Central London Overview:
With many occupiers having such a torrid time in 2020 and then rolling into 2021, as we approached the end of the first quarter, things started to feel a lot more positive. Before we get over excited, let’s be clear that this was almost from the lowest starting point we could ever have imagined, but after what we have all seen and felt, at this early stage of ‘recovery’, positive sentiment and activity should largely be embraced with bear sized arms, but in a market that has offered so much financial assistance we need to be very open minded about what this recovery might actually look like. More on that later, but for now let us admire the increase in occupier activity and decision making that has been a consistent trend throughout the second quarter. Driven by a number of influences, the main one being the intense pressure cooker of demand, due to occupiers who have valiantly held back or pushed back their decision making until this point. In fact, many are still holding firm on decisions and as long as we can keep control of the more intrusive corona measures, including further lock downs, for now we fully expect this trend to carry on. The effect of which will see the availability of grade A space continue to fall, the demand for Cat A+ space rise, and pretty quickly, the demand for the more secondary and occupier space to be either taken up or reoccupied.
The majority of CRE’s KPI’s were positively impacted by the increased confidence around COVID-19. General attitudes suggested that people and organisations wanted to get on with it. Landlords and providers of space have created products that have allowed for decisions to be made quickly and this has seen a positive impact on rents in comparison to the last quarter (2021).
Despite this, the core West End markets have shown £2.07 per sqft decrease in average rent per sqft from Q2 2020 to Q2 2021 and Midtown still highlighted the largest % fall in rents in the London markets at -6.1% between Q2 2021 and Q2 2020. Similar trends in headline rents dropping are seen in the City market and fringe markets (mean) at -1.7% and -2.3% respectively.
Many argue that values are still holding firm due to conventional landlords providing partially fitted or fully fitted space as part of the headline rental deal and amortising the cost of the fit out and furnishings within the rent across the term.
The latest example of this within the SHB client base is acquiring a fully fitted space on behalf of a Communications/Consultancy firm from Shaftsbury (Carnaby Estate) for a rental level of £75.00 per sqft with a market rent free period — the same size space was transacting at the same level at CAT A pre-COVID, suggesting an overall fall in headline rents once the cost associated to the fit out is disregarded!
All-in-all, data is still not suggesting the ‘domino effect’ that many were predicting, but more reinforcement that a two-tiered market is forming.
Grade A/High specification space is holding value whereas, the Grade B/secondary space is falling. Nothing illustrated this more than the Farringdon submarket where we completed on a re-gear for a well known PR firm dealing at a rent of £37.50 per sqft on Cowcross Street, where the passing rent pre-covid was £52.50 psf.
In contrast, we completed on a deal around the corner in a building known as Pennybank, St Johns Square for £68.00 per sqft, which is a best in class building refurbished by GMS Estates. Yes, the incentive ‘goodies’ were a lot more attractive in the Pennybank deal but this illustrates the disparity between ERV’s of different specification of space perfectly.
This easing of restrictions, along with ‘Freedom Day’, has created a larger footfall across London and companies start to return and re-utilise their office space (which is probably covered in cobwebs and wilted plants). Whether this is on a flexible basis, or a full-time basis remains a big talking point for Directors and Chief Execs as many staff will argue the need for a better work-life balance, having enjoyed minimal commuting and perhaps more time spent with family at home during the WFH period. The key question which underlines all of this is the ability to maintain productivity.
We have seen the figures for Q2 2021 reach a total of 1,404,889 sqft and although this is down from the 10-year average, it is promising to note that this is the strongest quarter, in terms of take-up, since the Covid restrictions began back in March 2020 and shows a 14.5% increase from the Q1 2021 figures.
Some key letting deals to make note of during Q2 2021 include Jones Lang LaSalle, IBM and ITV taking 134,000 sqft, 132,000 sqft and 120,000 sqft respectively. This consistency and increase in large transactions shows promising activity and to put this into perspective, we only saw one deal in Q1 2021 across central London that exceeded 100,000 sqft, being Latham & Watkins’ 199,000 sqft pre-let deal.
