The lowest office vacancy rates for nearly 10 years should be provoking urgent reassessments of occupational requirements and planning among office users in Shanghai. This has always been an issue that multinationals have tended to be a bit complacent about. From 1994 to 1997, offices were small, supply was tight, and being able to get any space at all was enough for most people.
Besides, there were more important things to worry about, such as getting business licenses, setting up new joint ventures, employing staff legally, then firing staff legally and so on.
Now we are moving back to a period of limited office supply which is set to last until at least 2008, and businesses are best advised to prepare for three years of rising rents. Pudong is running particularly short of space and the core Lujiazui area has historically low vacancy rates of around 5% in established buildings and other areas on Nanjing West Road and Huaihai Middle Road are little better.
What relief there will be will come in the form of new locations with large amounts of new supply in Hongkou District, not currently considered a major office location of choice among foreign companies, in business parks most notably in Shanghai Business Park, International Business Park and Zhangjiang Hi-Tech Park.
Lujiazui will see the largest number of new buildings in the traditional downtown areas suggesting a reversal of the flow of office tenants to the west seen in the last 2 years. This diversification of office locations presents perhaps the best opportunity for office tenants to secure cheaper space as we see no repeat of the dramatic decline in office rents seen in 1997.
Strategic thinking on the part of tenants involves planning lease terms to coincide with the ebbs and flows of the market, avoiding lease renewal at the top of the market and thus locking in low rents during the low period. Since 1994, I have seen companies forced into making the wrong decision at the wrong time. With many expatriate managers on a three- to four-year cycle, it can be all too easy to overlook long term space planning.
Waterfront properties offer a particularly interesting opportunity and we know of at least three developers with sites seeking early commitments. The greatest opportunity for the bold is to sign up for space yet to be built, preferably for a purchase to avoid rapidly escalating prices as rents increase. This should not be mistaken for a pre-sale acquisition by which time prices are already pretty high; such pre-development commitments involve working with developers from the planning stage, or even at the land acquisition stage, and the return for all this time and effort is locking in low rates as a co-investment essentially. With this package comes the opportunity to secure naming rights, build-to-suit designs and so on.
Different deal structures are listed in the table below under Options. My analysis is based on the assumption that the buyer:
1. Is willing and able to make substantial financial commitment to securing own HQ offices;
2. Requires naming rights of the building; But while announcements
3. Requires signage rights of the building;
4. Is committed to working with developer over period of construction, even establishing own property development company;
5. Is prepared to ensure long-term value of the building by contributing to postcompletion property management and maintenance in line with market practice.
As more companies consider this kind of long-term office solution, the business model of the Shanghai property developer can be expected to migrate from the Asian and US higher risk speculative development towards the European low margin, low risk model. But don't expect those skylines to shrink, the rewards are much greater from speculative building, not forgetting the developers profits are usually banked in skimming the construction itself rather than the actual running of a well managed and maintained real asset. Don't believe me, write in and ask.
With this issue, Sam Crispin joins CHINA ECONOMIC REVIEW as a regular columnist and can be reached at samcrispin@sipin.net