Office Market Analysis

Q2 2015 Accelerating success. Office Market Analysis KwaZulu-Natal Report

Contents Highlights 1 Summary 2 Statistics 2 Climate 3 Supply 6 Demand 8 Vacancies 9 KwaZulu-Natal Rental Rates 10 Prognosis 11

Report Highlights The office market in KwaZulu-Natal in Q2 was characterised by stable supply and declining demand levels. Durban s vacancy rate was the second lowest nationally after Cape Town s for a second consecutive quarter. annual economic growth forecast for 2015 was adjusted down slightly to 2% from 2.5%. Despite the ongoing economic and energy infrastructure pressures, foreign investment in South Africa remained positive in Q2, with commercial property still considered a good investment. The economy showed a slight improvement in Q2, but overall remained weak. The Rand was below successive support levels suggesting a continuation in its depreciation, and the country s

Report Summary Summary Statistics Colliers International South Africa s Q2 2015 Office Market Analysis provides a brief overview of the key factors impacting the KwaZulu-Natal office market and future prognosis for the market. The Analysis focuses specifically on the Durban area within KwaZulu-Natal. KwaZulu-Natal Prime Gross Rent (R/m²) A-Grade Gross Rent (R/m²) Prime Yield (%) 2015 Overall KwaZulu-Natal Vacancies (%) Overall National Vacancies (%) Annual Commercial Property Escalations (%) 130 130 10 10.2 10.6 8-10 Year-On-Year Change +25 Year-On-Year Change +30 Year-On-Year Change +50bps Year-On-Year Change -400bps Year-On-Year Change -70bps Year-On-Year Change ±150bps 6 month outlook 6 month outlook 6 month outlook 6 month outlook 6 month outlook 6 month outlook 2014 105 100 9.5 14.2 11.3 7-8.5

Macro-Economic Climate South Africa s Economic Growth Despite showing a slight improvement when compared to Q1 2015, overall the economy remained very weak in Q2 of this year. There was a rebound in the service and manufacturing sectors, however the mining industry was weaker in Q2, albeit looked stronger over the year. Slight improvement in the retail sector was also seen, but while growth was positive overall, it remained slow. Q2 also saw ratings agency Moody s revise their growth forecast for South Africa down to 2% from 2.5%, and it forecast that it did not expect the country to reach a 3% pace of growth again until 2017 at the earliest. Moody s accredited the downgrade to the worsening power outages seen in Q2 and Q1. Despite the growth forecast revision, the ratings agency still rated South Africa s outlook as stable, which reflected policymakers commitment to contain increases in government deficits and debts. The South African Reserve Bank echoed Moody s lacklustre sentiments with regards to South Africa s economic growth, and while unenthusiastic, they are not in panic mode just yet. 2.5% 2% Q1 South Africa s unemployment rate remained an ongoing economic concern, with figures in Q2 rising by 12.8% when compared to Q1 - the highest that have been seen since 2005. Q2 Inflation The inflation rate was recorded at 4.7% at the end of Q2, and was lower than market expectations. 4.7% Q2 The highest contribution came from prices of housing and utilities which rose 5.4% year-onyear, but were slower than the 5.6% increase seen in mid-q2. Water cost posted the highest increase (8.5%), followed by electricity and fuels (7%). The annual core inflation rate, which excluded the prices of food, non-alcoholic beverages, petrol and energy, slowed to 5.5% from 5.7% in mid-q2 - the lowest seen since May of 2014. Core inflation closed at an uncomfortably high rate of 5.8% at quarter-end a figure that SARB will likely react to in Q3. When we refer to the rate of inflation in South Africa, this often refers to the rate of inflation based on the Consumer Price Index (CPI). The South African CPI measures changes in the prices paid by consumers for a standard basket of goods and services on a monthly basis. In order to measure inflation, an assessment is made of how much the CPI has risen in percentage terms over a given period compared to the CPI in a preceding period. If prices have fallen this is called deflation. CPI inflation rose marginally to 4.7% year-on-year at the end of Q2, from 4.6% year-on-year the month before, on a 47c/litre increase in the petrol price, following a higher global oil price and rand weakness in that month. CPI 4.7% Q2 2015

