As the City office market gears up for what some agents fear could be another boom-bust cycle, Mark Simmons asks whether developers have their feet on the brakes.
It is 1999: the Prime Minister, Tony Blair, is defending a Labour government against opposition attacks of economic mismanagement. In the City, the markets are in turmoil. The volatility of the UK economy and continued decrepitude of London’s infrastructure have contributed to a malaise which has caused major financial institutions to consider relocation to Frankfurt. Outgoing occupiers attempting to sublet their accommodation compound the massive oversupply of new office buildings, forcing rents into steep decline. The RICS convenes an Extraordinary General Meeting to discuss the London Property Crisis.
The end of the decade may still seem far away, but time passes swiftly in the property world. Only a year ago, a glut of space hung over the City and developers were nowhere to be seen. Now agents vociferously point to “selective shortages” and developers have reappeared on the starting blocks, enthusiastically bandying a profusion of new schemes.
These indicators suggest that the boom-bust cycle is about to run yet again. Among property professionals there is little confidence that lessons have been learned this time around. Agents at Chesterton fear the worst. “We could be in for a worse boom and bust cycle than last time,” says director of development Martin Messenger. Recent figures from Healey & Baker support his suspicions: H&B expects around 1m sq ft (92,900m2) of new space to be completed in 1995, followed by 1.5m sq ft (139,350m2) in 1996 and more than double that – 3.5m sq ft (325,150m2) – in 1997. According to Jones Lang Wootton, all this is taking place in the context of a market with 18.74m sq ft (1.75m m2) of speculative planning consents.
“Construction companies,” says Messenger, “are even more desperate for business than before.” He believes that they will be clamouring to get buildings out of the ground. Chris Jones, director of agency at Chesterton, shares his colleague’s pessimism and points, in particular, to the cessation of institutional investment into new development. “The major funds still haven’t learned – if they had continued their investment programmes, new buildings would be coming on stream in the next six months, just when supply will run out.”
The reality is that new buildings will start to be completed again in 16 months’ time. But at least the identikit structures that were erected in the late 1980s are unlikely to appear again, according to Nick Baucher, head of Hillier Parker’s City office. Not only is there a greater awareness of perceived tenant requirements, says Baucher, but proposed developments may be tailored more specifically to these. “Developers have to be, and there are definite signs that they now are, far more focused.” After all, Baucher continues, “the market should have learned by now that a multi-purpose building which would suit any tenant’s needs is a myth. This is especially so in the City, where a financial institution’s requirements are far removed from those of, say, a law firm”.
Other agents tend to agree, but Richard Ellis partner Roger Lister warns that there seems to be little firm evidence, at present, that developers are taking on a more proactive role and discussing individual requirements with potential tenants. However, as Joanna Embling, development director at Healey & Baker, points out, gauging customer demand is not always easy. “The difficulty with listening to occupiers is that they don’t always know what they want. For them, property is a necessary evil.”
Most agents say that existing plans for buildings in the pipeline have been revised to reflect an image that is more in tune with the “caring 1990s”, but there is certainly no consensus. Messenger dismisses the notion that companies will shy away from buildings simply because they look expensive. “Ostentatious specifications alone will not put off potential tenants,” he maintains. Embling disagrees: Continental European occupiers in particular, she feels, are looking for accommodation that matches a more austere philosophy. In her experience, there is a growing realisation that “quality is not synonymous with ostentation. It is no longer necessary to maximise every last inch”. This, according to Embling’s colleague Marc Smith, reflects the evolution of occupier expectations. “There will be fewer people per floor with more space around them,” says Smith. Current occupancy ratios of an average 75 sq ft to 100 sq ft (7m2 to 9m2) per employee are expected to move to 150 sq ft (14m2) per employee by the end of the century. “Comfort is to become the new criterion for occupiers, rather than simply temperature.”
But to talk of occupancy ratios is to accept the conventional wisdom that there will be office workers to fill seats. If technology pundits are to be believed, the traditional office set-up will disappear as staff work from home or engage in hot desking – working at the first available desk in the office pool. This implies a substantial decrease in net floorspace requirements. Many agents accept that demand will decrease towards the end of the decade, but believe that this will be marginal and due to a variety of factors. “Hot desking,” says Smith, “is only suitable for certain jobs. Many companies will always require a significant staff presence in their offices.”
If changes in occupiers’ usage patterns are likely to have little effect on the design of new developments, physical specifications may have more of an impact. “The high service and loading specifications built into many of the structures completed in the past 10 years are excessive when compared with current proven needs,” says Norman Greville, building consultancy partner at Richard Ellis.
