Sydney CBD Commercial Office Trends

Supply

New office supply additions totalled approximately 96,100sqm in 2014, a decline of 32% from the circa 140,400sq m recorded in the year prior and below the 10-year average of 163,360sqm. The majority of the new supply was added in the second half of 2014. The two largest projects comprising the refurbishment of 50 Martin Place (19,500sqm), 94% pre-committed by Macquarie Group, and the refurbishment of the MLC Centre (16,639sqm) completed the first quarter of this year.

The trend of permanent withdrawal of secondary grade stock for conversion into residential apartments or alternative uses, continued. In 2014, approximately 69,000sqm of stock was withdrawn, leaving net supply in 2014 at 3,022sqm.

Over the first quarter of 2015, two projects totalling 39,624sqm completed. St Hilliers Group finished the redevelopment of the former Australian Red Cross building (12,000sqm) at 155 Clarence Street. In addition, the last part of the refurbishment of No. 1 Martin Place was also completed. Tenants that have pre-committed to this space include Linkedin (3,746sqm) and APRA (8,134sqm).

New supply is expected to increase in 2015, with an additional 164,060sqm of space projected to be steadily added throughout the remainder of the year. The anticipated completion of International Towers – T2 in Barangaroo makes up half of this new supply totalling 88,200sqm and is scheduled to complete in Q3 2015 with Westpac and Gilbert & Tobin as the anchor tenants having pre-committed to 68%.

Looking further ahead, the construction cycle is expected to peak in 2016, when 230,953sqm of new office space is expected to be added. The completion of the two International Towers – T3 and T1 will form a large component of the new supply. Combined, the two buildings total 180,500sqm and anchor tenants comprising KPMG, Lend Lease, PwC and HSBC have pre-committed to 52%.

The supply outlook for 2017 is considerably more limited with only 43,500sqm expected to be added. A modest recovery is expected in 2018, with new supply including Darling Park, 201 Sussex Street and 151 Clarence Street, leading to a total of 100,500sqm.

Although there is a steady supply of office space being added to the market, with the exception of 2017, permanent stock withdrawals are expected to balance out supply additions. 10 office buildings have been earmarked (proposed but have no DAs submitted) to be converted into a residential development. If these projects go ahead, an estimated 160,000sqm of office space will be permanently withdrawn from stock

Demand and rents

Improved tenant enquiry over the past year is now translating into increased deal activity. Following 6-monthly net absorption of 23,983sqm recorded in the first half of 2014, demand improved over the second half of 2014 to reach 54,279sqm. In total, 12-month net absorption was recorded at 78,262sqm, well above the historical 10-year average of 49,816sqm. Occupied stock is now at a new high of 4.6 million sqm, above the previous peak of 4.5 million sqm seen in July 2008.

The leasing market was primarily driven by the IT and Telecommunications sector in 2014 and this trend continued through the first quarter of 2015. Campaign Monitor took 3,456 qm at 201 Elizabeth Street, while Atlassian expanded their 9,000sqm presence at 343 George Street by a further 2,784sqm. Demand for space from the Professional and Business sector increased momentum. Insurance Australia Group (IAG) is reported to be relocating to 201 Sussex Street, where they are expected to consolidate from a number of offices around the city and take 33,000sqm of space. Demand from these sectors is likely to continue and coupled with the increasing demand from tenants looking for larger space requirements, we project net absorption to remain robust over the next two years.

On the back of strong tenant demand, the headline vacancy rate in Sydney declined from the 8.4% recorded in the first half of 2014 to 7.4% at the end of 2014. Vacancy in the Western and Southern precincts is especially tight. Vacancy fell across all grades, though was especially pronounced in the prime market as vacancy decreased to 7.7% from 9.1%. Although tenant demand is projected to remain robust, vacancy is expected to rise moderately as new supply enters the market.

Prime net face rents remained steady at AUD 773 per sqm during the first quarter following 1.0% growth in 2014. With demand and supply both increasing, rental growth is forecast to be modest over the next few years. However, early signs of tenants actively competing for high quality space and seeking larger space requirements are emerging, partly driven by the strong economic outlook in Sydney. These factors may contribute to a quicker unwinding in incentives and lead to faster net effective rental growth.