Rebecca Kent
The clouds of economic uncertainty brought on by COVID-19 are shifting, with improved prospects for office leasing in Australia as appetite for space rebuilds.
While the overall net take-up of offices remained negative at 116,000 square metres in the three months to December 2020, it had contracted less than the previous three quarters of the year - a sign that business sentiment is on the up, helped by the upcoming vaccine roll out.
Perth and Canberra were the only two main cities to record positive net take-up, according to JLL’s latest data, with Perth businesses once priced out of the CBD now returning, and the government fuelling Canberra’s recovery.
In this episode of JLL’s Perspectives podcast, Andrew Ballantyne, JLL’s head of research in Australia, and Tim O’Connor, the head of leasing, tell us more about what this all means for the year ahead. I’m Rebecca Kent.
Rebecca Kent
Andrew, the overall take-up of office space in Australia decreased again at the end of last year, although by a lesser amount than the previous quarters. Canberra and Perth were different though, with positive absorption of office space. What's the story behind the numbers?
Andrew Ballantyne
I would characterise the office markets as being better towards the latter part of 2020, but admitting it's off a low base. Canberra has continued to remain the most resilient of the CBD office markets, and this is very much supported by high occupation from the public sector. But we also saw slightly better results in some of the other geographies. Perth recorded positive absorption in Q4, supported by a number of organisations looking to move operations back into the CBD.
I think it's important to say where we were through 2020, which was really clouded by uncertainty, to where we think we're going to go in 2021, post the vaccine announcements in early November, is that we've started to see some of the leading indicators for the office sector start to firm.
Look at business confidence, as measured by National Australia Bank, and that's trending higher. The ANZ job advertisements series shows that job ads are now higher today than where they were 12 months ago. So, while we do believe that 2021 will be challenging from a leasing perspective, we're trending in the right direction. We will look back at 2020 as essentially the bottom of the cycle.
Rebecca Kent
Excellent. That’s a pretty upbeat outlook.
Tim, what's the nature of enquiries for office space you're receiving at the moment?
Tim O'Connor
If you step back before we go forward, Q2 and Q3 last year, for want of a better analogy, was real rabbit in the headlights type stuff. People weren't making decisions as everyone was trying to come to terms with exactly what we were facing. We saw deals either put on hold or completely quashed, and tenants committed to stay - whether it was short term or long term. Then into Q4 last year, we saw an improvement in the level of activity. Some larger pre-commit deals closed. And that's really a function of time and needing to make those decisions in order for buildings to be delivered. So there's some longer-term decision-making that was made. But we saw a lot more decisions, and activity by organisations, whose decision-making is largely based onshore. That not all situations. And that has certainly translated in enquiry into the early part of this year as well. It tends to focus back on those smaller organisations. For the sake of a number, let's say less than 1000 or 1500 square meters. Where there is decision-making onshore, there's a real motivation by organisations to get their people back. So that's where we've seen activity, that's where we've seen heads-of-agreement signed in the early part of the year.
But what we've also seen are those larger deals that were put on hold last year, be reactivated. And I think that really boils down to the fact people got through the worst of it in the back of Q3 last year. And as we were starting to get a little bit of clarity and a little bit of sense into where things were, it was a case of 'okay, the year's almost over, we'll just ride this one out, or ride 2020 out. I think as people have come back in the start of 2021, you've got a whole year in front of us. I think organisations are taking a more practical approach and recognising that yes, there is a need to make decisions and move forward.
Rebecca Kent
Lease extensions were a bit of a feature last year as well. Is that starting to recede a little bit?
Tim O'Connor
It's difficult to give a general statement on things given the size and scale and nature of the market and the diversity of organisations. What's interesting is those organisations that kicked the can down the road and got 12-month extensions last year, are very quickly coming up to needing to just make decisions again, and some of those have reactivated, as I said in the earlier comment around that, so they're back doing things. I think there is still, from some, that short-term nature. If you look at the different industry sectors, such as aviation, tourism and those sorts, the short-term extension, or even relocation, in some respects, actually works for them, because of the uncertain nature of the particular industry. Whereas others are able to take longer-term view. So again, the activity I think we're going to see, that we've already seen, and will continue to see, will be some of those that had put decisions on hold last year, in some circumstances that process timeline is far more condensed than it would be normally.
