Smart Cities: Implications for the Real Estate Sector

Investment Highlight November 2016 Smart Cities: Implications for the Real Estate Sector Synopsis Key Questions Smart Cities Examples of Smart Technologies Key Impacts Implications for the Real Estate Sector How can Participants Proactively Respond? What are Smart Cities? How will they impact on urban development? What are the implications for the real estate sector, and how can participants prepare for these changes? Systems that measure, analyse and influence the functioning of cities; Facilitated by two technological frameworks: Internet of Things (IoT); and Big Data. Smart buildings; Smart energy grids; and Driverless cars. More efficient utilisation of infrastructure; More informed / evidence-based decision making; More engaged citizens; and More resilient cities. Smart developments will attract a premium; Customers will demand more; Flexibility is key; Real estate is shifting from asset to service; Developments will be informed by data; and Collaboration will drive the best developments. 1. Have a Smart Cities Strategy; 2. Address Capability Gaps; 3. Have a Tech Investment Framework; and 4. Engage with Key Participants. Overview Smart Cities seems to be one of the most fashionable concepts in urban policy right now. However, the true meaning of the term is often obscure, being frequently used in different contexts, and often heavily layered with tech industry jargon. This paper aims to clearly define the concept, investigate its potential impact on urban development, and outline possible implications for the real estate sector. We note that this topic is frequently associated with sub-topics (such as smart buildings and driverless cars) and related trends (such as the sharing economy ). Whilst only dealt with in broad terms here, these are all topics that will have significant impact on the real estate industry. Essentially, Smart Cities are made up of a wide range of devices with data collection and signaling capabilities that are connected via an online platform. Combined, these elements create a system that is able to measure, analyse and influence the functioning of a city. Key to [Smart Cities] is the idea of measurement; of infrastructure, buildings and activities reporting their state and behaviour to systems that learn and adapt in response. Arup, 2011 1 At its core, Smart Cities is about efficiency. The concept and the myriad of emerging technologies supporting it create the possibility of cities that function better than they currently do. The real estate industry has the potential not only to shape the evolution of Smart Cities, but also be one of the key beneficiaries of this new technology. 1 Arup, Smart Cities June 2011

What are Smart Cities? Figure 1 Smart Cities 4 At the heart of the Smart Cities concept is the idea of using data to measure and improve the performance of urban systems. As described in one journal: A smart city is a place where traditional networks and services are made more flexible, efficient, and sustainable with the use of information, digital and telecommunication technologies, to improve its operations for the benefit of its inhabitants. 2 Smart Cities have been facilitated by the emergence of two closely related technological frameworks: Internet of Things (IoT): A network of physical objects / devices (anything from buildings and vehicles to street lights and garbage bins) that are able to send and receive data, and a software platform that allows them to communicate; and Big Data: An umbrella term for modern computing technologies and techniques that have allowed the capture, storage, processing and analysis of large volumes of data (e.g. Machine Learning is a method whereby computers can analyse large datasets and make predictions without explicit assumptions on the nature of the data). When combined, these two frameworks allow for the establishment of urban systems that can collect a vast array of data related to the functioning of a city in real time, analyse this data and adapt the system in response. Smart Cities systems are capable of learning by monitoring responses to controls and adjusting accordingly to optimise performance. Moving out of the abstract, Navigant Research estimates that cumulative global investment in Smart City technologies is expected to total $174.4 billion from 2014 to 2023. 3 According to Navigant, areas where much of the demand is occurring include: Smart grids; Advanced water monitoring systems; Transportation management systems; and Energy efficient buildings. These examples demonstrate that the first wave of Smart Cities technologies is focused on improving the efficiency of city infrastructure, particularly those delivering utilities such as power and water, and transport systems. However, the potential of Smart Cities extends well beyond utilities and transportation, potentially impacting on areas as diverse as city governance, healthcare, education and policing. Smart Cities initiatives are typically instigated by metropolitan authorities, often in conjunction with local universities and private sector tech companies. Cities with active Smart Cities policies include: Amsterdam, Netherlands: the Amsterdam Smart City initiative focused on themes of Infrastructure & technology; Energy, Water & Waste; Mobility; Circular City; Governance & Education and Citizen & Living. Barcelona, Spain: the City OS strategy includes initiatives such as public transport, parking and irrigation systems. Manchester, UK: the CityVerve project is focused on the areas of Health & Social Care; Energy & Environment; Travel & Transport and Culture & Public Realm. New Songdo City, South Korea: the Songdo International Business District aims to be a proving ground for smart technologies, including infrastructure and services provision. Singapore: the Smart Nation program has initiatives around Health, Living, Mobility and Services. 2 Mohanti, Choppali & Kougianos, Everything You Wanted to Know About Smart Cities IEEE Consumer Electronics Magazine, Volume 6, Issue 3, July 2016, pp. 60--70. 3 The Urban Developer, September 2015 4 Emerge Capital Partners, 2016

