Speculative Office Development – The End or a New Opportunity?

This article was produced by Olswang LLP, which joined with CMS on 1 May 2017.

Many people have claimed to have witnessed the end of speculative office development over the last couple of years and EC Harris’ new report London Office Development: The Challenge Ahead appears to support these claims. EC Harris’ report reveals that the inability to attract pre-let tenants is jeopardising the future of 150 yet to be built schemes. These schemes are set to provide a combined 53m sq ft of office space by 2016 and are estimated to be worth approximately £12bn.

The lack of tenants is blamed on the euro crisis and diminishing tenant confidence. A change in tenant requirements has been noted; tenant’s are seeking only the most flexible and sustainable space and, given recent market events, are looking for certainty that schemes will be delivered. It is suggested that as a result many tenants are now seeking to refurbish existing offices rather than incur the cost of a move.

Without willing tenants the minimum pre-let thresholds required to trigger funding can not be reached and many projects will fail to get out off the drawing board.

With work on The Pinnacle having ground to a halt and CMS pulling out of their 160,000 pre-letting agreement of part of Hammerson’s Principal Place it seems that this is already reality.

EC Harris estimates that between 25 – 70m sq ft of office space leases are due to expire by 2017. GVA estimates that up to 20% of the UK’s commercial stock will be unlettable in 2018 as the Energy Act 2011 will make leasing a building with an EPC rating of E or below unlawful from 2018. Tenants may therefore have no option but to move.

We hear rumours of global opportunity funds, already with billions of pounds committed, desperately seeking opportunities on primary UK assets. Alternative finance providers, such as insurers and pension funds, are also said to be cash rich and looking for similar opportunities, but save for Axa preparing to lend £1.7bn to Euorpean property companies, there is little evidence of commitment to the market.

Now is therefore surely the time for the size of required pre-lets to be reduced and for alternative fund providers to make funds available to speculative schemes. By seizing the opportunities to provide finance now such moves would serve to restore tenant confidence and demand as this will be seen as a sign of return of confidence to the market.

As EC Harris’ report suggests schemes may have to adapt to the new more discerning tenant but if we simply wait for tenant confidence to return following a sustained global stock market rally (or whatever it takes) before tenants sign up to pre-lets and funds release monies suitable space may not be available. The “development lag” (the time taken from breaking ground to practical completion) will cause a scramble for not just leases of Grade A office space but also the opportunity to invest in such projects.

Now appears to be the time to fund the right project and wait for the tenants to come running.