COMMERCIAL

Research
property Annual 2009
www.bayleys.co.nz

Sub lease market adds to Tenants drive hard bargains at Insurance and power costs set
vacancy levels lease renewals to increase OPEX costs

NATIONAL COMMERCIAL REPORT

The latest review of the country’s major commercial office CBD OFFICE VACANCY RATES
markets has revealed a number of similar trends, driven by the
35%
changing economic environment. Wellington - CBD
30% Auckland CBD
Landlords have been forced to change their priorities from rental Christchurch
Overall Vacancy Rate

growth to tenant retention as businesses come under financial 25%

pressure. An increasing number of occupiers are looking to
cut occupancy costs either through re-negotiating lease terms
with their landlords or through sub-leasing a proportion of their
space. Reduced tenant demand has resulted in a number of
significant proposed speculative developments throughout the
country being shelved,
Rental rates have generally fallen either via a reduction in
headline asking rents or through increased incentives. Yields
have softened as evidenced by the recent revaluations of a
number of the listed property trusts portfolios.
The investment market has been characterised by a much
keener appreciation of tenant risk. That having been said, well
tenanted properties have continued to attract low yields as the
amount of good grade investment stock being brought to market
remains limited.
HEADLINE VACANCY REMAINS LOW
The latest vacancy surveys conducted in New Zealand’s three
largest Central Business Districts (CBD’s) Auckland, by Bayleys
Research, Wellington, by Telfer Young and Christchurch, by Fright
Aubrey show that headline vacancy rates have remained at
historically low levels.
The latest figures show vacancy rates in Auckland’s CBD of 8.8%
based on a January 2009 survey, 7.4% in Wellington based
upon a December 2008 survey and 12.1% in Christchurch based
upon a September 2008 survey.
The figures reflect the fact that in recent years the availability of
office space has been tight as little speculative development has
been carried out. Significantly sized schemes have generally been
progressed only following high levels of tenant pre-commitment.
There is little doubt that these vacancy rates which, as stated
above, are all at historically low levels, however Bayleys Research
forecasts suggest these levels will come under pressure through
20%
15%
10%
5%
1992
1993
1994
1995
1996
1997
1998
1999
2000
2001
2002
2003
2004
2005
2006
2007
2008
2009
Source: Auckland CBD - Bayleys Research, TelferYoung Research
Wellington - All CBD, Christchurch CBD - Fright Aubrey Property Consultants
2009. Companies are being placed under financial pressure
as a result of the current financial economic climate and are
therefore attempting to sub let space which is now surplus to
requirements. In addition space being vacated by companies
moving into newly completed pre-committed buildings is going
to add to the vacant inventory.
The above figures also fail to take into account sub lease space
which is in the market place. An increasing number of office
tenants are undergoing a consolidation of their business, are
reducing staff levels and looking for opportunities to shrink the
amount of office space they are committed to. For many, the lead-
in time to their lease expiry is too long and other alternatives
are being considered, including subleasing.
Therefore, while the latest vacancy levels are still very healthy,
they are probably masking an increasing amount of space
already being made available to the market through a growing
sub-lease market. To date, much of the marketing of this space
is being conducted “off market” as organisations prefer to keep
their level of retrenchment private for as long as possible.
The market view from the provinces is that the smaller markets
will follow the general trends evident in the major centres.
Bayleys Research recently completed the New Zealand
Commercial Office Survey, with all respondents expecting the
amount of space available for lease in their area to increase,
either directly or through the subleasing market. It is expected
that this scenario will be exacerbated as more leases come up
for renewal and new lease enquiries slow to a crawl.
Some regional centres, such as Hawkes Bay, have so far bucked
this trend, continuing to operate a sound commercial sector on
the back of a booming rural sector. However, given the slowing
rural sector so far in 2009, this is likely to flow through to the
office sector throughout the year. This situation will not be helped
as tenants relocate from Napier to the Ahuriri Business Centre
which has been developed on the ex British American Tobacco
site by new owners Big Save. The Ministry of Education and
Opus consultants are amongst occupiers who have committed
to space.
In a number of other centres the make up of the tenant pool
has also had an insulating effect such as in Whangarei where
the fact that a high proportion of the office space is occupied by
governmental tenants has limited the impact of the economic
downturn to date.
Against this background, the treatment of rent reviews is also
changing. Reviews to market level are unlikely to show any
growth unless it has been some time since they were last
negotiated in which case there may be some pent up increase.
Tenants with CPI based reviews however could still be facing an
increase of approximately 6.5%, if the reviews are implemented
two yearly.
In such cases again tenants are increasingly requesting that
landlords forego the increase. Landlords should however
continue to document the increase in order that the full rent
can be charged once any agreed rental concession comes to
an end.
The key to a mutually successful agreement being reached
in the current economic climate is to open discussions at an
early stage. Both parties must be flexible but also understand
that any variation to the existing leasehold arrangements must
provide benefits to both sides.

