TelferYoung (Canterbury) Limited
Canterbury Newsletter - November 2005
1 December 2005
Welcome to our Spring issue of the TelferYoung (Canterbury) Ltd newsletter.
In this issue we will discuss two topics which have generated much debate over recent months:
- The Office Rental Market
- Building Costs
The Office Rental Market - Choices & Cost:
Office rentals are under significant pressure in the Central Business District at the present time. We have seen a significant growth in rental levels for A and B grade buildings which is a reflection of two simple factors:
- Increased demand
- Limited stock
For the last ten years Christchurch has had a reasonably high vacancy rate by both New Zealand and World standards with the vacancy rate across all office categories being approximately 20% in 1995. This has now reduced substantially to approximately 10% in 2005. By World standards this is still a reasonably high vacancy rate. It is generally considered that a vacancy rate of around 4% to 5% represents a market equilibrium.
Of particular interest in the Christchurch situation is the substantial reduction in vacancies in A and B Grade buildings.
A Grade buildings are those such as Clarendon Towers, Forsyth Barr building and the PWC Centre.
The vacancy rates in these buildings have fallen from a high of approximately 25% in 1995 to virtually 0% vacancies at the current date.
In B Grade buildings the vacancy rate in the mid 1990's was approximately 20% with the current vacancy rate around 9%. These are buildings such as HSBC House, Landsborough House and the Anthony Harper Building.
Why has there been a substantial drop in vacancy rates? The simple explanation is what is commonly referred to as "A Flight to Quality". By this we mean that when the market was in a depressed state there was a significant choice available to tenants for higher quality buildings at costs only marginally greater than those they were currently paying in far poorer quality office accommodation. With depressed market rentals tenants took the opportunity to relocate to far superior quality accommodation. This has significantly reduced the supply and the choices available to tenants is now very limited.
As the supply/vacancy rate has decreased we have also experienced a buoyant economy with most businesses experiencing good growth and high confidence levels. This has placed considerable pressure on rental levels.
This would normally be the catalyst for a new office building to be developed however the substantial increase in building costs makes new office development uneconomic unless there is significant preleasing commitment.
For a new building to be economic it requires a Total Occupancy Cost (base rental plus outgoings) at a minimum of $325/m2. This compares with prevailing rental rates for A grade buildings at a maximum of $255/m2.
These factors have resulted in a significant increase in rental levels in existing buildings. A perfect example is the Anthony Harper building in Cathedral Square. This is a building we know particularly well as this is where we lease our office accommodation. Mid to upper level office suites in this building were set at rentals of between $174/m2 and $180/m2 in 2003. The most recent leasings in the building have achieved a TOC rental of $200/m2 to $210/m2. This represents an increase of approximately 17% over two years. Similar rental increases have occurred in other buildings such as:
- Landsborough House
- HSBC House
- Charles Luney House
We predict that rental levels will continue to increase simply as a reflection of the supply-demand in balance. There are very few choices available to tenants in A and B grade buildings and therefore we believe that new building development will occur to accommodate the needs of larger tenants. We have already seen the development of purpose built structures in suburban office locations over the last two years.
Building Costs - Market Impact:
We are all aware there has been a significant increase in building costs over the last two to three years. How does this impact on the market? New dwelling construction is generally a simple cost plus exercise. Building development companies purchase the land add to this the cost of building construction plus a profit margin. Any increase in cost directly impacts on the price paid by the purchaser. Market conditions have an impact however in simple terms this is how new housing is priced.
A similar situation occurs in the industrial retail and office sectors. A developer is faced with the cost of purchasing the land, cost of building development and a profit margin.
The price to the occupier of a design build project is therefore directly effected by cost changes. The cost of the project also impacts directly on rental levels. Once again market dynamics impact on the viability of a development however this simple equation is the basis for establishing price paid for new development.
We have analysed recent construction contracts and compared these with costings from 2003. The increase in costs is quite dramatic.
| Cost Increases | |
| Building Type Increases | 2003-2005 |
| Standard Warehouse | 16% |
| Two Storey Townhouses | 19% |
| Single Level Dwelling | 20% |
The percentage increases are an average but clearly illustrate the substantial increase in building costs over the last two years.
The actual contract prices analysed are reinforced by industry indices which support building cost increases between 16% to 18% for residential development and 18% to 20% increases for commercial/industrial construction.
The substantial increases in cost are passed on directly to the end user of the buildings regardless of which property sector they are in. Not only do they impact on new building development but also have a filter down effect on existing buildings both in terms of value levels for existing housing stock but also for values and rentals for commercial investment property.
Back issues of the newsletter can be obtained from TelferYoung (Canterbury) Ltd
Level 4, Anthony Harper Building,
47 Cathedral Square,
PO Box 2532,
Christchurch,
New Zealand.
Telephone: 03 379 7960,
Facsimile: 03 379 4325
Email: telferyoung@canterbury.telferyoung.com
+ John Ryan + John Tappenden + Mark Dunbar + Chris Stanley + Mark Beatson + Ian Telfer + Victoria Murdoch + Damian Kennedy
Opinions expressed in this newsletter are of a general nature and should be used as a guide only. TelferYoung should be consulted before acting on this information.