Risks Related to Operating Business
In the operating business, we identified the four amber risks (2021: 1) explained below at the end of 2022.
The residential properties held in the Rental segment are subject to a regular valuation process. Details can be found in the notes to the consolidated financial statements in chapter [D28] Investment Properties. Changing overall conditions on the real estate and capital markets mean that future market developments, such as inflation and rising interest rates, could reduce the value of the properties. Lower property values would push up the company’s loan-to-value ratio (LTV), which could have a negative impact on its ability to raise capital. The balance sheet operating risk “future market development leads to a drop in property values“, which was classed a green risk in 2021, was upgraded to an amber risk with an expected amount of loss of >€ 12,000 million (2021: € 4,000–8,000 million) and an expected probability of occurrence of 5–39% (2021: <5%). In order to limit risk, Vonovia is committed to maintaining the current diversification of its portfolio.
The development in the supply of, and demand for, residential properties has a significant influence on the home prices that can be achieved and, as a result, a direct impact on both Adjusted EBITDA in the Recurring Sales segment and the success of Non Core sales. Surplus demand, with variations from region to region, was observed up until the 2022 fiscal year. This shortage has resulted in a steady increase in home prices in the past, creating a positive overall environment for property sellers, also thanks to low interest rates. These positive overall conditions are currently being dampened by rising financing costs, making it more difficult for property buyers to finance the purchase prices being asked for. A scenario in which interest rates were to remain permanently high or increase further could lead to buyers no longer being able to finance the home prices asked for on the market. This would reduce demand and ultimately result in lower home prices, which could represent a risk with an impact on profit and loss for the Recurring Sales segment. The expected amount of loss attributable to the operating risk with an impact on profit and loss “deteriorating residential property market situation with regard to apartment sales/buyer behavior”, which was classified as amber in 2021, was increased to € 375–750 million (2021: € 100–250 million). The expected probability of occurrence remained at 5–39%. In order to limit and monitor risk, regular reporting on sales volumes and prices and regular monitoring of target prices and sales volume targets by the portfolio controlling team has been implemented alongside a process for identifying ideal prices.
With regard to the sale of our development projects, we believe that a risk could arise, in particular, due to changes in the demand situation for individual apartments on the regional markets, as well as in connection with institutional buyers in the context of global exits. Changes in demand could arise due to changes in the cost of capital or for other reasons. The expected amount of loss attributable to the operating risk with an impact on profit and loss “Development sale risk”, which was classified as green in 2021, was upgraded to € 375–750 million and reclassified as an amber risk (2021: € 25–100 million). The expected probability of occurrence was assessed as being 40–59% (2021: 5–39%). In order to be able to respond to market changes early on, in-depth market studies and analyses are prepared at regular intervals and are analyzed in connection with reports prepared by renowned real estate experts. Any market changes that are identified are taken into account when analyzing the real estate portfolio, meaning that they have a significant impact on sales planning. Another measure for limiting risk is the option of switching pipeline projects from sale to rental.
Russia’s war of aggression on Ukraine had a direct and indirect impact on the energy and construction materials markets. Rising energy costs also translated into higher costs for construction materials and led to bottlenecks in the procurement of construction materials in a large number of places. This has resulted in deteriorating overall conditions for construction and modernization projects in the Development and Value-add segments, with negative knock-on effects on Adjusted EBITDA in the segments. We expect this development to continue in 2023. As we have taken a corresponding adjustment to our investment strategy into account in our planning, the risk reflects the effect extending beyond this. We expect the overall conditions to improve in subsequent years. The operating risk with an impact on profit and loss “Higher construction costs than planned due to increases in the price of construction materials & services, as well as supply bottlenecks”, which was classified as a green risk in 2021, was upgraded to amber and evaluated as having an expected probability of occurrence of 60–95% (2021: 5–39%). The expected amount of loss was evaluated at € 40–150 million (2021: € 25–100 million). In order to limit this risk, Vonovia monitors the market systematically while simultaneously developing alternatives, e.g. revising specifications and using standardization to reduce material usage. In addition, critical materials are secured early on and, where appropriate, stored where possible.