At SHB, our key deals during Q1 2021 include Lyle & Scott taking 9,507 sqft, Gresham House taking 11,408 sqft and Taylor & Rose taking 4,597 sqft. This shows a definite increase when compared with the previous quarter where the majority of our acquisitions were between 2,000–4,000 sqft.
Vacancy Rates & Availability
Much like our Q1 2021 report, we continue to deal with the fall out of COVID and a slow re-introduction into the office with core markets such as a West End rising from 3.7% in Q2 2020 to 6.6% in Q2 2021. Looking closer, areas such as the City Fringe (6.0% in 2020, 10.2% in 2021) and Stratford (9.0 % in 2020, 11.2% in 2021) have all sustained increases from their YOY average.
Furthermore, we have seen an increase in new, fully available Grade A space as developments that were started during the pandemic and have been further hindered, are finally complete, as well as a continued rise of second-hand tenant release space as occupiers downsize and offload surplus accommodation.
Despite the encouraging improvement in demand since the first two quarters of 2021, this remains far below the 10-year trend level. Demand is likely to remain weak for the foreseeable future as businesses seek to reduce their property footprint and real estate costs to underpin profitability.
This can be seen in the vast increases within the availability levels when comparing the YOY averages. In fact, only one of the featured submarkets have dropped since 2020 which has been found within the Knightsbridge area dropping from 7.5% in 2020 to 6.1% in 2021. West End as a whole has increased from 5.7% in Q2 2020 to 10.2% in Q2 2021 and the City rose from 10.5% 2020 to 15% in 2021.
The largest increases in availability were found in the following submarkets including Paddington (14.6% in 2020, 18% in 2021) and Hammersmith & Chiswick (12.3% in 2020, 18.4% in 2021).
Sales Market & Construction Pipeline
For capital markets, Q2 showed a rise within the market compared to Q1 2021. A total of £2.7 billion was invested across 23 transactions in Central London offices, a quarter on quarter increase of 113%. However, looking at the larger picture, this was 25% down on the 10 year quarterly average. This brought the year to date total to £4.0 billion.
Continuing previous quarter trends, foreign investment remained the leader of this quarter’s most substantial transactions, accounting for 75% of volumes. The key breakdown of Central London investment by purchaser equates to 37% of investment from North America, European investment accounted for 24% and UK purchasers making up 24% of all investment activity. The largest transaction being Canadian investment company Brookfield’s purchase of 30 Fenchurch Street, EC3 for £635m. Two further significant transactions included Union’s purchase of 1 Braham St for £468m and ARA Suntec buying The Minster Building for £353m as well as two further deals over £100m.
Flexible Office market
We are now seeing businesses that previously shunned serviced offices now more open to the idea as they are exploring a new way of working such as rotating staff meaning they can keep footprints small while still offering an office environment to staff a few days a week.
Similarly to the last quarter the fall out among providers was minimal with only one more London provider falling fail to the pandemic and going into administration, however many others are choosing to hand back leases to their landlords to limit liability and focus on their higher performing buildings or favouring management agreements over leases. While some providers will still be struggling to repair the damage of the last 18 months, we have seen the emergence of two new providers in the form of managed solutions — Agora, and serviced office provider — CREO, seemingly deciding now is the time to take advantage of the ambiguity the future holds paired with the desire to return to some level of normality.
Enquiry numbers are staying fairly steady with a slight drop off in June in comparison to April and May. This may be reflective of “Freedom Day” being delayed. Interestingly, enquiry numbers for the West End and Mid-Town submarkets are still strongest whereas the City Core is still struggling to bounce back.
Within SHB Real Estate specifically, the average number of completed flexible office deals has increased by approx. 18% in Q2 from Q1 with the average deal value increasing two-fold. The average deal size has increased by 10% on last quarter.
