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Alternative real estate investments - Office Space

Having talking about the strata industrial and medical suites property segments in previous articles, we now turn to the strata office market, which is considered by many to be among the brightest spots in the property market. The main reason is because the sector has been relatively untouched by the government’s measures to cool segments of the local property market. As a result, investments made into strata office space are only subject to the Total Debt Servicing Ratio (TDSR) rules.

Here, we look back at how Singapore’s strata office market was developed, and why it has and will continue to be a strong performing sector.

A supply starved sector

According to a past report written by property consultancy Colliers International, strata-titled office space can be dated all the way back to the late 1960s, when the Urban Redevelopment Authority (URA) sold commercial land parcels to developers who built and sold office units on a strata-titled basis.

Over time, however, developing real estate for investment income gained traction and office developments were increasingly built and held by developers for rental rather than strata-titled sales.

Another reason why developers chose not to sell offices on a strata basis is because for some reason, interest in these units were underrated during the 1960s and 1970s. The lack of interest discouraged the development of more of such properties.

As of first quarter 2016, from 2016 to 2019, strata office space supply will only take up approximately 26% of total office space supply in the whole of Singapore.

The lack of development of such properties over the years has led to a situation where there is now a sharp shortage in supply today.

High yield, rising prices

As a result, strata-titled offices of good quality almost always command a high rental yield, and on the whole demand has been growing for these properties.

Net yields for freehold units are traditionally about 2 to 2.5 per cent, and about 3 to 3.5 per cent for leasehold units (pegged at 65 years' lease remaining). The price quantum for such properties is also not huge – with units available from about $800,000 to just over $2 million.

Even in the post-TDSR era, the strata-titled office segment has showed the most resilience among property sectors when it comes to prices.

According to consultancy Knight Frank, over the one-year period since the TDSR was introduced, average prices for strata-titled offices fell marginally by 0.1 per cent year-on-year in the second quarter of 2014, and posted a rebound of 5.3 per cent quarter-on-quarter to reach about S$2,300 per square foot per square foot (psf).

In fact, record high prices for strata-titled office spaces would be inked later in 2014. While the year saw a decrease in the overall number of sales inked from a year ago, a unit on the 18th floor of a property located at Church Street transacting for S$3,225 psf of net lettable area (NLA) in August 2014, according to consultancy Savills.

This record would be smashed about two months later by a unit located on the 21st level of the same building, which was sold for S$3,280 psf of NLA.

What does this all mean to a potential buyer of strata-office property? It means having the best of both worlds: being able to earn a recurring high and stable yield from an income-producing property, and enjoying the capital appreciation that comes along with it.

Of course, one can always say that the current market trend may not continue, but there are few signs that indicate this.

Demand for office space is largely dependent on factors such as the performance of Singapore’s economy, as well as office space supply. So far, office rents have performed well this year, rising 0.6 per cent quarter on quarter in the first quarter of this year, said consultancy Cushman & Wakefield. Today, the total office space per capita in Singapore is about 15 sq ft, less than that in major cities including Hong Kong at 17 sq ft and Tokyo at 19 sq ft. This suggests the market still has some room to grow.

At the same time, Singapore’s economy is expected to continue expanding – albeit at a slower pace.

Small and medium-sized enterprises are also increasingly preferring ownership for certainty in long-term operational costs. For the SME investor who is planning to purchase units for own-use, now is a good time to consider an acquisition.

Centralised vs decentralised space

A question that some may have is whether to buy quality office space within or outside the CBD. The bulk of strata office space is located in the CBD and what is known as the rest of central area, while the rest are largely located within the city fringe.

With the government’s push towards decentralisation and the setting up of regional centres; essentially commercial zones that cater to the needs of its immediate community and support the business needs of the main CBD and central area – one can also find more strata office spaces located in thriving suburbs such as Woodlands and Jurong East.

So what are the benefits of acquiring decentralised office space – a relatively new area of investment for many?

One clear benefit is cost. It is well established that decentralised spaces generally cost less of a premium compared with their CBD located counterparts. While it also means that rents in decentralised areas are lower, margins and hence yields are wider for decentralised office space. And demand has been growing for decentralised office space. According to a recent report released by Colliers, more firms are relocating from their expensive CBD offices to cut down on costs.

"The continued wave of decentralisation contributed to the dent in the overall occupancy rate of Grade A office space in the CBD. The availability of new office buildings outside the CBD… which has comparable building specifications but more affordable than Grade A office space in the CBD, was a draw for tenants’ decentralisation move during the (second) quarter," said Calvin Yeo, Deputy Managing Director of Colliers International, in a report on July 15, 2015.

The result is that Grade A office space in the suburban micro-market saw average occupancy rate post a 4.9-pecentage point spike to 96.4 per cent in the second quarter of 2015, compared with the first three months of the year.

Overall, noted Colliers, “On the sales front, transactional activity for 2H 2015 is expected to pick up slightly due to supply-led demand from the launches of new strata-titled office units.

For the investor looking to a purchase that would yield good returns, there’s little need to hesitate.

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