TENANTS IN THE DRIVING SEAT

The recessionary environment has had a profound effect upon
the balance of power in negotiations between landlords and RETURNS RETREAT BUT INVESTORS REMAIN ACTIVE
tenants. For several years, leading up to mid 2008, a tight office The downward pressure on rental levels and softening yields
supply in most centres across the country, particularly of higher have combined to drive total returns from CBD located offices
grade space, saw landlords being able to attract new tenants to into negative territory for the first time since the inception of
vacant space and benefit from increased rents at review. the index 15 years ago according to statistics released by the
In recent months however, the economic downturn has placed a Property Council of New Zealand (PCNZ).
strain on company balance sheets and led to a marked reduction
in the levels of tenant enquiry for vacant office space. As a result, a NEW ZEALAND CBD OFFICES ANNUAL RETURNS
growing number of tenants are approaching landlords requesting 20% 1 Year Capital Return
assistance to ride out the business downturn. Landlords, faced 15%
1 Year Income Return
Total Return
with the alternative of increasing vacancy and potentially lengthy
10%
letting periods, are being forced to take a flexible approach to
Return (%)

negotiations as their priority shifts from rental growth to tenant 5%

retention. 0%
The shift has put tenants very much in the driving seat, particularly -5
as they approach lease terminations. Landlords of vacant space
-10%
are being forced to compete with tenants existing landlords.
Dec 01
Mar 02
Jun 02
Sep 02
Dec 02
Mar 03
Jun 03
Sep 03
Dec 03
Mar 04
Jun 04
Sep 04
Dec 04
Mar 05
Jun 05
Sep 05
Dec 05
Mar 06
Jun 06
Sep 06
Dec 06
Mar 07
Jun 07
Sep 07
Dec 07
Mar 08
Jun 08
Sep 08
Dec 08
Mar 09
There are frequent market reports of leasing agreements on new
Year Ending
space “falling over” at a very late stage as tenants have reached
Source: PCNZ, Bayleys Research
a more preferential deal with their existing landlords.
As a result of the above, letting incentives are becoming Throughout 2007 total returns, income return plus capital
increasingly prominent with landlords offering rent free periods, gains, from the sector sat above 17%, however throughout
fitouts and flexible lease terms in order to meet tenants 2008 returns trended downward finishing the year at 10.7%.
preference for shorter initial terms. The first quarter of 2009 however, has seen a further slide
Tenants who are tied into existing leases are however, also in returns. In the three months to the end of March 2009
looking to their landlords to amend the terms of their occupation capital returns totalled -6.6% which resulted in total returns
as they look to ride out the economic downturn. falling to -0.1%. The CBD office market has remained one of
The most common tenant requests are for rental holidays or the better performing sectors with the “all property” index
temporary rent reductions. Reports from professional property producing -0.8% total returns with only National and Auckland
managers indicate that landlords are in many cases willing to based industrial premises and Wellington CBD offices producing
accommodate tenants but are looking in return to tie the tenants positive returns.
into longer term leases. In essence therefore, a Landlord giving The decline in total returns is predominantly a result of a
the equivalent of three months rent free would be looking for the sharp decline in the level of capital gains. In December 2007
tenant to commit to a lease extension. annual capital gains stood at 7.6%, by the final quarter of 2008
In the face of low levels of tenant enquiry rental levels are this figure had fallen to just below 2.5%. The decline in this
under downward pressure. This is however a position that is element reflects the softening of yields which has been evident
only available to new tenants entering the market as a majority to a greater or lesser extent across the country. The softening
of tenants are subject to leases which contain ratchet clauses has been particularly evident within secondary buildings where
which do not permit rents to fall below currently passing levels. tenant risk is perceived to be greater. However, even in respect
of premium grade offices, higher yields are being factored in brought to market have allowed investors to purchase a share
by purchasers and valuers. In the most recent revaluation of in the property title for as little as $50,000 with the property
the Kiwi Income Property Trust office portfolio the yield on the providing a pre tax return of approximately 10%.
landmark Vero building was set at 7.5%, an increase of 80
basis points over that used at the same time in 2008.
The investment market has remained fairly robust across most OPEX CHARGES FACE UPWARD PRESSURE
regions according to the Bayleys Research survey. There is a
The median operating expenses (Opex) charges for A grade CBD
reported shortage of investment opportunities, particularly of prime
located office premises in New Zealand reached just over $114 per
grade stock in most centres, particularly, Hamilton. Queenstown,
metre per annum in 2008 according to the latest operating expenses
Tauranga, Dunedin, Rotorua, Taupo and Hawkes Bay.
benchmark released by the Property Council of New Zealand.
Interest in property investment has recently been strengthened
Occupiers of B grade offices are paying a median of approximately
as a result of falling interest rates. Investors are looking for
$86 per metre per annum while this figure drops to just over
higher returns than are now being offered by the leading banks
$73 for C grade properties.
and building societies. Commercial property therefore, despite
As the graph over shows the most significant components of the
offering lower total returns than have been enjoyed in recent
overall charge are rates, insurance and energy which between
years, is an attractive investment option particularly given the
them make up over 50% of the total annual cost.
marked reduction in borrowing costs evident in the market in
The cost of insurance is influenced heavily by the location of
recent months.
the building with those in earthquake areas facing significantly
The fall in interest rates and softening of yields has also
higher costs. The Property Council benchmark shows, for
encouraged an increase in the syndication of commercial
example, insurance rates for Wellington CBD located properties
properties. Syndication provides an opportunity for those with
being over three times the cost of their Auckland located
relatively modest investment funds to benefit from part ownership
equivalents with the median rate sitting at in excess of $8.60
of a large commercial property asset. Recent opportunities
per metre per annum.

