Can a Big Real Estate Deal Make Berlin Affordable?

(Bloomberg Opinion) -- Plenty of M&A deals make sense and yet never happen because of politics, personality or pride. The creation of a $40 billion German real-estate champion by combining Vonovia SE and Deutsche Wohnen SE is one such hardy perennial that could be attempted once again when the pandemic eases. There’s no doubting the value creation. The tricky part will be sharing it out fairly.

Capitalized at 24 billion euros ($26 billion), Vonovia is considering an approach for its peer, which is worth 13 billion euros and focused on the hot Berlin market, Bloomberg News reported on Wednesday. Investors have long encouraged the idea given the evident economies of scale in property management. An attempt to hook up failed in 2015, when Deutsche Wohnen and its shareholders objected to the price being dangled. Today, politics are as big an obstacle.

Rents in Berlin, a vibrant capital city with lots of parks and a lively art scene, are a political hot potato. A clamor for the renationalization of the listed landlords morphed into a policy of blanket rent caps, which some property owners are contesting. That could be a poison pill to a deal. Yet, if pitched properly, a tie-up could equally provide the context for reaching a new accord between politicians and the public, revising policies on rent and generally creating a more stable climate for investors. The key is showing that the value creation available here could help attain the public policy goal of increasing affordable accommodation.

The combined workforce would not be large — around 14,000 — relative to the asset base. A lot of the legwork of property management is outsourced, which means the burden of cost savings would likely land on third-party contractors. The pain involved in cost reduction would therefore be less visible here than in some corporate takeovers. But the reality is there can be no savings without an impact somewhere.

Assuming a combination can fly politically, Deutsche Wohnen’s management and shareholders are still a possible obstacle. Will it really be worth it for them? A transaction would have to be all stock. This is no time for Vonovia to be taking on more debt to pay out cash. In any case, targets don’t like to accept cash when it crystallizes a fall in their valuation driven by a market sell-off. A holding in the combination would give Deutsche Wohnen shareholders a stake in the benefits, making it hard to argue for a big premium.

Takeover top-ups aren’t high in real estate anyway. Vonovia’s offers in its recent deals have on average been just 15% above the target’s pre-bid closing price, according to analysts at UBS Group AG. In practical terms, that would mean giving Deutsche Wohnen shareholders close to a 40% stake in the enlarged company, against 34% based on their share of Wednesday's combined market values.

A deal would make sense and Vonovia is right to reheat the idea. Squaring the circle this time round won’t be much easier than last time. But if others in the sector start huddling together, there will be increased pressure to compromise and hammer out terms.

This column does not necessarily reflect the opinion of the editorial board or Bloomberg LP and its owners.

Chris Hughes is a Bloomberg Opinion columnist covering deals. He previously worked for Reuters Breakingviews, as well as the Financial Times and the Independent newspaper.

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