Annual Property Escalations It is key to note that annual commercial property escalations are not linked to CPI inflation. At quarter-end, the annual commercial property escalations were between 8%-10%, with office properties slightly higher than industrial. Interest Rates 8-10% Q2 Prime bank lending rates ended Q2 at 9.25%, and SARB left repurchase interest rates unchanged at 5.75%. It did however indicate, that a rise in interest rates of at last 25bps was highly likely in early Q3 2015. Q2 Q2 9.25% Prime bank lending rates 5.75% SARB Repurchase Interest Rates At the time of this Analysis being published, SARB had increased its benchmark repurchase interest rate by 25bps on 23 July 2015, as forecast. Further rate hikes are expected towards year-end and in 2016 on the back of mounting inflationary pressures. It is anticipated that a hike in prime interest rates will affect South Africa s commercial property market, but only marginally. The Rand The climax seen in the Greek debt crisis in Q2 reverberated throughout global financial markets, and the Rand and South African financial asset prices were hit more than most. Faith in the Eurozone and Greek/Euro alliance is very weak in general globally. Across Q2, the Rand remained below successive support levels suggesting a continuation in its depreciation. A break above R12.15/$1.00 signalled a further depreciation in the Rand going forward, to the R13.00/$1.00 level. Globally, only the United States and United Kingdom have optimistic currency growth forecasts, and both countries currencies are very strong, and will continue to be, against the Rand. As a result, any further decline in the Rand against Pound Sterling or the US Dollar will not be as a result of any local issues, economic or otherwise.

Foreign Investment Despite the economic struggles, ongoing loadshedding issues and global low investor confidence in emerging markets, foreign investment in South Africa remained positive in Q2. Listed commercial property outclassed equities, with bonds and cash delivering 26.5% returns. Absa's property equity fund was the best performing real estate fund of Q2, with returns of 39.67%. So far as new listings are concerned, the following commercial funds' 12 month returns (May 2014-May 2015) are key to note: South African-listed property funds comprehensively outperformed their global counterparts in the first half of this year, even though analysts expect the sector to lose some momentum in the second half of the year. In Rand terms, the South African Property index delivered an 8.68% total return for the year to date while the S&P Global Real Estate Investment Trust index, which contains listed property companies from developed markets, had managed 3.47%. Accelerate Lodestone 37% 37% Q2 Q2 8.68% South African Property index 3.47% S&P Global Real Estate Investment Trust index South Africa s property market performed well amid slow economic growth thanks to, among other factors, strong demand for housing, consistent performances from retail property, more investment in the sector from domestic and offshore sources, and better-than-expected distribution growth. Tower Sirius Stenprop 27% 8% 2%

Supply The office market remained relatively stable from a supply perspective in Q2. Interest levels in Westville, La Lucia Ridge and Ridgeside Umhlanga remained high in Q2 with the average user looking for 250m², and some larger users looking for 500 700m². Momentum was however also seen to shift to the surrounding La Lucia Ridge and Umhlanga New Town Centre, where the remaining bulk is under development. Active redevelopment of retail and office CBD buildings to retail and residential units was also seen - similar to the development of Braamfontein in Johannesburg five years ago - and developers continue to actively seek and purchase buildings for this purpose in the Durban CBD. A noteworthy completion in Q2 in KwaZulu-Natal included, but was not limited to: Buckhurst Building, Essex Gardens Office Park (Westville, 1,438m 2 ) Please refer to Fig 1 on the following page for a selection of ongoing and new construction projects in KwaZulu-Natal.

Supply (Cont.) Fig. 1 SELECTED KWAZULU-NATAL OFFICE DEVELOPMENTS UNDER CONSTRUCTION Development Status Completion Location Size Illovo Sugar Head Office Under Construction Q1 2016 Growthpoint Ridgeview Under Construction Q4 2015 The Boulevard (1st Phase) Under Construction Q2 2016 Parkside, Umhlanga Ridge Ridgeside, Umhlanga Ridge Umhlanga New Town Centre 8,500m 2 6,500m 2 5,500m 2 Redevelopment of Upminster Building Under Construction Q4 2015 Woodford Under Construction Q3 2015 Essex Gardens, Westville Essex Gardens, Westville 1,370m 2 ±1,230m 2 *Fig 1 above shows a selection of the KwaZulu-Natal office developments currently under construction. This is a sample list, and not fully indicative of the market as a whole. In addition to the developments detailed above, there is also a significant long-term Tongaat Hulett / ethekwini Municipality joint venture development with worth noting in KwaZulu-Natal, called Bridge City. Located within the Inanda, Ntuzuma and Kwamashu (INK) region, Bridge City is a 60 hectare development which started in 2008 (estimated completion is 2020), and it sees the conversion of an old, unsold industrial estate into a new Town Centre in a previously underdeveloped region. Based on a successful inter-model facility that includes the Bus Rapid Transport (BRT) and a Rail Station, Bridge City is very well located for convenient access. The entire development includes a mixed-use and residential Town Centre, as well as a Business Estate (a Greenfields development), which is expected to attract public and private investment totalling R10 billion, with the Business Estate set to transform the surrounding communities of Inanda, Ntuzuma and KwaMashu (INK). With the rail line now in operation, there has been a significant increase in interest in Bridge City, with Tongaat Hulett having sold three sites in the soonto-be-completed Estate over the past year. A number of new deals are also due to conclude in both the Town Centre and Business Estate over the next few months.