NEW ZEALAND COMMERCIAL OFFICE LEASING MARKETS - KEY LEASING AND INVESTMENT TRENDS 2009
Quality of Rental Range Trend Leasing Market Capitalisation Rate Investment Market
District Space Low to High Demand Supply Low to High Demand Availability

Kerikeri Prime $210.00 - $265.00 Weak Surplus 7.5% - 8.5% Weak Sufficient
Secondary $140.00 - $200.00 Weak Surplus 8.5% - 10.0% Steady Shortage
Whangarei Prime $150.00 - $200.00 Weak Sufficient 8.0% - 9.0% Weak Sufficient
Secondary $110.00 - $125.00 Weak Sufficient 9.0% - 10.0% Weak Sufficient
Takapuna Prime $250.00 - $320.00 Sufficient Sufficient 7.0% - 8.0% Steady Shortage
Secondary $160.00 - $235.00 Weak Sufficient 8.5% - 10.0% Weak Sufficient
Auckland CBD Prime $475.00 - $550.00 Steady Surplus 7.50% - 8.50% Sufficient Shortage
Secondary $210.00 - $270.00 Weak Surplus 8.00% - 9.00% Weak Sufficient
Manukau Prime $200.00 - $250.00 Weak Surplus 8.5% - 9.5% Weak Sufficient
Secondary $120.00 - $135.00 Weak Surplus 10.0% - 12.0% Weak Sufficient
Hamilton Prime $160.00 - $220.00 Weak Sufficient 8.0% - 9.0% Steady Shortage
Secondary $100.00 - $140.00 Weak Surplus 9.0% - 10.0% Weak Sufficient
Tauranga Prime $200.00 - $280.00 Weak Sufficient 7.0% - 8.0% Weak Shortage
Secondary $160.00 - $200.00 Weak Surplus 9.0% - 10.0% Weak Shortage
Rotorua Prime $100.00 - $150.00 Weak Surplus 8.5% - 9.5% Weak Shortage
Secondary $80.00 - $100.00 Weak Surplus 9.5% - 10.5% Weak Shortage
Taupo Prime $120.00 - $140.00 Steady Sufficient 4.8% - 6.5% Steady Shortage
Secondary $75.00 - $110.00 Weak Surplus 7.0% - 9.0% Weak Sufficient
Hawke’s Bay Prime $130.00 - $200.00 Steady Sufficient 8.5% - 10.0% Steady Shortage
Secondary $70.00 - $130.00 Weak Surplus 10.0% - 12.0% Weak Shortage
Gisborne Prime $160.00 - $220.00 Weak Surplus 8.0% - 9.0% Steady Shortage
Secondary $80.00 - $160.00 Weak Surplus 10.0% - 11.0% Weak Surplus
Taranaki Prime $165.00 - $230.00 Steady Sufficient 8.0% - 9.0% Steady Shortage
Secondary $70.00 - $165.00 Steady Sufficient 9.5% - 10.5% Steady Shortage
Palmerston North Prime $210.00 - $300.00 Weak Sufficient 7.5% - 8.5% Weak Sufficient
Secondary $120.00 - $140.00 Weak Sufficient 10.0% - 11.0% Weak Sufficient
Wellington Prime $400.00 - $560.00 Weak Sufficient 7.3% - 8.5% Sufficient Sufficient
Secondary $230.00 - $380.00 Weak Sufficient 8.5% - 9.5% Sufficient Sufficient
Nelson Prime $150.00 - $190.00 Weak Sufficient 7.5% - 8.5% Steady Sufficient
Secondary $90.00 - $140.00 Weak Surplus 8.5% - 10.0% Steady Sufficient
Christchurch Prime $290.00 - $330.00 Weak Sufficient 7.0% - 9.0% Steady Scarce
Secondary $230.00 - $270.00 Weak Sufficient 9.0% - 11.0% Steady Sufficient
Queenstown Prime $250.00 - $300.00 Weak Surplus 6.0% - 8.0% Strong Shortage
Secondary $170.00 - $200.00 Weak Surplus 8.0% - 9.0% Strong Shortage
Dunedin Prime $160.00 - $220.00 Weak Sufficient 7.0% - 8.0% Steady Shortage
Secondary $80.00 - $100.00 Weak Sufficient 8.5% - 9.5% Steady Shortage
Source: Bayleys Research
 In January of 2010 electricity generators enter the emissions
MEDIAN COST SUMMARY NZ CBD OFFICES by grade
trading scheme which will in a majority of cases result in an
Other
$120 Water Charges increase in generation costs which will have to be passed on to
Energy
end users. While the impact on prices is unknown at this stage,
$100 Sundries
Sinking Fund most estimates point towards an increase in electricity charges
$80 Security
Reparis & Maint of between two and four percent.
$/m2 p.a