What Will Their Impact Be? Smart Cities literature suggests that their main benefits will include: More efficient use of infrastructure: Smart Cities systems will enable much more efficient use of physical infrastructure and assets. Examples include more reactive supply (e.g. on-demand transport services like Uber, building information systems that only heat/cool levels that are occupied) and demand management systems (e.g. dynamic road congestion charging). This ability to sweat existing assets harder will allow existing urban systems to handle more users without the need for capital intensive new infrastructure. More informed decision making: Rich new data sets and advanced methods of analysis / prediction will allow for more informed decision making by government authorities and private investors. For example, data on pedestrian movements may be used by governments to prioritise public realm investments, and by private companies to optimise retail networks. A more engaged population: Smart Cities will also enable users to interact more directly with urban systems and also decision makers. Ubiquitous connectivity through mobile devices, computers and other portals will allow users to access data, request services and provide feedback. As disruptive tech businesses increasingly offer on-demand, personalised services at the swipe of a finger, consumer expectations are growing that all urban systems will offer this level of interactivity. More resilient cities: A key benefit of Smart Cities technology is the adaptability of systems, as they are able to measure data in real time and adjust their functioning accordingly. This will lead to more resilient cities that are better able to respond to events such as natural disasters, economic shocks and political shocks. So what effect will all this have on the shape of cities? It is important to consider that technology is an enabling factor rather than a driver of demand, and land use patterns will continue to be driven by more human demand drivers. To this end, we observe that recent trends in Australian Cities have been towards urban consolidation, driven by factors including access to more employment opportunities, and greater density of services and amenity in CBDs and inner cities. Although difficult to predict, we believe that Smart Cities technology will facilitate this trend, rather than reverse it. Beware the Futurists Technological advances seem to come hand-in-hand with self-styled fortune tellers predicting how they will radically change the way we live. However, it is important to recognise that these forecasters have a poor track record of success, and that the impact of new technology on the urban fabric can be unpredictable. To illustrate this point, it is clear that few would have predicted that the first Model T Ford rolling off the production line in 1908 would lead to the mass car ownership that facilitated suburban sprawl, radically reshaping the cities of the 20th Century. With each advance in telecommunications (phone, fax, internet, broadband), pundits have incorrectly predicted the hollowing out of CBDs, as workplaces are de-centralised. In fact, the opposite has occurred: as observed by the Grattan Institute, despite decades of advances in communications technology and government policies aimed at decentralisation, Australian CBDs have only increased in economic importance, accounting for a 15% of the national economy in 2011. This is because in a service-based economy, physical proximity and face-toface contact still matter perhaps more than ever. Challenges for Smart Cities As an evolving paradigm, there are several key challenges that will affect the implementation of Smart Cities and their eventual shape: Horizontal platforms: Proponents argue that there are increasing returns to scale when creating Smart Cities systems. However, this requires the creation of software platforms that can integrate data from a diverse range of devices made by different manufacturers and using a variety of signalling technologies. Data governance / ownership: Whilst many proponents of smart cities advocate for open platforms with free access to data, this raises a number of issues around privacy and the sharing of proprietary datasets by private entities. Therefore, data ethics and governance are becoming key topics of interest in the emergence of Smart Cities. Security: Closely related to data governance is the issue of security, and the potential for urban systems to be vulnerable to cyber-attack and / or criminal exploitation.

