommendation, this could potentially be in their sweet spot.
That's right, that's right. So there's a distribution coming out every quarter that they know that's going to come up.
Hits their bank account regularly.
Hits their bank account, they can see it there.
What should investors who've got more of a balanced profile, so maybe a little bit more focus on capital growth, how should they approach this asset class?
Look, I would think it's very, very similar to someone who's got a more conservative portfolio. It does what it does, what it says on the tin, distributing about 7.85% forecast distribution rate at the moment. And as I mentioned before, a 10.1% annual return. So it's sitting there and provide that income stream that they might be looking for during their retirement.
So for investors with a conservative or a balanced outlook, commercial property can really play a very core stabilizing role in their portfolio.
Especially if you're looking for that income, that's right.
Adam, what is the outlook for commercial property? As somebody who's been in the asset class for a long time, what really excites you about it right now?
There's quite a few drivers. There's still a good push from governments to decentralise out of CBDs of Australia and start to push out into the regions. There's going to be a supply and demand gap there, as there already is anyway. That's going to help start to drive rents up. The cost of construction is also going to start to drive rents up to get new buildings out of the ground is just far more expensive than what used to be pre-COVID.
It's never getting cheaper.
It's not getting cheaper. I can assure you, we're doing a renovation at home at the moment and that's blowing budgets. But what we're also seeing is I think the government lease sector was unfairly I guess partnered with the office sector when going through the valuation cycle and offices got its challenges and we spoke about some of the challenges here in Melbourne just before. And so we've seen some unit price decrease and asset value decrease. So the opportunity looking forward really is that now once we're coming away from that space, We should see asset prices go up. There's more demand in the marketplace now for these strong income-producing government-tenanted assets. We're starting to see that start to play out a fair bit now as well. People are getting back on the bandwagon looking for those sorts of assets now.
And is demand from government or other tenants like that, is that increasing? Are you seeing that?
We are seeing that. Certainly in the buildings that we've got, like they're very happy, they're happy to stay, they want to be there, but there's still a consolidation playing a lot of our more regional locations where they've got might have three or four offices and they're still looking to consolidate those into one larger, more high performing asset. But also moving through now to governments looking for neighbours energy ratings of five and five and a half stars and that's going to start to push the requirement for high quality office space in those locations.
I would guess with the experience that Castle Rock has, being accustomed to all the ins and outs and requirements from government is something that not just anybody can step into.
We've been doing it 20 years so it's been a long time and it's been a long journey for us.
Okay, that's been very interesting today, Adam, for your insights and expertise in commercial property as an asset class. Thank you very much for your time.
Thanks so much for having us. Thank you.
Thank you for watching. For more insights from the Super Six and to search, find and compare hundreds of investment products all in the one place for free, go to investmentmarkets.com.au.
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