How everyday investors can tap into the growing childcare sector

Rising demand for childcare services and increased government funding are expected to drive further growth in the early childhood industry, along with investor interest.

^{Investors can get exposure to the childcare industry through the sharemarket.}

PropTrack economist Anne Flaherty says there's been growing demand for childcare centres from a wide buyer pool ranging from smaller private investors to institutions and real estate investment trusts (REITs).

"Childcare assets appeal to a broad range of investor budgets as they can range from just $1 million to well above $10 million depending on the asset," Flaherty says.

If buying an entire centre is out of reach, there are two ways everyday investors can play the sector on the ASX: through a childcare operator like G8 Education (GEM) or landlords such as Charter Hall Social Infrastructure REIT (CQE) and Arena REIT (ARF).

Childcare's appeal to commercial property investors

Growth in the number of children under school age and significant ongoing federal government funding, including further changes to subsidies from July, are helping drive the childcare industry's growth and investment appeal.

^{Childcare subsidies are set to rise from July 2023 under Labor's cheaper childcare policy. Picture: Getty}

The long leases, with initial terms of up to 20 years, and annual rent increases to a quality tenant can provide a secure income stream for investors.

Ray White Commercial head of research Vanessa Rader says rising interest rates slowed childcare investment demand, notably from smaller private buyers, in 2022 with $769 million in transaction volumes compared to more than $1 billion in 2021.

But she expects continued strong demand for childcare assets given the strong fundamental drivers of population growth and high occupancy levels, and the appeal of ongoing, long-term returns for investors.

"The ongoing subsidies offered ensure both vacancy remains limited and daily rates are pressured upwards, and the strong leasing enquiry is testament to the viability of childcare operations and the ongoing attractiveness for ownership due to its secure income stream."

High-net-worth private investors remain the dominant owners of childcare assets, although Flaherty notes there has been a shift over the past decade as more institutional investors look for defensive income streams in what is perceived as a future-proof sector.

"Demand for childcare assets remains extremely strong, particularly in light of deteriorating economic conditions that look set to increase the relative risk of other commercial real estate sectors," Flaherty says.

"Childcare yields have seen significant compression in recent years, beyond that seen in other commercial sectors, as demand for these assets grows."

Significant increases in capital costs due to interest rate rises have started to push childcare yields slightly higher, she adds.

According to commercial real estate agency Cushman & Wakefield, the majority of childcare assets nationally traded on sub-5% yields in 2022 while high-quality centres, typically within capital city areas, achieved sub-4% yields.

Daniel Cullinane, Cushman & Wakefield's head of national investment sales, notes investors are now targeting the assets' recession-proof qualities like stable long-term leases, rather than the hunt for yield that dominated the past few years.

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Cushman & Wakefield's Queensland research manager Jake McKinnon says there is growing demand with high-net-worth individuals, institutions and foreign investors identifying the portfolio diversification potential of investing in childcare centres.

"Investors see favourable fundamentals and can benefit from new subsidies and $4.7 billion in government funding to boost access as demand rises," he says.

"Further funding increases, population growth and increased female labour force participation are expected to continue to drive growth across the sector throughout the coming years."

His research shows strong demand for childcare services and competition for quality locations has led to rents rising 47% on average nationally over the last decade.

Rader notes there has been an uptick in development assets coming to market this year as higher financing costs and elevated building rates put pressure on some developers and vendors, but adds there is ongoing demand to occupy the new centres.

Investing in childcare on the ASX

Everyday investors can tap into the childcare industry's growth on the ASX through a childcare provider like G8, or through a REIT that collects the rent, which provides a secure income stream but less upside.

G8, Australia's second largest childcare provider with 438 centres behind Goodstart Early Learning's 661 centres, says the demand outlook for the early childhood sector is improving but a chronic shortage of workers is a significant issue.

UBS analysts note G8 had a solid improvement in occupancy in the second half of 2022, ending the year at 71%, while the increase in government rebates from July should help further stimulate participation.

"However, labour shortages remain the key constraint to further occupancy uplifts and industry supply may again become a headwind."

The UBS analysts say government reviews of the industry, by the Australian Competition and Consumer Commission and the Productivity Commission, create another layer of uncertainty.

Flaherty says staff shortages mean some centres must operate at less than full capacity despite the high demand for places, which has an impact on returns.

Banyantree Investment Group investment manager and director Zach Riaz says the ACCC inquiry is a key catalyst for the sector this year, for both operators and landlords.

Riaz says there may be some cautiousness among investors about the inquiry’s possible outcomes, but views any future sell-off as a potential buying opportunity.

Banyantree has played childcare on the ASX both ways by investing in G8 as well as landlords Charter Hall Social Infrastructure and Arena in its portfolios.

Riaz, who notes the property trusts are diversifying into other social infrastructure assets, expects there will be an uplift in occupancy levels for childcare operators and hopes to capture the upside through G8.

"We're also invested in Arena REIT and Charter Hall Social Infrastructure, where we just want the yield and take no operating exposure. That balances out our risk to the operators, if occupancy levels go up and down and that's reflected in the share price."

Riaz says Banyantree's investment in childcare in the last few years has been "up and down" and disappointing overall, despite it being a positive sector for investing from a macro perspective given the ongoing government support.

"Some of the investments have done really well. Some of the investments have been a little bit more lacklustre. But we continue to hold those positions."

Charter Hall Social Infrastructure owns 359 childcare centres while Arena has 260 early learning centres and development sites.

There are also smaller childcare stocks in Mayfield Childcare (MFD) with 36 centres and Embark Education Group (EVO), which has 24 centres after selling its New Zealand operations.