Cycle

Office markets in Australia are relatively mature in comparison with those in other parts of the Asia Pacific region. Such mature markets tend to be characterised by relatively little new construction entering the market and a larger stock of older buildings.

Ageing of Office Stock

New construction activity across Australia’s major CBD office markets has averaged less than 3% per annum of total existing stock over the past decade. In Adelaide, the level of new construction has been a very low 0.45% of total stock per annum. Even the high levels of activity between 2006 and 2008 will average only 3% of the current existing stock.

As a result, the average age of office stock across Australian CBDs is rising, ranging from 25 years in Brisbane to 31 years in Adelaide (Table 2).

Table 2: Source: Jones Lang LaSalle, & Cityscope

Almost 50% of Adelaide’s total office floor area was built in a 13 year period between 1981 and 1993. Two thirds of office buildings were built more than 25 years ago. A number of older office buildings have been withdrawn from the market and now lie idle. These building present opportunities for either refurbishing as offices or adaptive re-use for a variety of other uses including residential apartments or student housing.

Major refurbishment activity in Adelaide has been relatively high over the past ten years when compared to the level of new construction. In most cases, full refurbishment of buildings has occurred following the pre-commitment or departure of the major tenant rather than undertaken on a purely speculative basis.

Vacancies

Given tenants’ preference for modern, better quality space, vacancies tend to be lower in prime grade stock than in older, secondary stock. Figure 8 illustrates the disparity between prime and secondary vacancy rates. While the new prime quality space coming in Adelaide will initially see both the prime and secondary grade vacancy rates increase, it is expected that over time, the flight to quality will see prime vacancy rates improve at the expense of the secondary market.

A clear rental differential exists between prime and secondary space, providing owners with solid reasons to reposition their building in the market. Figure 9 shows the extent of this differential, with average prime rentals in the Adelaide CBD ($256/m2. in gross effective terms) nearly 80% higher than for secondary premises ($143/m2).

  

Refurbishment Strategy  

The decision to refurbish is based upon adding value to an asset. It hinges around the need for re-positioning a building in the context of the market and attracting and retaining tenants to maintain or increase income streams. Projects must demonstrate a sound return on investment (ROI) and care must be taken not to over capitalise.

In the 1980s and 1990s Australia’s CBD office markets witnessed several significant refurbishments where owners gutted buildings to reposition them for the next leasing cycle. However in today’s market, the focus is on more strategic and minor refurbishments such as adding a retail element to the ground floor, improving the lobby and upgrading services.

The drivers of these more staggered refurbishments are lower capital expenditure and the difficulty in obtaining vacant possession or access to all of the building in a suitable timeframe to warrant a major refurbishment.

Refurbishment can have a positive impact on a building’s rental and occupancy levels as well as capital value in the following ways:-

* Capital value can be increased via successful refurbishment;
* The sale process often provides the impetus for refurbishing, with prospective owners identifying opportunities to add value and change the tenancy mix;
* Refurbishment can re-position a building in the marketplace (e.g. from B to A grade), allowing owners to increase value via higher rentals;
* Refurbishments can protect a building from obsolescence and potential loss from tenants vacating to superior space;
* In markets where tenants are willing to pay a premium for better quality space, refurbished property can attract new tenants more quickly, thus reducing letting voids.

When is the right time to refurbish?

Experience suggests that office buildings will require a major refurbishment every 20-25 years to remain competitive. Timing of the refurbishment is critical to success. While the project timing for each property will depend on a combination of market and building specific factors, four major indicators of the most appropriate time to undertake a refurbishment can be identified:

● When a significant gap emerges between the rents being achieved in a particular property and those in new space entering the market;
● When a building loses tenants and finds it difficult to attract new tenants, resulting in prolonged periods of vacancy in excess of competing properties;
● When a building loses a major tenant;
● When a major tenant’s lease renewal is approaching, offering added incentive to stay.
● refurbishment decisions

Adelaide City Council can provide information on heritage related issues Increasingly tenants are seeking buildings demonstrating environmentally sustainable principles Some smaller tenants are very price sensitive, understanding the market is key.