Serviced Vs Conventional

Is WeWork the next Dot.Com bubble waiting to happen? The question on everyone’s lips…

With the ever-growing popularity of the serviced office industry, it is proving difficult to see a long-term future for the likes of the conventional leasehold for a particular size of office occupiers. However, we do not know the overall effect that this will have on the property market as a whole in the future.

A serviced office is an office space that is fully managed by a facility management company. The main serviced office providers include WeWork, Regus, LEO, The Office Group — all of whom rent out individual desks or private offices to different companies. Typically, a conventional leasehold between a landlord and a tenant would typically be for a period of 5–10 years with little flexibility integrated within that.

Deloitte Real Estate reported in 2015 that the serviced office market grew by 67 per cent in a decade to comprise of 5m square feet. These centres are extremely popular nowadays, with their flexible workspace, amazing amenities on offer and of course the “hipster” appeal. Serviced office space accounted for more than a fifth of all office leases across the capital in 2017, compared with 8.5 per cent the previous year. The serviced office industry truly has ballooned in recent years.

By August 2017, take up in Central London had reached in excess of 860,368 square feet, which has increased by 186% on the 350,506 square feet from the previous year. London has now become one of the most mature serviced office markets in the world, through experiencing this substantial increase in serviced office take-up in recent years. It is estimated that the market could increase in value by 2025 to £62bn.

Is this increase in popularity of serviced office space due to the expansion and innovation of the tech sector and the increasing presence of start-ups and scale ups or is it another dot.com crash waiting to happen?

Earlier on this year, Japan’s SoftBank and the Saudi-backed Vision Fund, injected another $4.4bn of investment into WeWork. In November 2018, WeWork picked up another $3bn from SoftBank Corp, not to be confused with SoftBank Vision Fund, bringing the value of WeWork to $42 billion. Some may view this business model as inherently risky with serviced office occupiers typically being on a three to twelve-month commitment and buildings are leased by the serviced office providers for five, 10 or even 20 years. Therefore, once the rent-free periods run out and they are hit by the upward only rent reviews after 5 years, how will these centres cope if there is a bad bout of occupancy levels?

Nevertheless, with the likes of WeWork capitalising on the increasing need for greater flexibility with property agreements it may be that there is a new dynamic player in the market. We are now seeing fast-growing technology companies that desire the ability to flex their expansion plans quickly and bigger, corporates craving greater flexibility due to political and economic uncertainty in environments such as ‘Brexit Britain and Trump’s America’.

One of the most interesting of changes from this industry shake up is the shift in attitude from a landlord’s perspective regarding serviced offices with landlords such as, Great Portland Estates offering short-term leases to their tenants in order to adapt to the greater demand for increased flexibility. Toby Courtauld, Great Portland’s chief executive, told how they “fitted it out so that companies can walk in and start trading immediately”.

As the landlords attempt to compete with London’s biggest corporate office occupier, who occupy 2.6m square foot of office space in London, it still remains to be seen whether WeWork are actually making a profit, keeping things such as occupancy rates completely secret and with rental reductions and deal levels being recorded suggesting waning demand.

With landlords now beginning to realise the potential lucrative nature of this sector, could this make its epic growth sustainable?

There is The Office Group with their major stakeholder being Blackstone, Legal and General have recently released a flexible workplace solution, as well as British Land’s offering with Storey. It appears that rather than fight against the tide of this uncertain sector, the institutional landlords would rather adapt and evolve to capitalise on the upheaval as an alternative to being left behind.

Even landlords such as the Crown Estates are now rolling out their own take on the serviced office model with offices such as One Heddon Street, a high-end space aiming to diversify their portfolio and attempt to attract occupiers who previously may have shied away from such facilities.

Other landlords, especially in the City, where smaller suites have struggled to move in the post-Brexit years, have began to offer shorter term leases such as 5-year terms with 12 month or 2-year flexibility and have also created turn-key solutions with their spaces. ThirdWay Interiors have appeared to have capitalised on this venture by targeting the landlords aiming to carry out said works in anticipation of the occupiers all the way from Hammersmith to Shoreditch. It appears that tenants no longer want the hassle or complication of a short-term lease and would rather move in to a fully fitted, functional office, even if they have to pay the premium to do so.

Another reason why the typical landlord in Central London may consider allowing a serviced office provider to take space within their building is due to the fact that they could have an equity-property by offering their space to serviced offices, as well as taking rent and a portion of the business centre’s profitability. This relationship between the landlords and serviced office providers will continue to evolve as the industry continues to grow, especially considering the news that WeWork are now central London’s biggest office occupier.

The serviced office market in its current immense form is yet to be tested by a dramatic shift in the economy. The likes of Regus in the early noughties, following the dot.com crash, have first-hand experience of the negative impacts of an economic downturn. The company’s U.S. division went into Chapter 11 bankruptcy following this crash and Regus had to buy it back. Nevertheless, despite their unpopularity now due to their more aesthetically pleasing competitors’ offering, Regus (now called IWG) have come through three major financial crises to date. This is largely due to their investors and decisions in a crisis scenario. However, the majority of the other large players in the sector have not experienced this type of difficulty and therefore their strength is yet to be tested.

With the general uncertainty of Brexit, a constant feature of London markets, it seems that many larger corporate occupiers are still seeking conventional lease lengths for their core space, while relying on service providers to supply flexible space to facilitate future expansion.

Larger acquisitions across London have seen some evidence of slowing with most London-based legal and financial services companies are waiting to see what the final separation agreement looks like before committing to any big acquisitions. It seems for the moment they are more inclined to establish a smaller base with a flexible provider and use this as a platform for expansion at a later date if required. Interestingly, there is a growing opinion that as greater clarity emerges, the likelihood is that some of the occupiers who are currently in serviced office space will migrate into more permanent lease arrangements to give added security and stability in a time of potential political and economic upheaval.

Therefore, only time will tell whether or not this immense growth will be sustained and will revolutionise the London property market for the foreseeable future, or whether this almighty growth will result in the resounding demise in future years, with more volatility and unpredictable changes in every market.

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SHB Real Estate

SHB Real Estate

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