World Class Office Markets Still Need
Doom & Gloom
to Renew and Grow
Office developers and their agents are basically never
happy; when markets are booming and all one can see on a
city skyline are cranes, we complain that with rents skyrocketing and no one can make the numbers work. When we are in
a recession we rue the general despondency and the lack of
funding, knowing in our hearts and minds that given the average planning timeline, a recession is the best time to develop
and catch the next upward cycle.
This article will try to explain that, despite the current
recessionary environment and debt crisis a world class office
market like Greater Paris has the critical mass, end user and
capital markets liquidity, together with strong fundamentals,
for speculative office development.
First, as a real estate asset class, offices are still producing competitive returns despite the recession. Yields enjoy
spreads of many hundred basis points over long term government bonds and commercial real estate indices such as IPD
(Industrial Property Database) have been outperforming other
financial markets. The six monthly IPD French office index
posted an annualized 7. 4 percent total return for 2011 when
the French CAC 40 has dropped some 20 percent since the
beginning of the year, as have most Euro zone stock markets.
Real estate suffers far less volatility when compared to financial asset classes.
Moreover, with ever increasing liquidity being pumped
into the world’s financial systems, this asset class, especially in
established markets with tight planning regulations, is one of
the most reliable hedges against inflation. Institutional funds
such as insurance companies and pension funds are increasing
their allocations of managed funds into real estate, albeit for
core incoming producing investments. Developers can therefore already identify the type of funds who will purchase their
office properties once built and leased.
Obviously one of the basic components which will spur
office development is the critical mass of a major developed
economic hub, an important population base and a large office
inventory. Greater Paris fulfills each of these criteria: some 30
percent of France’s GDP (equivalent to €533 billion) is produced here; the population is around 12 million and the office
inventory is just under 51 000 000 m² (548 760 000 sf) The
sound research and well
when presenting ideas and
strategies to clients."
office market is comprised of an
historic central business district
with the majority of offices in
well connected suburban locations easily accessible by one of
the best public transport systems
anywhere. Annual gross office
take up has been +/- 2 million m² with this year’s figure
expected to reach between 2. 3
and 2. 4 million m², probably one
of the strongest performances
Europe wide. The end-user
base is diversified with no one
industry group such as financial
services dominating the market.
By Solly Gubbay, SIOR
Altogether there are some 600 000 companies based in Greater
Paris, including European headquarters of many US corporations such as IBM. Additionally, the nation’s top universities,
such as Ecole Polytechnique, are in and around Paris providing an excellent recruitment pool.
As in previous economic slowdowns, office building starts
have dropped dramatically since the onset of the financial
crisis, with risk adverse institutional funds basically having
stopped funding speculative developments. This is creating a
future dearth of modern offices. For an office market the size
of Greater Paris, only 3. 1 million m² offices are potentially
deliverable within 36 months, of which only 30 percent or
1. 1 million, are under construction, of which 45 percent, are
already pre-leased. For 2012, delivery only 600 000 m² or 1. 2
percent of total inventory are under construction with only
250 000 m² still available for lease and for 2013 delivery the
market gets tighter with only 170 000 m² available. This has
meant that although many commercial banks have cut back
drastically on their real estate lending activities since 2008,
the few banks which are active in this area have been reaping
good business. The counterpart for those investors developing
speculatively has been lower loan to value ratios in the order
of 55 percent and because of the reduced leverage lower IRR
expectations to the order of 15 percent and not 20-25 percent.
A 15 percent IRR is still a great performance especially when
short-term cash bank deposits barely approach 0.5 percent and
10 year government bonds yield around 3 percent.
Unlike past real estate cycles, today we are witnessing a
technical revolution in office construction in that all developed
markets have to comply with ever stringent energy consumption and green house gas emissions requirements. Large, often