Left for Dead, Office Sector Rises Again as Location Becomes King

The reports of the demise of the office sector have been greatly exaggerated. And, in fact, the future is looking brighter for the office sector, Centuria Office REIT fund manager Belinda Cheung says. “We’ve reached a trough for the cycle,” she says. Marquette Properties director of asset management Matthew Creagh agrees. “It’s been mentioned to death, but places like Brisbane where vacancies are tighter have the more robust leasing markets in the world, let alone Australia,” Creagh says. As well, longer-term fundamentals remain strong. According to CBRE, about 800,000 square metres of office space is required for every additional million people. With another 4 million people expected to arrive in Australia by 2036 and a almost non-existent pipeline of new office projects, demand rising. Office on the way up Cheung says the recovery is visible in the data. Centuria’s office portfolio valuation increased by $43 million, according to its half-yearly ASX results released earlier this month. “In fact, in our portfolio, cap rates have continued to expand by three basis points. So it’s a fairly neutral outcome for us in this valuation cycle, because we have seen rent growth across all markets, which has helped our valuations stabilise across the portfolio,” Cheung says. ▲ Centuria Office REIT fund manager Belinda Cheung. “And for quite a few assets, it’s actually pushed valuation into positive territory.” Leasing momentum is strengthening—Centuria leased 29,354sq m in the first half, with 71 per cent of the year’s lease expiries renewed and 4 per cent market rental growth Transactions in the market are also a good indicator of market strength, though they might not be evenly spread across the board . Major deals include GPT and super fund CSC’s JV for the $1.72-billion Grosvenor Place , Singapore Land Group and UOL’s acquisition of IAG House and the TrustCapital acquisition of 750 Collins Street. And this week, the Singaporean OUE REIT revealed it plans to acquire a $375-million, 19.9 per cent stake in the 99.2 per cent let Salesforce Tower at 180 George Street, Circular Quay, marking an exit for Mitsubishi. ▲ Centuria’s 825 Ann Street in Brisbane’s Fortitude Valley is an A-grade commercial office building built in 2013. Centuria itself sold its 9 Help Street, B-grade tower at Chatswood to a private investor for $90 million—a 12.5 per cent premium to book value. Cheung calls it a “turning point in the domestic office market” illustrating improving investment appetite for well-located offices. Flight to office location quality While “flight to quality” may be overused, Creagh argues the shift is real—and increasingly driven by location. “What’s really becoming apparent in office in Brisbane is the flight to location quality,” Creagh says. “In Brisbane, it’s always just been, ‘where can I get the best deal or the nicest fit out’. Tenants might have been less worried about where that building sits in the city. “But now our leasing results are proving that there is a genuine push away from secondary locations.” Brisbane’s Eagle Street has been emerging as the place where businesses, especially professional services, want to be, Creagh says. ▲ Marquette Properties upgraded its Blue Tower, investing $12 million in a major lobby revamp in 2023. “And they just won’t compromise on that,” Creagh says. “But once premium offices are full, because premium is going to be full soon, A-grade will start to bridge that gap. “And we’ve had really good rent growth in A-grade, not yet to the extent that premium has, but in the next few years we’ll see that start to move.” Premium remains the space Marquette wants to play in, managing director Toby Lewis says. “We definitely want to keep the quality of our portfolio as high as possible. We can buy things that need some fixing or others that are quite core and complete,” Lewis says. “But prime assets in prime locations or with prime potential are what we are after.” ▲ Marquette Properties director of asset management Matthew Creagh and managing director Toby Lewis. That’s not to say that the metro office is dead, but its return may be a little bit longer in the making, Cheung says, unless those offices are premium grade, such as Vicland’s St Germain in Melbourne’s Toorak, which sold this week for $185 million. “In metro areas tenants might not want to pay $2000 a square metre, they want something closer to $600 per square metre and that’s a huge price difference,” Cheung says. “But lots of metro tenants are government, ASX-listed or multinationals, and we know from our portfolio that they are tenants looking for good value who are generally resilient and quite sticky tenants as well, who are mindful of where their employees live and want to work.” Adaptive reuse on the rise The general decline in occupancy and the reworking of older, lower-grade assets and less well-located assets will continue in the short term, Cheung predicts. “I expect more obsolete office assets to be converted to alternative use,” she says. An array of office assets have been repurposed in recent years, such as brutalist North Sydney offices converted into apartments , a Lane Cove project transformed into seniors living , or an office-to-hotel reuse in Adelaide . Marquette Properties is undertaking an adaptive reuse project alongside Dexus at 41 George Street, turning the site into a $500-million, 1200-bed student accommodation project ( pictured at top ). “We enjoy them as projects, but you need the stars to align,” Lewis says. ▲ Dexus and Marquette revealed the designs for the 1200-bed UniLodge project at the former George Street offices in December. “You need a line of sight to the building being empty in a timely fashion, and there’s a lot of building code and planning restrictions about what you can do. In Brisbane, it’s really only PBSA or hotels that you can convert offices into.” Cheung says office withdrawals are likely to continue, particularly among the lower grades. “There’s a strong argument for some office being taken off market, because if you really dive into the vacancy numbers, a lot of that vacancy sits in B, C and D grade assets. “A lot of these assets are 100 per cent vacant, so there really isn’t a reason for them to remain as office.” The future of the office sector Top-tier occupancy remains tight, Creagh says, with Marquette’s Blue Tower near fully leased and Gold Tower in the high 90 per cent range. And while Covid intensified debate about the sector’s future, Cheung argues the shift is evolutionary rather than existential. “Hybrid working has always been around,” Cheung says. ▲ Centuria’s A-grade asset 101 Moray Street in Melbourne has "5-star hotel" features. “And looking at the actual space being taken up by our tenants, they’re just using the space in a slightly different way, looking for meeting spaces or town hall spaces [for example], but they’re actually roughly the same footprint.” With limited new supply, competition for quality space is expected to intensify. “As more of the good quality space is snapped up, we will see demand flow on to some of the other surrounding markets, or even some of the lower grade buildings start garnering a bit more interest,” Cheung says. “So really, the outlook over the medium and long term really is good for office, despite all the short term volatility.”

Left for Dead, Office Sector Rises Again as Location Becomes King

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