Andrew Ballantyne
I think, Tim when you start to tease it out is essentially the difference between the cyclical and the structural. So I don't think there is any organisation that would say they weren't impacted by COVID-19. You get some organisations where there will be a longer-term structural impact on their business - and we talked about the aviation industry. There are other organisations that have been impacted from a cyclical perspective. However, those organisations now see a pathway or a very short pathway back towards pre-crisis revenue and profitability levels. So I think what you're going to have through 2021, and extending into 2022, Tim, is organisations with different motivations and drivers, some will look to take additional space to facilitate their growth. There'll be other organisations that ultimately look to rationalise their footprint to account for the structural impacts that they've seen on their businesses. But I think what we can both agree on is we're going to see a lot more activity than what we saw over the past 12 months.
Tim O'Connor
Absolutely. And again, it’s that opportunity to right-size, and consolidate. On the other side, we've got availability of good quality stock, so we tend to see that flight to quality invariably take place in markets like this, and we've got some opportunity for those tenants. We've seen some of those opportunities taken, most recently, the Corrs Chambers Westgarth commitment at the end of last year. This was a good example of a company moving outside of a lease cycle to take an opportunity to rework their workplace.
Andrew Ballantyne
What Tim and I are essentially articulating is a K-shaped shaped recovery for vacancy. So those good quality assets, where they've got very strong health and safety and wellbeing features, where the owners have been very proactive around new initiatives to bring their customers back in - whether that be with yoga or other classes, or nutrition and diet advice. If you think of a K shape, we will start to see that over the next two years. That vacancy for good quality assets will trend lower, and increasingly vacancy pressures will cascade down towards those lower quality buildings. So we see the potential for a refurbishment cycle as some of those buildings come out of the market and are ultimately repositioned to meet the requirements of modern corporate occupiers.
Rebecca Kent
Okay, can we talk about sublease space. Tim, there's a fair bit of it around at the moment. What are you seeing? Is it being filled? Will it continue to come onto the market?
Tim O'Connor
I think it's a really interesting one. If you go back to March last year when we started to feel the impact of COVID-19, and as it moved through, every CEO or managing director of every business very quickly said, 'how can we find some cost savings?'. Cost savings can be made through a whole range of facets of the business, and real estate cost is certainly one of them. So, there was - and there has continued to be throughout 2020 – an opportunity to reduce some costs through sublease space.
I think we'd all agree from the economy's point of view that the government has done a fantastic job and we're in a better place than what we probably thought we would be. What's going to be really interesting, Bec, is how much of that sublease space was attributed to the impact of the recession and headcount reduction, and how much of it has been seen as an opportunistic way to potentially save some costs while people are working from home. So will we start to see some of the sublease space that has been put to the market actually get withdrawn as people return to the office and that space is needed? In some segments of the economy, we'll probably see more sublease space come through. There have been a number of deals done in sublease availability. But it tends to be very binary as to whether people see appeal in sublease. There has been a lot of commentary around organisations looking at how they incentivise their staff to come back to work. New workplaces is one of those opportunities, so does moving into sublease space or fitted space solve that? Is it the right type of space? If I look across the sublease availability in Sydney CBD there's a really varied range of quality - from some very good, relatively new fitted space, to some very tired and old space. So I think it's going to be an interesting one to watch. I anticipate that we might start to see some organisations not remove all of it but remove part of that space from the market. And I think we'll start to see some roll off into becoming direct vacancy and that space may be then made good and refurbished. It's an interesting dynamic. It's one we look at very closely because of the impact it has on the direct vacancy as well and pricing. But I think it's going to be very fluid over 2021.
Rebecca Kent
Tim, Canberra has been pretty resilient, largely due to government activity. How would you suggest landlords capitalise on public sector activity across the board?
Tim O'Connor
The federal government is a very large occupier of space around the country. But it tends to be considered that because it's the federal government, they're only located in Canberra. That is only part of the story. We certainly see some large government departments around the country where there will be an opportunity for them to improve the quality of their workplace, to get greater efficiencies, and to consolidate. And from the federal government's point of view, they will also see that as an opportunity to stimulate the economy itself. We’ll see the same happening at a state level.
For owners and investors, it's having product that responds to the needs and formats that government occupiers are looking for in certain locations. They've been active to date and there has been a desire to get shovel-ready projects going around the country, which is great, because the flow-on effect into the economy is jobs. We anticipate that will continue to occur.
