Central London Office Market Report Leasing and investment volumes robust in 2017 despite political uncertainty Q4 2017
2 Central London Office Market Report Q4 2017 Central London overview Political uncertainty continues to temper UK economic growth The UK political climate remains highly uncertain. More serious decisions about Brexit will need to be made over the coming 12 months, and the ruling Conservative party remains divided over the direction of travel. However, while 2018 forecasts have been revised down, with the UK lagging behind other major economies, it is worth noting that the UK easily outperformed expectations in 2017. While the Brexit vote has obviously impacted on the exchange rate and inflation, other signals are mixed. Business sentiment has been relatively buoyant, with the composite Purchasing Manager s Index (PMI) above 50, which indicates expected expansion. However, we have seen a contrast in consumer sentiment, with rising inflation impacting real wages and retail sales growth slowing. Unemployment continues to fall, with the unemployment rate now just 4.2%, the lowest level in more than 40 years. The combination of these inflationary pressures and strong employment picture led the Bank of England to increase interest rates in November for the first time in 10 years. Rapid expansion of flexible offices underpins strong take-up Take-up reached 3.0 in Q4, bringing the full year total to 11.3, 11% up on the 2016 total, and comfortably ahead of long-term average levels. The City led the way in Q4, recording its strongest quarter of the year, with 1.8 let across 66 transactions, and take-up ending the year 15% ahead of the 10 year average at 6.2. Full year take-up in the West End, at 4.4, was the highest since 2007, despite slower activity in the final quarter. The largest transaction of the quarter 270,000 to HMRC in Stratford underpinned stronger take-up in East London. The expansion of the flexible offices sector, led by WeWork, continued apace in Q4, accounting for 28% of quarterly take-up and 20% in 2017 overall. Vacancy rate edges up, driven by City and East London Supply across London recorded a marginal increase in Q4, underpinned by the City and East London, which saw the vacancy rate end the year at 5.0%. In the City, vacancy continued to edge up slowly, to 4.9%, while East London rose more significantly from 8.1% to 8.9%. West End vacancy remained unchanged at 4.4%. Despite 2017 development completions reaching the third highest total on record, new supply has been quickly absorbed with the new build vacancy rate falling to 0.6% in Q4, less than half the. Newly marketed second hand space has accounted for the majority of the rise in supply. Prime rents were stable in Q4, remaining at 110 per in the West End core, and 70 per in the City. Investment volumes just shy of record levels Central London investment market turnover totalled 4.7 billion in Q4, 20% above the 3.9 billion traded in Q3, and bringing total 2017 volumes to 17.4 billion. This marks a major increase on the 12.9 billion traded in 2016 but is slightly below the records set between 2013 and 2015, when turnover exceeded 18 billion for three consecutive years. Strong capital inflows from China and Hong Kong continued in Q4, accounting for a third of quarterly turnover. UK buyers were also more active in Q4, particularly in the West End, where they were involved in 68% of transactions. Prime yields remained stable at 3.5% in the West End and 4.25% in the City. Jon Neale Head of UK Research
Central London Office Market Report Q4 2017 3 Historic take-up by quarter s 4.0 3.5 3.0 2.5 2.0 1.5 1.0 0.5 0 City West End East London Q1 Q2 Q3 Q4 Q1 Q2 Q3 Q4 Q1 Q2 Q3 Q4 Q1 Q2 Q3 Q4 Q1 Q2 Q3 Q4 Q1 Q2 Q3 Q4 2012 2013 2014 2015 2016 2017 Speculative development under construction () Vacancy rates 5.5m 4.2m City 2.4m 1.5m West End 0.5m 0.3m East London City up to 4.9% from 4.8% West End stable 4.4% 4.4% East London up to 8.9% from 8.1% Prime rents (per ) Prime yields 140 City East London West End 7% City West End 120 6% 100 80 60 5% 4% 40 3% 20 2007 2008 2009 2010 2011 2012 2013 2014 2015 2016 2017 2% 2007 2008 2009 2010 2011 2012 2013 2014 2015 2016 2017 2017 purchaser origin 17% UK 83% Overseas 2017 investment volumes 12.9 billion (2016) 17.4 billion (2017) 35%
