Breaking new ground

Looking for office space in China? The search is starting to get ever more complicated. Office real estate in top Chinese cities is in short supply.

Corporate tenants jostle for space in Beijing, eager to be near the country’s seat of power. In the south, Guangzhou’s historic position as China’s window on the rest of the world, with its links to overseas Chinese communities and proximity to Hong Kong, cements its reputation as an essential corporate address.

This crowded market means real estate investors, developers and firms looking to expand in China are turning to so-called second-tier cities for new supplies. The country’s huge population means that its second-tier cities have to be seen in a different context from similar cities in most of the rest of the world.

If China’s second-tier cities have such large population bases, and the attendant advantages of a large labor pool and sizeable consumer base, why would any company choose to stay in the brand-name cities?

Second-tier benefits

“In second-tier cities, their structures are not as mature as Shanghai [for example] so it will be hard to convince the service industries that need more sophisticated business environment [such as] the ‘flash’ offices to move there,” said Jileen Loo, head of business park businesses at Jones Lang LaSalle China. “But for manufacturers there is a definite trend showing movement towards second-tier cities.”

Besides manufacturing businesses, companies new to China are now finding second-tier cities to be the ideal starting point for their China presence. More established firms, on the other hand, find secondary cities useful as outsourcing destinations for certain departments.

“I don’t think large companies are moving their whole operations out of first-tier cities, but if you are a new setup then they will certainly look at both first and second-tier cities as possible development sites,” Loo said.  “But those companies which are pre-existing in first-tier cities are either expanding in second-tier cities or partitioning off certain sectors of their operations.”

“There are many government policies in place to encourage this kind of movement. For example, the government is putting a big push on the IT sector right now. For a lot of second-tier cities like Dalian, Chengdu, and Xi’an for example, there are special incentives for the IT industry,” Loo said.

Kenny Ho, Jones Lang LaSalle’s head of research in China says government policy towards expanding second-tier cities attempts to match a location with a specific industry.

“If you are looking at software development or business processing outsourcing, the government has identified five cities to be top choices for this sector : Xi’an, Chengdu, Shenzhen, Dalian and Shanghai,” Ho said.

Other cities are making a name for themselves in different industries. Chengdu, for example, is emerging as a regional retail hub for west China. Down south, Kunming in Yunnan province is fast becoming the epicenter of China’s traditional medicine industry. Many of the rare medicinal plants and herbs necessary for this sector are found only in this region.

The office property supply squeeze means that firms are not just moving out of expensive cities but also moving within them to cheaper locations. In Shanghai, the biggest firms are now occupying prestige areas in the central business districts, while smaller companies are being pushed out into business parks in the suburbs.

Acting early

 “Office vacancies in central business districts in tier-one cities are at an all-time low. In Shanghai the rate is around 5% at the moment,” Loo said. “With vacancies being so tight and demand being so high, a lot of users are being pushed out to other locations.”

Supply and demand and government policy is shaping the market.“If you look at the top Fortune 500 companies, if they have a presence in Shanghai, the Shanghai government will like to keep them and will offer preferential policies.” Ho said. “That said, Shanghai is limited because it has higher land and labor costs, so there are still some companies moving, or at least transferring some of their operations outwards.”

Companies looking for a foothold in the emerging second-tier office property markets should act fast. Prices may be attractive now, but they are steadily increasing.

“Real estate prices for business parks in second-tier cities are about a third of the cost of Shanghai’s parks, but over the next four to eight years, [these prices] will naturally increase,” Loo said. “I don’t think [second-tier city prices] will ever catchup with that of first-tier cities but they may become comparable to today’s first-tier city prices.”

China’s top emerging cities

Chengdu: Among the chief beneficiaries of China’s “go west” policy, the city is swiftly becoming a high-tech hub with the likes of Motorola and IBM in town. Microsoft’s new Xbox development center here gives Sichuan’s provincial capital added shine.

Chongqing: One of the fastest-growing and largest cities in the world. Strategically located near the Three Gorges Dam, the city is being used as a springboard to develop the entire western region.

Tianjin: Famous for being Beijing’s port but now a rising destination in its own right. Has substantial oil reserves and the Tianjin Economic and Technological Development Area (TEDA) has been ranked first among China’s 200 special economic zones.

Dalian: China’s northern-most ice-free seaport, and its largest petroleum port, has long been a window to the northeast of the country and was declared an Open Coastal City in 1984. An export-processing zone was established in 2000 and the city attracts substantial investment from Hong Kong, Japan, Taiwan, South Korea and the United States.