Negotiating outsized returns in the Italian market

Eduardo Vigano, sales director of Telemaco Immobiliare, is a man with an unenviable task. He has to sell some 300 buildings, mainly offices, over the next three to four years, into what was barely recognisable as a genuine real estate market until a few years ago. The market is Italy, and Telemaco Immobiliare was spun off holding the property assets of Telecom Italia earlier this year.

Last week, it unveiled its sales plans, under which it must sell some £571m of properties, of which a fifth account for 80 per cent by value.

If Telemaco wants to justify its existence beyond the sales period, it will have to convert itself into what does not now exist in Italy: A property management company.

That Telemaco exists at all - and indeed, that investors competed to get a piece of it - is a testament to the profound changes emerging in Italian real estate.

Characterised by poor transparency, limited liquidity and, until the 1990s, a level of personal corruption, Italy's property markets have lagged behind their peers in Portugal and Spain. Both supply and demand have been distorted by the large role played by government in property.

Speaking in Rome last week at a conference on Italian real estate, Marcello Romano, partner at Deloitte Touche Tomatsu, pointed out that some 67 per cent of all commercial property is either owned by government entities or by government-funded pension funds. Rent-producing commercial properties, such as those that fill the portfolios of US and other European institutions, simply do not exist on the same scale.

With the Italian government's resolve to join the European currency, trimming spending and reducing the budget deficit became national priorities; the high percentage of commercial property in government hands could be used to meet those goals.

Telemaco is a product of that process. Telecom Italia was privatised several years ago and, in a drive to reduce debts, took a hard look at its real estate. It was one of the first European telecoms providers to realise that its core business did not require it to own a large and sprawling estate.

Other former state-owned enterprises, such as insurance companies, energy providers and railway operators, are jumping on the bandwagon. But by all accounts, Italy is one of the most difficult markets in Europe. Franco Gardella, director at Orion Capital, a US-based opportunity fund, says the main stumbling blocks lie with Italy's multi-layered legal system. It is so cumbersome, he says, that counterparties to a contract cannot feel confident that they can resort to the courts for redress. "This forces contracts to be long enough to cover every eventuality," he says, adding that going to court is a long and expensive process. Arbitration is no less so.

Mr Gardella cites a recent transaction that Orion eventually abandoned because the fund could not feel confident the seller would deliver the completed asset as described.

Of course, he notes, the problem of a burdensome legal system does not just hamstring real estate; all economic activity is affected.

Moreover, obtaining planning consents is a time-consuming experience. Italian newspapers this week have been filled with outraged articles noting that the crash at Milan's Linate airport could have been averted had a ground radar system - largely ineffective since 1994 - been replaced. According to press reports, so many licences and permissions were required for its import and installation that even now, in 2001, the project is incomplete.

According to Mr Gardella, the effects of the administrative burden on real estate may be less tragic, but they remain no less of a hindrance: the average shopping centre takes 15 years to complete, he says.Also, by some accounts, the traditions of unsavoury practice in real estate remain in some quarters. "There have been times when someone came to me and said, 'If your fund buys this property, I will make you rich in Switzerland'," said one US-based investor.

But if investing in Italy is so tough , why were 250 people prepared to show up at a Rome conference on the subject? The answer is simple. Those who can exploit the inefficiencies of the Italian market will earn outsized returns.

Norma Cohen

The Financial Times service