Vacancy risk provides value capture opportunity

Adam Murchie

Adam Murchie

Rising land values, population growth and constrained supply of new office accommodation is expected to put upwards pressure on Melbourne office rents in the near future says boutique property fund manager, Forza Capital.

Ashley Wain, co-director of Forza Capital says, “Over the past five-six years, the tightening of capitalisation rates – which have generally tracked bond rates – have helped keep downward pressure on rents.

“This is due to the fact that asset value growth, and not rental value growth, made feasibilities stack up.

“However, with bond yields now trending upwards, higher rents will be needed to justify new development.”

One of the key drivers of the increased cost in delivering new office stock in CBD and surrounding inner city locations has been the growth in land values. For the past 15 years, Melbourne’s new office construction has been driven by major developments in areas such as Docklands and the western end of the CBD, where cheap land values allowed developers to attract major tenants to new buildings at competitive rents.

Over 1,000,000mof new office supply was introduced to the market in the past 12 years alone.

Forza Capital co Director Adam Murchie said “We have witnessed CBD development land values increase five to seven-fold over the last decade.

“This means higher rents are necessary to justify new supply and we therefore expect to see upwards rental movement on existing stock until such time as economic rents support the supply of new space.”

The following three examples of land transactions for major office developments (on a per developable metre basis) illustrate the price increases, from $454m2 in 2006 to almost $3,000m2 in 2018.



The current vacancy rate is 3.6%, the lowest level in 10 years. The Melbourne CBD office market is now approximately 4,500,000m2 and with a new supply pipeline of 540,000m2, is expected to exceed 5,000,000m2 by late 2019.

Ashley Wain continued, “Melbourne’s population is currently growing at a rate of 2.7% per annum or 145,000 new residents each year, which is resulting in a fundamental alteration in long term annual office absorption forecasts.

“Essentially, the commercial office market can absorb annually almost double the amount of space it could a decade ago; we expect this will result in a supply shortfall and an increase in rents.”

“In addition,” said Adam Murchie, “space compression through hot desking and open plan accommodation has kept a lid on rental increases, but its impact is abating.

“Over the last 10-15 years office densities have reduced significantly from one person per 20m2 to something closer to 1:12m2.

“Our view is the ability to further compress workspace densities is limited and thus it will increase pressure on future rental uplift.”

Forza Capital expects to see reasonable rental growth for existing office space before meaningful new supply is developed.

Ashley Wain said, “Interestingly, we see office vacancy risk as a real opportunity at the moment.

“Financiers are not supporting transactions with significant vacancy; hence they have negative cap rate pressure on them.

“It’s our view that the right assets can be positively positioned to capture both rental growth and cap rate re-rating, which could potentially create significant value.”

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