This quarter we have seen a slight shift in the sectors taking up space, whereas the last few quarters have been dominated by law and financial services, the creative, media and tech industries have taken the limelight for take-up in Q2 accounting for just over 25% (helped of course, by the huge acquisition of space by ITV). This is the second quarter in a row that TMT has been in the top 3 most active sectors, and I think we can all be confident that this pattern is likely to continue.
Looking at the pipeline though, the under offer section is dominated by huge transactions pending with Law Firms & FS and whilst on the face of it this demonstrates the sectors commitment to the future of office space, we must also remember that a huge number of transactions over the last quarter and in the quarters to come will be firms who have taken advantage of lease events to release the larger spaces that they occupied in favour of smaller, and of course shinier space. It’s looking likely that there will be movement from Barclays to do just that in the coming months.
Across the board, it all appears very positive since restrictions were lifted in July, hiring across all sectors is up in Q2 to 74% compared to 63% in Q1 with active recruitment having increased in our great hospitality and leisure sectors by a huge 48% which is only just behind health and medical. TMT has increased at the exact same amount with a number of other sectors sitting there or thereabouts. This is all extremely exciting and shows a promising year to come in respect of firms increasing headcounts which will force them into further conversations on where their new starters will be working from. Let us all hope that any restrictions that may have to be implemented in the months to come don’t force many into making complete U-Turns on this front.
Investors are still showing confidence in the UK and particularly London based businesses, Fintech & AI sectors continue to dominate in the first half of the year securing 157 deals (£3.38bn) & 128 deals (£1.4bn) respectively, with Life Sciences still there in 3rd position. Whilst down on Q1, a good number of Mega (£50m) & Giga Deals (raising over £100m) were completed in Q2 which included firms such as CMR Surgical, Saltpay & Bought By Many. As well as these huge equity funding rounds, the armchair investors were looking confident too with a 12% increase in crowdfunding deals completed in the first half of 2021 compared to the previous year.
This year we saw a record number of Q1 IPO’s (20), since 2007 and in the first half of the year a total of 45 new AIM listing, casting a nice shadow over the 2020 full year figure of 31 IPO’s. Again, extremely positive news and it is no surprise that it is our Tech & Healthcare taking up a good chunk of these. There have been 7 IPO’s from our Online Retailers so far this year which I’d imagine will be a continuing trend.
‘The dead cat bounce’ is defined as ‘a small brief recovery in the price of a declining stock, derived from the idea that even a dead cat will bounce if it falls from a great height’.
Clearly this is a fairly unpleasant term but it is a very interesting concept considering the circumstances surrounding the renewed period of positivity we find ourselves in. At the moment we are choosing to gamble on the positive outcome of the market in the same way a favourite in a horse race gets pushed to be the favourite by the masses, even though the horse is rumoured to be lame. To put this into context, we have experienced the most destructive social and financial event since the war, and other than being asked to stay at home for a while, some pay cuts along the way and minimal redundancies, we have had no negative impact as yet. Instead, the narrative is extremely optimistic and the rents in Q2 2021 have not only stabilised, but in some locations, for specific high end stock, the deal levels have started to improve again. This is certainly good news for us all and we deserve the reprieve, but it is the responsibility of all professionals to consider every outcome, even the more negative ones.
Looking back to most recessions of the post war era, they tend to be followed by a multitude of negative things that result in high unemployment, companies failing and general financial black clouds. For now, this time round, this does not appear to be the case and like in many organisations, at SHB things have felt deal wise, awesome again, [AG1] and long may that continue. However, my job is to look for the opportunity and to keep half an eye on what ‘could’ happen down the line. With that in mind, the autumn months are coming, furlough will soon truly come to an end, landlords are still unable to remove their defaulting occupiers (this is a big one), there is much hidden financial pain within businesses due to unpaid rates/rent that are still owed/VAT that is still owed/owed corporation tax and general borrowing that need to be paid back. This is a lot of potentially negative influences that we will soon need to deal with but for now I/we very much plan on watching the dead cat bounce. There is certainly a lot of positive things to be involved with and there is money to be made by us all.