4 Central London Office Market Report Q4 2017 Key transactions 1 Embassy Gardens, SW8 Tenant: Penguin Random House Size: 84,638 Rent: Blended at early 50s per Paul Grindal Director Office Agency Ballymore has agreed terms with Penguin Random House for a 80,000 pre-let on the ground to 5th floors of 1 Embassy Gardens. The building totals approximately 160,000 and is due to be completed by September 2019. This is a further endorsement of the regeneration that is happening in the fast developing Nine Elms area following Apple and the US Embassy choosing to locate here. 12 Hammersmith Grove, W6 Price: 170m Purchaser: Spelthorne Council Simon Beckett Director Capital Markets 12 Hammersmith Grove represents the largest office building ever sold in the Hammersmith market which continues its development as a destination for international tenants and investors. The building, developed by Aberdeen Standard Investments with their partner U+I, houses a range of global corporates all secured on long leases at market rents, reflecting its excellent design and specification. One Creechurch Place, EC3 Tenant: Hyperion Insurance Group Size: 115,910 Rent: Confidential Matt Mycock Director Office Agency 116,000 was let to Hyperion Insurance Group in November. This was the largest of four deals totalling 188,000 completing in Q4 at the building, leaving just 64,000 available to lease. The lettings to Hyperion, Enstar, Dell and Travelers as well as the significant interest in the remaining space are all testament to the quality of the building and the continuing occupational demand in the City. Gerald Kaye, Chief Executive, Helical plc. 99 Gresham Street, EC2 Price: 136m Purchaser: Million Cities Patrick Cryer Director Capital Markets The sale of 99 Gresham Street reiterates the strength of the prime City of London office investment market and demonstrates the demand for well let, trophy assets. Legal & General pursued a comprehensive high-quality refurbishment in 2016 as well as repositioning the ground floor to provide a further four retail units along Coleman Street. Subsequent to this, JLL s City agency team was able to achieve a number of high profile office lettings within the building. This sale reflects the benefits of understanding changing local market dynamics and executing a bold and active asset management plan.
Central London Office Market Report Q4 2017 5 Issue to watch The Central London occupier market has belied expectations The Central London occupier market has belied expectations following Brexit with buoyant take-up volumes in 2017. However these strong headline figures do not tell the full story. Net absorption, which measures the change in office stock between two time periods, provides an alternative way to gauge the health of the market. This has remained relatively stable over the past few years - a slightly negative total in 2016 was followed by a positive outcome in 2017. The ongoing Brexit negotiations are likely to result in uncertainty in the employment market with some companies already thinking about reducing their London headcounts, which won t be captured in gross take-up figures. This will bring net absorption into focus as a useful measure of the strength of the market. Strong take-up does not tell the full story Take-up volumes have surprised on the upside since Brexit, with many commentators initially forecasting a steep fall in occupier demand. While take-up slowed either side of the Brexit vote, momentum quickly recovered. City take-up finished the year ahead of average while the West End recorded its strongest year in 10 years. But gross take-up figures only tell part of the story and can mask underlying weakness if interpreted incorrectly. Not all of this take-up is expansion, indeed in many cases an occupier is relocating from elsewhere in London. They may be intending to occupy space more efficiently, meaning that the overall impact on net take-up is negative. This is where net absorption can allow a more detailed analysis of the market. By measuring the change in occupied stock, it can provide a better gauge of whether the market is expanding or contracting. Central London net absorption s City West End East London 1996 1997 1998 1999 2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010 2011 2012 2013 2014 2015 2016 2017 Net absorption high in West End and stable in the City Net absorption was negative in 2016, driven in large part by the West End, where vacancy rose sharply. In 2017 net absorption was positive to the tune of 2.3, driven by strong take-up and falling vacancy in the West End, and the completion of major pre-let development schemes in the City. East London, on the other hand, recorded slightly negative net absorption. Pre-leasing accounted for the bulk of take-up and this is not captured until buildings complete. There has also been an increase in tenant-controlled space. Weaker outlook for net absorption but expected to remain positive There are multiple drivers of net absorption, but employment is the most important. Oxford Economics baseline forecast is for continued employment growth in Central London, albeit at a below average pace. This underpins our forecast for net absorption which remains positive over the next five years. While this may seem optimistic, it is worth considering that net absorption has rarely been negative over the past 10 years and has, on average, been positive at around 2.3, in line with the 2017 figure. However the picture is not uniform across business sectors. The UK s trading relationship with the EU remains uncertain and within Central London this will have the greatest impact on financial services businesses, which is reflected in the employment outlook.