In many cases, technological advances have rendered such specifications unnecessary; computers require less power and are much lighter than their predecessors. Lower technical requirements should need fewer materials and thus reduce building expenses: “Typically, developers could shave £15 per sq ft (£161.50 per m2) from the development cost,” says Greville.
Whatever its specifications, Jones believes that a building should no longer be expected to last a lifetime. He prefers to think in terms of disposable offices. “Buildings should not be designed for a 70-year life.”
It may be, however, that future developers will be less influential in the design and content of their buildings. Embling thinks that “the role of the developer is changing from key player to project manager, putting sites together and acting as a catalyst”. Embling sees the future in terms of partnerships and joint ventures, with lenders taking more of a leading role than was previously the case. She cites the link-up of Societe Generale and Wates City of London on the redevelopment of 60 Gracechurch Street.
With these changes to the developer’s brief, new players could appear. Mark Bourne, City director at Chesterton, points to recent arrivals Pillar Properties and Argent, but Smith believes that the familiar faces of the 1980s will still feature prominently in the 1990s: “They have the track record to cover the large sums of money and complex sites that characterise City development.”
Potential sources of equity finance are limited, according to Messenger and “lack of equity money to get schemes under way could be the biggest stumbling block” for new developments. Funders are likely to be watching rental growth closely. Stewart Knight, development partner at Weatherall Green & Smith points out that, by the end of 1994, prime City rents will have risen for the first time this decade to a predicted end-year figure of at least £35 per sq ft (£376.80 per m2). At the same time, incentives are believed to be reducing to between 12 and 18 months. The most optimistic forecasts show rents rising to between £50 per sq ft and £60 per sq ft (£538.20 per m2 and £645.90 per m2) in the next three years.
Development director at Hillier Parker Gill North advises caution: “The most bullish forecasts are ignoring the fact that quoting rents of more than £40 per sq ft (£430.60 per m2) will kickstart development and so slow rental growth.” Bourne agrees: “Developers will put schemes on stand-by as rents move between £35 per sq ft and £40 per sq ft (£376.80 per m2 and £430.60 per m2); they will definitely go ahead once £40 per sq ft (£430.60 per m2) has been reached.”
As rents start to rise, the prospect of preletting increases. There are few signs, however, that any major prelets will be agreed in the near future. Also, says Jones, signing up now on a building “does not necessarily guarantee a significantly lower rental value than the anticipated market value when the development comes on stream”.
While investors and developers pay close attention to rents, historic take-up patterns have demonstrated that occupiers are less fascinated by them. “It is more important,” says Messenger, “for tenants to find the right site; rents may not be the most significant factor.”
The right site for many City occupiers still seems to be within a limited area, centred on the EC2 postal district. James Oliver, City agency director at DTZ Debenham Thorpe, notes that space on the market in the central City area is down by 28% on a year ago. “EC2 has single figure availability at 6.9%,” he says, which compares with 17.2% in EC1, illustrating how demand gravitates to the central area.
There is definitely a consensus among agents – the bulk of new development will occur in the centre. Knight expresses the sentiment of many colleagues when he says: “Developers have got the message about location. Nine out of 10 developers won’t look at fringe developments now.”
Mark Lethbridge, partner at Richard Ellis, thinks that the fringes will continue to see steady activity nonetheless. “Good refurbishments,” in particular, he thinks, “may sell as back-up space.” Lethbridge points to Finsbury Tower, Bunhill Row, EC1, on the northern fringe, where Rockdell is speculatively refurbishing 163,000 sq ft (15,143m2).
This type of renovation is all the more likely, Lethbridge maintains, as the 1995 rating revaluation should bring relatively high rates in the City fringes more into line with those in suburban centres such as Stratford and Croydon. The result could be renewed interest for good-quality buildings in the fringes from companies servicing firms located in the City.
Embling does not accept that refurbishment will necessarily be confined to the fringes. She believes that, as speed will be crucial in providing new space in the City’s core, refurbishment could be an alternative to wholesale redevelopment. Not for large, prestigious occupiers, but for the many companies which are looking at floorplates of between 6,000 and 10,000 sq ft (557m2 to 929m2).
“There are perfectly reasonable buildings that can be taken back to shell and core,” Embling points out. She quotes current examples: “Dashwood House, the CU Tower, Angel Court – their time as HQ buildings has gone but, refurbished, they are suitable for smaller takers and give an excellent profile.”
