Early developments, far reaching consequences

Steven Shone, Managing Partner of law firm CMS Cameron McKenna, the only property lawyer in Poland rated by 'European Legal 500' as ,highly recommended", has practised real estate and construction law in Poland since 1992.

Apart from one year practising criminal law upon qualification, Steven Shone has been involved in real estate and construction for the best part of his life. His father owned a building company for which he often worked as a labourer. He has, he says, ,carried a few thousand bricks" in his time. It was the property crash in the UK that brought him over to Poland in 1992, with a plan to represent local authorities rather than private investors. But things turned out a little differently than planned. ,We saw the opportunities very much in terms of urban regeneration," he says. ,But of the hundreds of instructions we've had since then, only three have been according to the plan." Like his competitors, Shone has worked mainly for the private sector.

An artificial market

From the beginning the property market in Warsaw has been artificial, claims Shone. ,Too much land is concentrated in too few hands. Gminas (local authorities) leak land onto the market in a controlled way and try to retain too much involvement. Their planning powers should be enough for them to regulate development properly. The market could have developed faster if it had been possible to buy land on the free market from private individuals." But wouldn't that have led to an early bust? ,The cycles always work themselves out in the end. You can only rig a market for so long." For this Shone believes that he has to shoulder some responsibility. ,It's partly my fault because on the first phase of Atrium (Skanska's office project on al. Jana Pawla in Warsaw's city centre) my team (representing the Gmina) helped develop and implement the concept of a local authority contributing land for shares, rather than selling to the developer. Local authorities liked this because they were starved of income. It allowed them to exploit their land assets to fund their social and political obligations." This, he says, led to ,interesting market tensions". ,If you were cynical you would say, ,A local authority which partly-owns a development project has an interest in it being profitable and commanding the highest rent. Are they really going to sell the site on the opposite corner to a competitor?" Looking back on it I think it was a bit of a disaster for Polish society. It allowed some deals to be done and the market to develop, but in an artificial way."

Perpetual usufruct - a communist invention

To Steven Shone's mind, the most 'bizarre' phenomenon of the last 10 years is the proliferation of the perpetual usufruct. ,From the developer and investor's point of view it's fine. They have a 99-year interest for in theory 25% of the site's value and 3% a year.
Functionally, perpetual usufruct is equivalent to a long ground lease so it's perfectly sound from an investment point of view. But from the point of view of the public authorities themselves it's a poor investment. They have turned freely disposable assets worth many millions of dollars into something that can only be sold to the tenant.
To my mind they've destroyed the value of their capital because a free-hold subject to a perpetual usufruct isn't tradable, and what's the value of an asset you can't trade?" Shone believes the use of perpetual usufruct in this way was a policy decision by local authorities ,because they wanted to maintain control." He goes on; ,It wasn't designed to be used to create an investment portfolio for local authorities. It was a communist invention to allow government to put land into economic use without admitting they were transferring it to the private sector." He cites the Sheraton Hotel, where the local authority sold the land freehold, as an example of how it could be done. ,There's no reason the authorities could not have sold other freeholds" he says. Had they done so, and invested the sale proceeds in securities, they could have done better without distorting the real estate market."

The institutional investors arrive

The biggest change in the market over the last 10 years, Shone says, is the relatively recent arrival of institutional investors. This is forcing the ,professionalisation" of the ,sometimes rather slapdash" development and leasing process in Poland. Apart from the development of an investment market being hampered by a lack of ,product", Shone claims that many buildings, while technically sound, are unsuitable for institutional investment for various reasons, with badly-drafted leases high on the list. ,Lawyers in this market just didn't think leases were important. Yet they are the key to the investment. The whole point of institutional property investment is that you're comparing income from real estate directly with that from bonds or government securities.
You're buying income, derived from the leases, and you must know what that income really is. If you're buying a building with variable costs you don't know what the net income will be. That's why the concept of ,triple net leases", with all costs passed on through service charges, was developed. As so many leases in Poland are badly-drafted, investors often need them to be re-negotiated before they can go ahead with a purchase."

Risk of a stupid restitution law worries investors

Shone identifies the lack of a restitution law as a continuing worry for investors. ,In some ways it doesn't matter how the problem is resolved.
What investors fear most is uncertainty, and as long as the Polish parliament hasn't passed a law on restitution there's a theoretical danger it could pass a stupid law. As long as people are worried about how it will be handled, it interferes with the market. If it was handled badly, but with certainty, the market would adapt." What does he think the solution should be? ,They need to set out the principles on which expropriated owners are to be compensated. Then they should declare a hunting season of 6 months or a year for people to file their claims.
Any claim not filed by the deadline would be lost forever and much of the uncertainty would immediately be resolved. The problem is that there is no political consensus in Poland on the basis for any compensation.
This problem was resolved long ago in other Central European markets." On moves to electronically register the title and mortgage registration system, Shone believes its advocates are ,trying to fly before they can walk," although he thinks it would certainly be a good idea if the funds are available. ,From my point of view there are simpler reforms to improve the land registration system in Poland that wouldn't involve such an investment." As an example, Shone cites the problem of a buyer's or mortgagee's exposure during the time it takes to register their interests. ,As in England, it should be possible for the buyer or mortgagee to apply for a 'protection period' during which the register is frozen. Nobody could then touch the register until the protected transaction was registered. The concern about registration delays would then be resolved at very little cost. I could draft such a law in 45 minutes. I would prefer to address the simple common-sense things, rather than looking for more glamorous solutions."