6 Central London Office Market Report Q4 2017 West End overview Annual take-up reaches highest level since 2007 Take-up in the West End was in line with average levels during the final quarter of 2017, reaching 830,000 across 53 transactions. For the year as a whole however, take-up was buoyant at 4.4, the highest annual total since 2007 when it reached 4.6. The services and TMT sectors had the largest share of annual take-up with 32% and 29% respectively. Within the services sector, the majority of take-up (70%) involved flexible office providers and it is likely that the rapid expansion of flexible office providers seen last year will continue in 2018. Pre-leasing, although not so prominent in Q4, was a key theme in 2017, accounting for 1.3 or 29% of take-up. This is in line with last year s figure when preleasing totalled 1.4. Pre-leasing is expected to continue in 2018 but given the limited stock due to be delivered this year, occupiers will have to plan further in advance when thinking about their next office move. It seems likely that the relatively limited post-2018 pipeline will be further eroded. At 710,000, there has been little change in the volume of space under offer since last quarter. This remains above the long term average of 575,000 which is encouraging news for the first quarter of the year. Overall demand has picked up since September and stands at 4.8, although this is still below the long-term average. However, at 4.3, active demand is above average, suggesting that leasing momentum will be sustained in the first half of 2018 at least. Key active requirements in Q4 included Farfetch (20,000-60,000 ), Starbucks (50,000 ), Urban Outfitters (27,000 ) and Bank Leumi (22,000-24,000 ). Supply and overall vacancy unchanged in Q4 Overall supply was broadly unchanged in Q4 at 4.1, with existing stock accounting for the majority of take-up. The overall vacancy rate remained unchanged at 4.4%, just above the of 4.3%. Grade A vacancy decreased from 4.0% to 3.8% but remains above the long term average of 2.8%. Supply is expected to remain tight over the next two years with only 1.5 under construction speculatively, well below the long term average of 2.4. With rising costs in the construction industry and the current market uncertainty, it is likely that some development schemes will be delayed which will increase pressure on supply. Prime rents unchanged Prime rents in the core were unchanged at 110 per in Q4, where they have remained since the final quarter of 2016*. Letting conditions in this market appear to have stabilised and we therefore see no reason to increase or decrease prime rents. UK-based investors take largest share of investment volumes Investment volumes reached 1.1 billion across 23 transactions in Q4 which was both below the Q3 figure of 1.4 billion and the of 1.3 billion. For the year as a whole, investment volumes reached 6.2 billion, ahead of both last year s total of 5.2 billion and the 10-year average of 5.4 billion. UK investors had the largest investment share in annual terms and spent 2.0 billion in total across 33 transactions. At 33%, they accounted for a greater share of the market than investors from Hong Kong (18%) and Germany (11%). Despite their activity however, the average deal size for a UK investor was just 70. This compares with 170 for German investors and 140 for Hong Kong investors. This suggests that the West End has retained its reputation of being a safe haven for overseas investment. Key deals during the quarter include: the acquisition of 30 Broadwick Street, W1 by Savills Investment Management for 190, a net initial yield of 4.00% and a capital value of 2,015 per ; 22 Baker Street, W1 which was acquired by Lazari from the Loftus Family Trust for 123, a net initial yield of 3.75% and a capital value of 1,660 per and 15-17 Long Acre, WC2 which was purchased by Capco for 79, a net initial yield of 3.48% and a capital value of 1,853 per. *Assuming a 10,000 floor plate and a 10 year term
Central London Office Market Report Q4 2017 7 Strongest annual take-up since 2007 Under offer New Refurbished Second hand Key deals Pre-let/Under construction 6.0 5.0 s Penguin Random House Vedanta Resources Vitol 85,000 8,000 48,000 c. 50 per (blended) 175 per 30 Berkeley Square, W1 75.00 per Nova South. SW1 1 Embassy Gardens, SW8 Pre-let deal 4.0 3.0 2.0 1.0 0 2007 2008 2009 2010 2011 2012 2013 2014 2015 2016 2017 Active demand Speculative development TMT Speculative development 40% 3.5 Service 18% 3.0 Banking & finance 2.0 Public & administrative 10% Professional 9% Manufacturing 6% 3.1 thousands 11% 4.3 2017 total 2.0 1.5 1.0 0.5 0 2005 2006 2007 2008 2009 2010 2011 2012 2013 2014 2015 2016 2017 Purchaser origin 3% 3% 2% 2% 8% 3% 33% 4% 33% Overseas 67% 5% UK 8% 11% 18%