Implications for the Real Estate Sector Key implications of Smart Cities technologies for participants in the real estate sector include the following: Smart developments will attract a premium: By creating buildings and precincts that operate more efficiently and are more desirable for tenants, developments with Smart technology should attract price premiums as they become more attractive to buyers due to lower operating costs and better retention of value. Customers will demand more: Smart technologies will increase the connection of participants with their customers, through new online sales channels and building / precinct management platforms. Indeed, the ubiquity of interactive technology and tailored services is leading consumers to have increasingly high expectations of service providers. Those who do not keep up with this new paradigm risk being left behind. Flexibility is key: Smart technology is a key facilitator in trends toward more flexible property uses (e.g. coworking, Airbnb), which in turn is increasingly seeing the lines between traditional property uses blurred. Developments of the future will need to be designed with greater flexibility in mind, to allow technologies to drive the most efficient use of these assets. vacancy risk, with the option to defer risk to operators with head leases (e.g. WeWork, TOG) gaining prominence. Developments will be informed by data: The increased availability of data from public and private sources will improve the quality of evidence available to justify investment decisions, make planning arguments, tailor master plans and building designs, etc. Participants will need to understand these emerging data sources and how they can capitalise on them. Collaboration will drive the best developments: As Smart Cities pushes the frontiers of technology and urban governance, participants will need to collaborate with multiple stakeholders to develop bespoke and innovative solutions for development challenges. As the returns to Smart technology are expected to increase with the scale of its application, understanding how developments fit into the broader Smart City ecosystem is vital. Stakeholders include Smart Cities software and hardware providers, state and local government authorities, and end users. Figure 2 Smart Cities Technology Providers, 2016 5 Real estate is shifting from asset to service: Greater transparency in the performance and access to real estate has led to a shift from traditional leases, to service-based models with shorter more flexible leases, or even no leases. Property investors need to measuredly consider How can Participants Proactively Plan for Smart Cities? With customers increasingly demanding the kind of responsive and personalised services that are facilitated by smart technologies, it is recommended that property companies take a pro-active approach to the sector: Initiative Description How Emerge Capital can Help 1. Have a Smart Cities Strategy 2. Have a Tech Investment Framework 3. Address Capability Gaps 4. Establish Partnerships with Key Participants Rather than approaching in an ad-hoc manner, a strategic approach is recommended to understand the nature and size of the opportunity, and its alignment with corporate strategy. A rigorous framework for assessing the benefits of investing in new technologies, including flywheel benefits, is recommended. A strong internal skillset is recommended, which depending on the size and nature of the opportunity, may warrant creation of a CTO function. As a key contributor to and potential beneficiary of Smart Cities infrastructure, property companies should engage with governments and tech industry leaders to help shape Smart Cities policy and the emerging data ecosystem. We work with closely with management teams to create pragmatic strategies and business plans. We have a strong track record in developing investment business cases for leading real estate companies. We often work with management teams to review internal capabilities and identify gaps. We help clients by identifying strategic partners. 5 Navigant Research, 2016

Case Study: Songdo International Business District Location: Developer: Development: Incheon, South Korea New Songdo International City Development (JV between Gale International & Posco) Ubiquitous City (Smart City) Size: Description: Outcomes: 600 ha 3.7m sqm commercial 3.25m sqm residential 929,000 sqm retail Reported as the largest private real estate development in the world; Project vision, initiated by Korean government, aims for district to be a proving ground for smart technologies; Tech infrastructure built and managed by Songdo U-Life, partnership of New Songdo City Development and Cisco (formerly LG) based on a for profit model; Developers also collaborate with other tech companies (e.g. Microsoft, 3M, LG) and research bodies to deliver smart infrastructure. First district in Korea to receive Leadership in Energy and Environmental Design (LEED) accreditation; Over 1.8m sqm of LEED-accredited buildings completed; Over 14,000 residential units sold; Innovative precinct infrastructure (e.g. pneumatic waste system eliminates need for garbage trucks). Case Study: The Edge, Amsterdam Location: Amsterdam, The Netherlands Developer: Owner: Development: OVG Real Estate Deka Immobilien Smart Office Building Size: Description: Outcomes: 40,000 sqm Developed by OVG to suit the requirements of the main tenant, Deloitte; Designed with agile, high-performance workspaces, which encourage innovation and collaboration ; Smart Building technologies provided by Schneider Electric and Philips Lighting; Includes 28,000 sensors - motion, light, temperature, humidity and infrared; Tenants can control light and climate settings and request services (e.g. food delivery) with smartphone app. Described as the world s greenest building with a BREAMM rating of 98.36%; Reported to generate more energy than it consumes; High level of tenant satisfaction, with Deloitte reporting increased staff engagement and satisfaction; According to OVG An environment such as The Edge leads to lower energy and maintenance costs, reduced sickness leave and higher productivity which ultimately achieves a much better financial performance ; Sold on completion to Deka Immobilien for 200m on a passing yield of 6.5%.

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