Saudi office rent levels lowest in GCC |
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Office space rentals in Saudi Arabia are the lowest among peer Gulf Co-operation Council (GCC) cities due to the relatively poor office sector fundamentals but current yields are on the higher side, says a research report.
"Average rental levels in Saudi Arabia are much lower even compared to Dubai. But yields are higher at 10 per cent plus levels compared to the regional average of eight to nine per cent and contractions from the peak in general were also much smaller than other cities in the region," Kuwait Financial Centre (Markaz) said in a report.
The primary reasons are lower cost of land, due to the higher availability of land suitable for office space, compared to the size and the contribution of service sector gross domestic product and lower liquidity. Other factors that cause these differences are relative closeness of the economy, lower liquidity, relative lower quality of buildings, and current demand/supply conditions.
The rental growth in Jeddah office market would be higher compared to other cities mainly due to the continuance of the low vacancy levels (six per cent) as the forthcoming supply during 2009-10 is just enough to serve the demand.
Rentals to contract
"We expect rentals in Riyadh to contract as more supply of Class A office space is provided and vacancy increases in Class B during 2009-10 and the extent of contraction would range between 10 and 15 per cent depending upon the extent of projects that get delivered. Al Khobar and Dammam should face sluggish supply trends until 2010, which would keep the rentals stable/growing during 2009-10, however, the size of the demand is small to attract investment," it said.
Longer-term improvements in the rental levels would occur when the economy gets more diversified and reformative, which should lead to increased private sector contribution to overall economy and result in improvements in financing and liquidity conditions and also in the quality of buildings. The diversion of attention from these cities to developments in the King Abdullah Economic City among other economic cities planned in Tabuk, Jizan and other master-planned developments such as Seera City, could prevent the rental levels from improving to the extent of other GCC cities in the longer term (next decade) although the capital city can be expected to thrive in any scenario. This possible development, if it materialises in the future, could lower the total occupancy cost and augur well for the overall economic growth provided the other structural framework is in place for diversification.
Meanwhile, the office market in Riyadh is characterised by oversupply, evident in its high vacancy rates at 17 per cent and the extent of contraction in rentals (15 per cent) and prices (16 per cent) on an average, mainly due to contraction in demand.
The slowdown in economic activity converted a market from short supplied (triggering developments of 0.5 million sq m) to oversupplied.
Economic prospects of Saudi Arabia are more driven by government spending and the non-oil private sector economy would experience a muted growth at 2.5 per cent in 2009 and 4.5 per cent in 2010, well below the trend five per cent level as this growth is mainly due to the freewheeling and multiplier effect of the enhanced fiscal spending. Demand for office space, which is a function of private sector employment generation, is highly sensitive to private sector economic activity levels and hence would remain muted as well in the coming two years, said the report.
Latent demand
Latent demand for high-quality Class A office space is still present in Riyadh and is evidenced by the 75 per cent rental premium over Class B offices. However, the demand is not fresh and is more from the current occupiers of Class B offices.
"We expect 300,000 sq m of office space supply during 2009-11 and we expect that the forthcoming supply of Class A office space in the coming two years would be enough to serve the demand, which will result in increased vacancy levels in Class B office space and contracting rental premium for Class A office space," said the Markaz report.
Contrary to public opinion, Markaz found that the impact of the selection of Riyadh for locating the GCC central bank on the office space demand would be marginal at 7,000 sq metres.
"Our estimate suggests that the size of office market in Jeddah is close to 60 per cent of Riyadh and it has been stable at best with six per cent vacancy levels and 8-10 per cent contraction in rentals on an average from its peak. We expect the forthcoming supply to be at 150,000 sq metres in the coming two years, which should match the demand causing the rentals to rise moderately at best. The twin cities of Al Khobar and Dammam are yet to mature as a market with good investment possibilities as it is dominated by owned offices of industrial establishments," said the report.
Markaz expects rentals in Riyadh to contract by 10-15 per cent in 2009-10 mainly due to forthcoming supply and increasing vacancy levels amidst sluggish demand. Jeddah should experience stable rentals with a possibility of a moderate rise while the smaller size of the market deters developments in Al Khobar and Dammam despite a possibility of a rental increase.
Economic prospects
The demand for office space is essentially driven by employment generation in service sector and is highly sensitive to economic activity in the private sector, which has been experiencing a declining growth trend from 2007. For demand prospects to prosper, strong improvement in economic activity is required and improvements in sentiments alone would not contribute towards increased demand.
Saudi Arabia's non-oil GDP is expected to continue its positive growth trend, mainly due to enhanced fiscal expenditure, with non-oil government GDP to grow at three per cent in 2009, up from 2.4 per cent in 2008. While this may help the economy to sustain income and spending due to the multiplier effects, the non-oil private sector GDP is expected to slow down to 2.5 per cent in 2009 compared to 4.3 per cent in 2008 amid the credit woes.
Real non-oil private sector has to return to its trend growth level of five per cent experienced in the past five years, which would materialise post 2010, for office space demand to get a boost. Till then, the prospects for businesses will be muted and hence the employment generation and office space demand will be subdued until 2010.
While fiscal expansion would result in creation of new employment, we cannot expect the size of office space demand to mimic this expansion, since usually very little office based jobs would be created with enhanced spending in education, healthcare and infrastructure, the major areas of budgeted spending.
While the market is currently haunted by oversupply, indicated by the high vacancy rates and the extent of contraction in prices and rentals, the forthcoming supply situation is not coming any shorter.
"We expect 300,000 sq metre of Class A office space to enter the market during 2009-11 from projects worth $2.5 billion (Dh9.18bn), which are currently under various stages of construction. Given the soft demand prospects, these supply, as discussed earlier, will get absorbed at tenant's terms and at the cost of increased vacancy in sub-prime office space marked by stagnant/ declining rental levels as premium for prime office space contracts," said the report.
"Supply during the period 2011-14 quintuples to $9bn dominated by mega projects of which King Abdullah Financial District alone contributes to two thirds of the total supply."
GCC central bank will not boost demand
The size of office space demand for the GCC central bank can be gauged from its expected employee strength.
Markaz intends to study the employee strength of the US Federal Reserve vis-à-vis the size of the US economy and the number of employees in the regional federal reserve banks and the employee strength of the European Central Bank vis-à-vis the total size of the member countries' GDP and the number of employees in the member countries' central banks.
"We compared the size of the economy and the employee strength of the central banks of the GCC countries that are a part of the proposed monetary union with the US and EU numbers. Based on this study, we expect an employee strength of 450 to 500 requiring 6,000 to 7,000 sq metres. We cannot expect a major indirect boost for office-based employment on account of a central bank and hence we conclude that the impact on the office space demand is not significant," said the report.
By Parag Deulgaonkar
© Emirates Business 24/7 2009
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Odd, this article was about office rental rates--yet author failed to mention any actual rental rates (per square meter). ? [Report Abuse | Email to a Friend | Reply to this Comment]