8 Central London Office Market Report Q4 2017 City overview Strong take-up buoyed by flexible offices In line with the usual seasonal trend, take-up in the final quarter was the strongest of the year, reaching 1.8. This brings full year take-up ahead of the to 6.2, although this total is inflated by the flexible offices sector, which took a 21% annual share. Aside from flexible offices, the business sector breakdown was diverse, with major transactions in the insurance, financial services and media sectors, notably to Hyperion Insurance, Lloyds Bank and Turner Broadcasting. Continuing a recent trend, leasing activity was strongest for mid-sized deals, with more subdued levels of demand for small (5,000 10,000 ) and very large (>250,000 ) units of space; a trend which is also reflected in current active demand. Moving into 2018, a relatively healthy level of under offers - currently slightly ahead of the 20 year average at 1.5 - should sustain the current levels of activity in the first quarter. Demand has also increased from a recent low point of 4.5 in Q3 to 5.7. This is now broadly in line with the 10-year average and points to a stable outlook in the medium-term. Vacancy edges up but new build supply limited Supply increased marginally in Q4 to 5.6, with the vacancy rate edging up to 4.9%, still someway short of the of 6.4%. This growth was driven by an 8% increase in second-hand and refurbished space to 4.8. New build supply remains limited at 800,000, reflecting a new build vacancy rate of 0.6%, half the 10-year average. The impact of flexible offices is also having a major impact on the supply pipeline with the aggressive expansion of WeWork absorbing 177,000 of 2017 completions and 488,000 of upcoming development completions. The 5.5 of speculative space currently under construction across the next three years represents a healthy but contained level of development. The quantum of tenant controlled supply has continued to rise, but has not yet become a significant drag on prime rents. Moreover, around a third of tenant controlled space is available on a short term (five year lease or less) basis, and is therefore not in direct competition with new developments. Prime rents stable but rental tone softening City prime rents and incentives* were stable at 70 per in Q4. Prime rents have now remained unchanged for a period of two years, although the tone of the market has changed during this period. There is a diminishing evidence base for prime rents, and the average weighted achieved rent is now in decline. Annual investment turnover third highest on record A strong final quarter saw investment volumes reach 2.9 billion, well ahead of the of 1.8 billion. Full year turnover was above 10 billion for the third time on record, only exceeded by the exceptional levels recorded in 2011 and 2015. Continuing the recent trend, the buyer profile in Q4 was dominated by overseas capital, with Hong Kong and Chinese buyers most active, accounting for a 38% share of quarterly volumes, including major transactions at 40 Leadenhall, EC3 ( 340 ), and Juxon House, EC4 ( 134.5 ). WeWork is also having a major impact on the investment market, making its largest purchase to date with the acquisition of the Devonshire Estate, EC2 for 580. This will see them take over the management of the estate, in addition to occupying two vacant buildings totalling 179,000. UK investors were involved in 23 of the 30 transactions and were net sellers to the tune of 2 billion. Prime yields remained stable in Q4 at 4.25% across all lot sizes. Secondary yields are softening as we move back to normalised market fundamentals. This is in response to investors becoming more discerning on tenure and lease length as the majority of overseas investors are chasing prime trophy freehold assets. We expect this divergence between prime and secondary to grow in 2018. *24 months rent free, on an assumed 10 year term
Central London Office Market Report Q4 2017 9 Take-up New Refurbished Second hand Pre-let/Under construction 6.2 8 7 s 6 5 2017 4 5.4 3 2 1 0 2007 2008 2009 2010 2011 2012 Active demand 2013 2014 2015 2016 2017 Key deals Banking & Finance Hyperion Insurance Turner Broadcasting WeWork 64 per One Creechurch Place, EC3 New 50 per 160 Old Street, EC1 Under refurbishment per 1 Poultry, EC2 Under refurbishment 116,000 100,000 115,000 31% Professional services 31% TMT 20% Service industries 14% Manufacturing 3% Development pipeline - Under construction Public Administration & Intuitions 2% 5.7 5.8 Q4 2017 s Pre-let Overseas share 7 12 100% 5 10 80% 2019 2020 2007 2008 2009 2010 2011 2012 2013 2014 2015 2016 2017 0% UK 7 USA & Canada 2 5 Australia 20% Singapore 4 3 Korea 40% Switzerland 6 1-1 China 60% 3 Germany 8 Net sales Middle East Overseas billions billions UK 0 2018 2017 purchaser origin Hong Kong Investment volumes 4.5 4.0 3.5 3.0 2.5 2.0 1.5 1.0 0.5 0.0 completions Speculative