$60 Lifts
HVAC Insurance premiums have also been on an upward trend in recent
$40 General Fees months following a period of three to four years when the market
Fire Protection
$20
Cleaning has been fairly “soft”. The global nature of the insurance market
Supervision
Building WOF means that premiums are influenced more by international
$0 Admin
NZ CBD Office NZ CBD Office NZ CBD Office Insurance
events, such as natural disasters and the economic slowdown,
A Grade B Grade C Grade Rates rather than local issues.
Source: PCNZ, Bayleys Research Over recent months insurers have received claims for international
disasters such as cyclones and the Australian bush fires. At
Unsurprisingly, given the relative size of office complexes in the same time underwriters have been hit by huge falls in their
Auckland and Wellington compared with those of Christchurch investment income.
and Wellington annual OPEX charges differ widely.
The Property Council Benchmark shows that the median rate
paid in Hamilton is almost $50/m2 per annum less than that
current in the Auckland CBD market with significantly lower rates
being a major contributor to the difference.
Landlords are likely to come under increasing pressure to try to
hold down OPEX charges over coming months as tenants look to
minimise their occupancy costs and Landlords themselves have
to meet a higher proportion of costs as vacancy rates rise.

MEDIAN COST SUMMARY by location

Other
$100 Water Charges
$90 Energy
Sundries
$80
Sinking Fund
$70 Security
$60 Reparis & Maint
$/m2 p.a

$50 Lifts
HVAC
$40 General Fees
$30 Fire Protection
$20 Cleaning
Supervision
$10
Building WOF Public Trust Building, Lambton Quay sold for $19 million.
$0 Admin
Auckland Wellington Christchurch Hamilton Insurance
CBD CBD CBD CBD Rates As a result it is anticipated by brokers that premiums are likely
Source: PCNZ, Bayleys Research
to rise by between 20% and 30% over the next 12-18 months.
Properties with poor claims records are going to be particularly
There will therefore be a temptation to delay costly repair and susceptible to increases while property owners or managing
maintenance projects which, while being financially attractive in agents who have the ability to aggregate multiple buildings will
the short term, are likely to have a detrimental impact on both be in a stronger negotiating position.
the efficiency of the building services and the re-letting potential
of the property should the delays be too protracted.
Looking to the short term future, operating costs are likely to be
placed under upward pressure particularly in respect of energy
and insurance charges.

BAYLEYS RESEARCH: FOR MORE INFORMATION CONTACT US:

<Bayleys Realty Group Gerald Rundle
Ph: 09 375 6868 B.Com, B.P.A, Registered Valuer, ANZIV, SNZPI < PROPERTY INVESTMENT
Email: gerald.rundle@bayleys.co.nz & MARKET ANALYSIS
Fax: 09 358 3548 Ian Little
<Bayleys Offices < PROPERTY RESEARCH
B.Sc (Hons), MRICS
Free Phone: 0800 Bayleys Email: ian.little@bayleys.co.nz < PROPERTY CONSULTANCY
(0800 229539) Sarah Davidson < PROPERTY ECONOMICS
BBS
<Bayleys Internet Site Email: sarah.davidson@bayleys.co.nz
www.bayleys.co.nz Scott Cordes
Communications Manager
Email: scott.cordes@bayleys.co.nz
This publication is prepared by Bayleys Research. All opinions,
statements, analyses expressed are based on information from
sources which Bayleys Research believes to be authentic and
reliable. Bayleys issues no invitation to anyone to rely solely on
the information contained herein and intends by this statement to
exclude liability for any such opinions, statements and analyses.