Andrew Ballantyne
The other good thing about the federal government in particular, Bec, is around transparency. Every 12 months we have a budget and as part of that they actually state their headcount expectations by departments. So they're always an entity which is growing some areas and potentially reducing others. So you do get a good insight into what their intentions are around headcount. Ultimately that flows through to their space requirements. As Tim correctly said, there is a big multiplier effect through consultants. So I think it is important to look at where those government projects will be announced, the impact that will have on the revenue and headcount for some of the consultants and also orientating and positioning product towards those groups as well.
Rebecca Kent
Thanks, Andrew. You spoke about Perth earlier. What are the characteristics are that have helped Perth buck the national trend here in terms of office vacancy?
Andrew Ballantyne
It's fair to say Perth vacancy is still high relative to a number of the other markets. So it's still got that legacy of higher vacancy. But what we saw in Perth probably around 10 to 12 years ago, is there were a number of organisations that were essentially priced out of the Perth CBD. They started to go to emerging suburban markets. What we have found is that as availability has increased in the city, a number of those organisations are saying actually, ‘for our business moving forward, and for our ability to attract and retain people, we actually want to be back in the CBD’. So we've seen a number of organisations actually move their operations back to the city, which has obviously been to the benefit of the of the Perth CBD over the past 12 to 18 months.
Rebecca Kent
Great. Okay. And last question, Andrew. Offices are said to be back to about 75 percent to 80 percent full again. The property Council of Australia has launched a campaign to encourage businesses and people back into our main cities. Will our cities ever be the same again?
Andrew Ballantyne
I think CBDs have been in a state of evolution for a long period of time. So I think the PCA's campaign is very good in terms of encouraging people back. It's more around the health and safety aspect, around what building owners have done to make people feel safe when they come back into the buildings. I would take it a step back and say a lot of our economic output, especially from the services economy is generated by CBDs.
I'm a big subscriber to the theory around economies of agglomeration, which is essentially knowledge spillovers, which drive the economy moving forward. So I'm a big subscriber to CBDs having an important role to play in that. The flexibility journey is not new. I think what COVID has done is shine the spotlight on flexibility. And what we're seeing are organisations think about how their workspace is designed, ultimately to provide flexibility, but importantly, to provide collaboration space. If you think about what drives an organisation forward, to me, it's the new ideas that they create, it's the efficiencies they gained within their existing processes. And those types of activities are still best done face-to-face. So I think the office will have a very important role to play in terms of actually facilitating that moving forward.
I’m always a little nervous about building a whole story around a couple of little anecdotes, but I had two younger people in my team who are quite a bit younger than me. And they were both out last night with separate groups of friends. I said to one of them, 'what was it like going out on a school night in the middle of the week?' He turned around and said, 'I've had a year of doing nothing, so I'm playing catch up at the moment, in terms of catching up with friends going out and enjoying what the city has to offer'. That’s one story, but you're starting to see more of that. The night-time economy is very much being revitalised as people want that interaction with others. And they want the great amenity that our CBDs offer around Australia.
Tim O'Connor
I'd add another anecdotal proof point on that, Bec, in terms of people coming back into cities. I've had a couple of meetings with people this week who are back in for the first time since March last year. It's a very odd situation, given that we've been back in the office since May. Watching the level of excitement from that face-to-face human engagement in a meeting situation has been really interesting to watch. Mine and Andrew’s are only a couple of examples of individuals getting out again, but I think there's a lot more of that out there. People are really wanting to get that close level engagement.
Again, a lot was talked about through last year about working from home and the reduction in space that will result, but it comes back to flexibility. If you're trying to prescribe the days that people are going to work from home, I think you'll lose that whole context of flexibility that we had pre-COVID. You do see probably lower footfalls on a Monday and a Friday in the city at the moment, and a lot more activity Tuesday, Wednesday, Thursday, which speaks to the fact that people are taking a more flexible approach on similar days and being in the office on similar days. I think that starts to discount the ability to really reduce space needs, purely off that flexibility piece.
Rebecca Kent
Thank you very much Andrew and Tim for giving us the current picture on office leasing. We’ll count on you for further insights as the year progresses.
Andrew and Tim
Thanks very much. Thank you.
Rebecca Kent
If you, listeners, would like to see the data that we’ve been discussing here – that’s JLL’s Australian office leasing stats for the fourth quarter of 2020, just pop on over to JLL.com.au