Central London Office Market Report Q4 2017 10 East London Overall demand ended the year at 3.9, a 17% fall on the Q3 total of 4.6 but well ahead of the of 2.8. Active demand recorded an 11% increase, rising to 2.5, while potential demand fell to 1.4, but remains 26% ahead of the. The rise in active demand can be largely attributed to requirements considering options to the east of the City boundary, rather than Canary Wharf and Stratford, where demand remained stable. Vacancy continues to rise Overall supply increased 13% to 1.9, compared to 1.7 in Q3. The quarterly increase was largely driven by refurbishment completing at the first phase of Republic, at Anchorage House, E14, where 188,000 is available. The overall vacancy rate increased to 8.9%, up from 8.1% at the end of Q3 - ahead of the of 6.4% Canary Wharf remains three tiered rental market Canary Wharf, the benchmark for East London, remains a three tiered rental market. Prime rents are unchanged in Q4 at 47.50 per, although there is limited market evidence to support this. Tenant controlled supply, which accounts for the majority of Canary Wharf availability, is being marketed at rents from 37.50 per, which continues to restrict rental growth. On the other hand, pre-let supply is being marketed at rents of 52.50-57.50 per. Take-up New Refurbished Second hand Pre-let/Under construction 3.5 3.0 2.5 s Stronger take-up in final quarter Take-up reached 400,000 in Q4, the strongest quarter of the year, and 17% ahead of the quarterly average of 302,000. Despite stronger take-up the full year total was around half of the 10 year annual average, reaching 710,000. The pre-let of 270,000, Building M7, Stratford City, E20 by HMRC represented the majority of take-up in Q4. overview 2.0 1.5 1.0 0.5 0 2007 2008 2009 2010 2011 2012 2013 2014 2015 2016 2017 Active demand Banking & finance 43% Service industries 19% 16% 2.5 1.7 TMT 12% Public administration & institutions 7 Q4 2017 Professional services % Manufacturing 3% Q4 2017 Landlord and tenant controlled supply Hong Kong investors most active A strong final quarter saw turnover reach 705 in three transactions, boosting the annual total to 1.2 billion, a significant uptick on the 2016 total of 250. Hong Kong investors dominated the investment market in 2017 and were purchasers in the two largest transactions completing in Q4: 15 Canada Square, E14 which was purchased by Kingboard Investments from KPMG for 400, and 5 Churchill Place, E14, which was purchased by Cheung Kei for 269. 27% 49% 51% 73% East London Landlord controlled Canary Wharf Tenant controlled
Central London Office Market Report Q4 2017 11 Rental conditions in Central London 90.00 137.25 85.00 127.61 72.50 105.84 53.00 86.80 72.50 111.63 80.00 119.13 80.00 116.82 80.00 120.29 104.59 Stratford 87.50 135.90 110.00 169.99 102.06 70.00 99.47 Camden Regent s Park King s Cross Bloomsbury North of Oxford Street Clerkenwell Fitzrovia Mayfair Hyde Park 45.00 65.63 99.91 102.25 Euston Marylebone Paddington 70.00 96.16 Soho Shoreditch Northern Covent Garden City Midtown Western 70.00 105.92 Central Southern Eastern Aldgate St. James s Waterloo Canary Wharf Southbank Belgravia & Knightsbridge Hammersmith Victoria Kensington & Chelsea Vauxhall Battersea 52.50 78.88 70.00 116.09 55.00 85.32 82.50 133.64 102.25 47.50 72.73 102.00 99.91 60.00 90.79 52.50 77.73 77.50 116.63 110.00 169.99 60.00 85.34 Prime rents Occupancy costs
Contacts Leasing Neil Prime Head of Central London Markets +44 (0)20 7399 5190 neil.prime@eu.jll.com Dan Burn Head of City Agency +44 (0)20 7399 5966 dan.burn@eu.jll.com Adrian Crooks Head of West End Agency +44 (0)20 7399 5135 adrian.crooks@eu.jll.com Capital Markets Julian Sandbach Head of Central London Capital Markets +44 (0)20 7399 5973 julian.sandbach@eu.jll.com Patrick Cryer Director, Capital Markets +44 (0)20 7399 5639 patrick.cryer@eu.jll.com Simon Beckett Head of West End Capital Markets +44 (0)20 7087 5777 simon.beckett@eu.jll.com Research Jon Neale Head of UK Research UK Research +44 (0)20 7087 5508 jon.neale@eu.jll.com Amy Birdee Associate Director UK Research +44 (0)20 7087 5098 amy.birdee@eu.jll.com James Norton Director UK Research +44 (0)20 7087 5033 james.norton@eu.jll.com jll.co.uk/london-office-markets 2018 Jones Lang LaSalle IP, Inc. All rights reserved. The information contained in this document is proprietary to Jones Lang LaSalle and shall be used solely for the purposes of evaluating this proposal. All such documentation and information remains the property of Jones Lang LaSalle and shall be kept confidential. Reproduction of any part of this document is authorized only to the extent necessary for its evaluation. It is not to be shown to any third party without the prior written authorization of Jones Lang LaSalle. All information contained herein is from sources deemed reliable; however, no representation or warranty is made as to the accuracy thereof.