On the rise: office assets remain highly sought after by investors

Tight conditions in the Australian office market are good news for property investors, even as construction activity ramps up. But it’s a tale of many cities, with each metropolis exhibiting unique characteristics at this point in the market cycle. With many businesses and buildings re-thinking how office space is used, a more flexible approach to leases and the use of space works best for most landlords.

Mining states rebound

Across the economy, low wages growth and positive company profits are driving demand for office space. Although until recently the resources states of Queensland and Western Australia have lagged eastern seaboard cities, that’s changing thanks to recovering commodity prices and a strong pipeline of infrastructure projects. State government spending, the growing lithium manufacturing sector and also the booming logistics sector are also contributing to demand for office space in the West.

The Brisbane and Perth markets are in recovery from the end of the mining investment boom and attractive incentives are still being offered to attract good tenants, with vacancies still relatively high in Perth. But these cities are showing signs of turning around. Brisbane in particular is experiencing better rental growth, while the Perth market is being supported by low supply and a rebounding resources market. Expect this market to track a path to recovery over the next five years.

There’s even growing investor demand for assets in secondary markets such as Adelaide and Canberra, given the limited supply of office assets in the major markets.

Major markets surge

Nevertheless, office assets in the service-based and technology-driven eastern states are the outperformers. The Melbourne office sector is the standout, with the market being driven by limited CBD developments and almost full occupancy in the Docklands area. While forthcoming developments will add 10 per cent to the Melbourne office market, this is below the average 15 per cent growth rate experienced over the last 15 years. It’s a similar story in Sydney, where new developments will add just five per cent to stock over five years, which will support rents and underlying market fundamentals. The Sydney market has seen strong growth since 2013, with the market achieving a 66 per cent rise in gross effective rents since then.

Nearly 720,000 square metres of new office space supply will be built in Sydney and Melbourne between now and 2022, but of this area, 70 per cent is already pre-committed. This demonstrates strong demand, which will pique investors’ interest.

Fundamental changes afoot

Against this backdrop, the office market is going through fundamental change thanks to technological advances and the shifting workforce mix, with the growing use of contractors changing businesses’ use of space. Fluctuating workforce demographics and the war for talent mean tenants are taking a new approach to fitouts, creating collegiate spaces in which people can work. This has had a profound effect on the office market, with Knight Frank research indicating there has been a 297 per cent rise in flexible office accommodation since 2013. Moreover, CrunchBase data indicates more than US$8 billion has been invested in the co-working sector around the world.

As this shows, buildings and businesses are rethinking the way they use space, which has a flow-on effect on the office sector. Those landlords that are prepared to be flexible in the way they structure rents and configure space put themselves in a good position to retain existing tenants and attract new ones, allowing tenants to easily scale up or down their space, depending their requirements at any given time. Buildings that take a flexible approach are also more likely to attract high-growth new economy tenants like tech and consumer businesses.

Overall, office assets are forecast to remain highly sought after by investors, which should also support asset valuations at this part of the cycle.