Demand Demand declined in Q2 in KwaZulu-Natal. This has largely been attributed to the consolidation of businesses or a retraction of national offices from the smaller regions. There were a number of Tenants looking for specific office space and the Landlords who were effective in securing those Tenants were literally the ones who had the space available. Time constraints or building programs precluded the rest. With regards to leasing activity, there was a marked increase in movement in the La Lucia Ridge and Umhlanga Rocks precincts as supply increased with more choice for Tenants in the area. There was also a slight downward shift in the market expectations of rental rates, with negotiated rentals down some 10% due to oversupply. Existing tenancies continued to show positive growth, with little movement and downsizing of existing tenants evident. The Westville area remained buoyant with a constant supply of 100 140m² users searching for space. Notable new deals and renewals in KwaZulu-Natal from Q2 included, but were not limited to: Hamburg Sud Shipping Essex Gardens Office Park, Westville - 685m 2 New Deal 295 Florida Road - Morningside - 321m² New Deal Jasco Enterprises Essex Gardens Office Park, Westville 635m² New Deal Mayfair on the Lake - Umhlanga New Town Centre 1,027m² Renewal Pencarrow Park - La Lucia Ridge - 372m² New Deal Henwood Britter Attorneys Durban Club Place - 379m² Renewal

Vacancies National Snapshot As at Q2 2015, the national office vacancy rate as recorded by the South African Property Owners Association (SAPOA) was 10.6% 60bps down on the quarter before, marking the largest quarter-on-quarter decline since 2008. 10.6% NATIONAL VACANCY RATE Overall, the office sector is still in the early-stage recovery with the aggregate vacancy rate having trended broadly sideways since 2010. A sustained improvement in the office vacancy rate relies squarely on a strengthening of key macro drivers such as economic growth and capital investment. While Q2 s large decline in vacancy rate should be viewed as positive, some perspective is needed, The current phase of the cycle is similar in many ways to the period 2000-2001, when both office sector and macroeconomic fundamentals were at a similar crossroads. During that period, similar improvements in the office vacancy rate were observed in some quarters only to be offset by deteriorating macroeconomic fundamentals that led to the office vacancy rate eventually peaking more than 2 years later in 2003.

Q2 2015 Q2 2015 KwaZulu-Natal On a regional level at quarter end, the second lowest vacancy rate nationally (after Cape Town) was recorded for Durban at 10.2%. Please refer to the graphics below for the average gross rental bands for each office grade in KwaZulu-Natal for Q2 2014 compared against Q2 2015. KZN VACANCY 10.2% Q2 Rental Rates The latest quarter also saw national asking rentals continue above their inflation trend by posting a year-on-year growth of 5.1%. Gross asking rentals however aren t much higher than they were in 2011, highlighting the difficult stretch the office sector has behind it. Asking rental growth is likely to trend above inflation going forward, positively impacting net income growth, potentially resulting in a positive re-rating of risk, with the promise of capital growth upside. Gross Rent (R/m2) 225 200 175 150 125 100 75 50 25 0 Q2 2014 R105/m 2 R130/m 2 GRADE P Q2 2014 R101/m 2 Q2 2015 R120/m 2 GRADE A GRADE Q2 2014 R84m 2 B R110m 2

Market Prognosis Looking ahead, the KwaZulu-Natal office market will likely continue to struggle, with Tenant retention remaining a priority. Enquiries continue to increase month on month, with average size requirements lifting to 200m². greater Umhlanga business node, which includes La Lucia Ridge, Ridgeside, Mt. Edgecombe and the Umhlanga New Town Centre. Significant marketing efforts will need to be implemented to present the new buildings more favourably to a market where demand is limited. There will be increased pressure on new office developments as they near completion, especially towards the end of Q4 2015, when there is an estimated 50, 000m² coming onto market in the Report Sources: Business Day Live Colliers International South Africa Fin24.com GlobalRates.com Growthpoint Properties Investment Property Databank (IPD) Nedbank PCS Valuation Services Redefine Properties South African Property Owners Association (SAPOA) South African Reserve Bank (SARB) Trading Economics

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