The factors behind occupiers’ property decision making act as a key influence on real estate market prospects at a range of spatial scales. These decisions arise from a range of complex imperatives and typically one of the main elements is a collective assessment of the strength of the external economic environment. This cycle, however, is very unusual, and we think there are some quite significant shifts in occupier behaviour that will affect real estate markets.
This cycle, dating roughly from mid-2009, has been one of the weakest of modern times. The legacy of the previous cycle, namely a lack of adequate capital buffers in the banking sector, has hindered the flow of credit to businesses and consumers. The eurozone suffered a double-dip recession because of doubts about individual government’s ability to service their debts. Now China and the emerging markets are facing a cyclical and structural slowdown. Every hint of a new recession brings the fear of a new financial crisis because the stock of debt overhanging the global economy has not diminished. Indeed it has actually grown since the financial crisis.
These issues are not uniform either. The United States is further ahead in the economic cycle than continental Europe. The US is moving into its seventh year of economic expansion and falling unemployment, whereas unemployment in the eurozone is still 84 months from the low point that it reached in 2006, indicating that there is plenty of capacity for further economic growth before interest rates start to rise.
Almost everything has been sluggish in the global economy except asset prices. Until recently stock markets were buoyant, bond markets are at record highs and global prime real estate values have also grown by 48% in the office sector, 62% in the retail sector and 48% in the industrial and logistics sector, since Q3 2009. By contrast, prime rental values alongside wages and producer prices have grown sluggishly with a 17% increase in office rents, a 40% increase in retail rents and a 10% increase in industrial rents over the same period.1 US rents are now rising across the board and there is no reason to think that this is likely to stop in the near future. In Europe, take-up of office space rose strongly in 2015 and this is expected to continue in 2016 and 2017. Also in Europe, office vacancy levels are falling and rents are beginning to increase.
Volatility, periods of pessimism, the lack of a compelling growth story and a shrinking choice of good quality buildings in many markets – all these things make it difficult for corporate real estate strategists to prepare defensible long-terms plans. Some argue that it is now fanciful to think in terms of producing a five-year or even three-year strategic plan, simply because of the range of uncertainties that could jeopardise it. In the 2015/16 “CBRE European Occupier Survey”,2 nearly 60% of respondents cited economic uncertainty as a current concern, with costs, labour and regulation also prominent. Yet from a real estate advisory perspective, abstracting across geographies and different industries, there are two clear trends. One, in response to the business cycle that is finally gaining some momentum in the developed world, is the general decrease in the amount of commercial space that is vacant, across all sectors. A post-crisis lack of new real estate development, except in certain markets, is pushing up rental values in many cases quite quickly. Within this generalised revival of occupier markets is the emergence of interesting new patterns of usage, driven as much by structural as cyclical factors. Long-run changes in demography, communications and work patterns are creating a corporate real estate agenda driven much more closely by the needs and preferences of the workforce than ever before. All of this creates a much greater emphasis on “place” and “place-making”.
To date place-making has largely been a strategy pursued by the owners and managers of retail space. As e-commerce has grown, retailers and shopping centre owners have had to respond in order to maintain their competitive position. This has meant offering a retail environment which is safe, engaging and visually stimulating in terms of internal and external architecture. It also means offering a well thought-out selection of retailers, with constant innovation, new brands, high standards of shop fit-out and excellent customer service, including improvements to the range and quality of their dining options. In Times Square, certain New York retailers, with the permission of the customers concerned, feature their images on the vast advertising screens outside. It all helps to create excitement, engagement and a sense of place. Place-making for the retailer is about creating an environment in which people love to spend time.
With some parallels, the trend for place- making now seems to be growing strongly in the office environment as well. This operates in at least two ways, and mostly for the same reasons. One relates to the design, layout and internal environment of buildings. Where the occupier is in full control of this, as in Apple’s main office complex in Cupertino, California, they can tailor a working environment fully suited to their operations and their workforce. This phenomenon is best established in the technology sector, where companies face an all out war for talent. Interior design is of the highest quality and very contemporary with attractive office furniture. In many cases, as in the South of Market area in San Francisco or the Hoxton area of London, older offices, with steel work exposed and brushed brick walls, are common. There are showers, gyms, bicycle storage areas and eating areas with a wide range of healthy dining options. Apart from attracting millennial workers this type of space facilitates productive interaction and a project based approach to work as well as meeting the needs of highly skilled, not to say highly demanding when it comes to their working environment, creative people.
The other way in which this works is more about “place taking” than place-making. Occupiers have realised that they need to select locations that are complimentary to the ambience they are seeking to create in order to attract the talent they need. This is tricky, because the quality of the location is shaped by forces that are outwith the control of the occupier. Occupiers themselves may have some effect on the success or failure of new developments, districts or publicly-sponsored schemes, but it is not a given.
Technology occupiers often favour the “cool”, newly-regenerated urban or edge-of-urban areas where the millennial cohort likes to live and work, but this sort of thinking is now prevalent in a much wider range of office-based industries. In this year’s CBRE “European Occupier Survey” nearly half of the survey respondents across all sectors cited labour-related issues – whether skills shortages, or workforce and talent preferences, as major current challenges. And two-thirds of the sample highlighted improved collaboration between, and among, teams, colleagues and clients as the main driver of workplace strategies. This indicates a strong focus on providing a “workplace experience” that is of high quality and serves the aim of optimising performance of both the people within and the property itself. It is quite clear that the role and importance of the workplace has risen up the corporate agenda, and will play a greater part in boardroom discussions as this economic cycle evolves. It may not always be clear where the dividing line is between workplace and neighbourhood, but in both cases the linking factors of labour, work style and performance are the decision drivers.
These trends disproportionately favour locations, districts and developments that offer – or have the potential to offer – a high quality of experience, amenity and collaborative opportunities over those that don’t. We expect intra-urban value gradients to steepen in a lot of markets based on this differential. As well as putting pressure on corporates to offer these characteristics right across their real estate or office portfolio (rather than just at head office) it also provides an incentive for good quality development and public realm interventions.
So, two trends decision makers need to keep an eye on in global real estate markets. Vacancy is falling and rental rates are rising and are likely to continue on this trend for the next three to four years. The growth cycle is underway, but it is not the same as before: demographics and technology have moved on and the performance needs of the workforce are driving the corporate agenda more strongly. More than ever, place-making is the key to successful occupier strategies and this requires detailed local knowledge and some entrepreneurial flair.
Richard Barkham is Global Chief Economist at CBRE, Richard Holberton (left) is Senior Director, EMEA Research & Consultancy.