Saturday 24 March 2018

Supply squeeze has sent Dublin office rents soaring

While commercial properties in Dublin have seen something of a new golden age in recent times, we may be storing up a whole heap of trouble for the future

There are no fewer than 19 office schemes being built in Dublin with many more in the planning phase - that’s 5m square feet of office space, with Larry Goodman, Stephen Vernon, Mary Ricks and Sean Mulryan among the main movers
There are no fewer than 19 office schemes being built in Dublin with many more in the planning phase - that’s 5m square feet of office space, with Larry Goodman, Stephen Vernon, Mary Ricks and Sean Mulryan among the main movers
Larry Goodman
Stephen Vernon
Sean Mulryan
Mary Ricks
Dan White

Dan White

Prime Dublin office rents rose by 24pc in the 12 months to June, according to surveyors HWBC. The experts there expect a 20pc rise this year, meaning that prime office rents in Dublin will have risen by over a third in the space of just 18 months.

The commercial property crash was even more severe than the housing market bust. Prime office rents in Dublin halved from €600 per square metre in 2008 to just €300 by 2012.

The collapse in rents and the virtually complete withdrawal of the domestic banks from property financing pulled down values even further, with yields (the rent as a percentage of the building's value) ballooning from 3.5pc in 2008 to 7.5pc three years later.

This combination of shrinking rents and soaring yields translated into a fall in capital values of more than 75pc. For those with cash, mostly US investors such as Kennedy Wilson, Blackstone and Wilbur Ross, Irish assets represented an unparalleled buying opportunity in 2010-11.

While the post-Celtic Tiger fall in rents and values was a steep one, the recovery has been almost as precipitous. By the middle of 2015, average prime office rents in Dublin had climbed back to €565 per square metre - within touching distance of their 2008 peak.

City-centre Dublin office rents are now eye-wateringly expensive. They are rapidly closing in on Parisian rents, where prime office space costs an average of €750 per square metre, and far exceed Amsterdam (€340 per square metre), Brussels (€285) and Berlin (€264).

Only London - where prime office space in the West End rents for the equivalent of €1,820 per square metre and for "only" €950 in the City - manages to leave Dublin in the shade.

So why are prime Dublin office rents so high?

After 2008, the cranes disappeared from the Dublin skyline and the construction of new offices ground to a halt. This meant that when the economy began to recover from 2012 onwards there was a severe shortage of new office space available, particularly in Dublin city centre, for overseas companies such as Google and Facebook coming to Ireland.

Over 70pc of the take-up of new office space in Dublin in the first half of 2015 was by overseas companies and the vacancy rate in the city centre is now down to 5pc, according to research by the ESRI and property adviser Jones Lang Lasalle. Expanding companies are now having to wait 12 months for new space to become available. This shortgage of prime office space has been cited as a real threat to the economic recovery, especially as tech companies have been told there is no room for them in Dublin.

But can the recovery last? There are currently no fewer than 19 office schemes being built in Dublin, with many more in the planning phase. "It's either a feast or a famine", says Marie Hunt, head of research at property-services company CBRE.

Among the new office schemes in the pipeline are the construction of a 12,000sqm office building on Molesworth Street by the Green REIT, which is due to be completed in 2017; the reconstruction of the Burlington House to double its size to over 14,000sqm; a 36,700sqm office scheme on the Boland's Mill site; and beef baron Larry Goodman's redevelopment of the old Bank of Ireland headquarters on Baggot Street, which, when completed, will add another 18,000sqm of city centre office space.

In addition to these schemes, which are already under construction or where building work is due to start shortly, many others are at the planning stage.

Developers Ballymore and Oxley have applied for planning for a huge mixed scheme at the North Wall on Dublin's docklands. The Nama-backed Project Wave envisages 50,000sqm of offices and 250 apartments.

The Hibernian REIT announced last month that it had entered into a 50:50 joint venture with US investment fund Starwood Capital to develop 11,100sqm of offices on the Windmill Lane site.

Less than two weeks ago, plans were unveiled for Ireland's largest building at the Point Village. The Nama-supported 'Exo' building will be 73 metres tall and contain almost 21,000sqm of office space.

The Exo may not retain its title as Ireland's tallest building for long. Directly across the Liffey, US real estate giant Kennedy Wilson, one of the early buyers in the post-crash Irish market in 2011, has teamed up with Nama to seek planning permission for its Capital Docks project, the centrepiece of which will be a 79-metre high building, Capital Docks will include 29,000sqm of office space and 204 apartments.

If all of the schemes mentioned in the previous paragraphs were to be built as planned they would add a combined 183,000sqm to Dublin city centre's office stock.

For those of you who still like to think in "old money", that's the equivalent of 45 acres of new floorspace.

Which, of course, begs the question: can tenants be found for all of these new offices and, even if they can, what will be the impact on rents and values?

Stephen Vernon, chairman of Green Property, is one of the few major players in the Irish property market to have emerged with his reputation enhanced after the bust.

Instead of insanely following the herd during the Celtic Tiger years, he shrewdly cashed in most of his chips at the top of the market.

Then, when most of his surviving competitors were still licking their wounds, he re-entered the market at close to the bottom.

Announcing the annual results of its Green REIT offshoot earlier this month, both Mr Vernon and his chief executive Pat Gunne sounded a note of caution about the Dublin office market.

According to Mr Vernon, the "golden period" of Irish commercial property returns is probably over and Green REIT is unlikely to match the 24pc annual return it achieved in the 12 months to the end of June.

Mr Vernon went on to say that he was not "terribly optimistic" that Green REIT, which has bought 24 properties since floating on the Stock Exchange two years ago, would find more properties to buy.

Mr Gunne was equally downbeat, warning that, with up to five million square feet (464,000sqm) of new space under development, the Dublin office market was facing "possible oversupply" from 2018 onwards.

Messrs Vernon and Gunne aren't the only people who are worried that the Irish commercial property market may be getting ahead of itself.

In March Mary Ricks, Kennedy Wilson Europe's managing director, warned that Irish property prices had become "frothy".

"We have had to become increasingly selective about what we are bidding on in Ireland in the past six months", she said.

Possible oversupply isn't the only threat overhanging the Dublin commercial property market. With most of the domestic developers stuck in the Nama limbo and the local banks out of the property-lending business, the bulk of the early post-crash buyers of Irish assets came from overseas.

While these buyers provided a welcome floor for property values back in the dog days of 2011, most of them are not natural long-term holders of Irish property assets - Kennedy Wilson has already taken some money off the table by selling its Bank of Ireland shareholding in 2013.

Given the sharp recovery in the Irish property market since 2012, it is surely a question of when, rather than if, some or all of these overseas investors head for the exit.

What impact will such major disposals have on the market?

The probability of the early overseas buyers selling up is linked to the prospect of higher interest rates globally. While the summer economic upheaval in China dissuaded the Fed from increasing US interest rates this month, this was at best only a temporary reprieve.

An increase in US interest rates, which will be first of many, could come as soon as December. This will in turn put upward pressure on interest rates on this side of the Atlantic.

Given their dependence on high levels of leverage (borrowings) to boost their returns, higher interest rates will be about as welcome as garlic to a vampire for most of the post-crash, overseas property investors.

This combination of possible oversupply, large disposals by overseas investors and higher interest rates seems to be acting as a brake on capital values, despite soaring rents.

As rents picked up from 2012 onwards, yields initially shrank also as investors priced the likelihood of further rent increases.

Then something funny happened.

Yields on prime Dublin offices stopped falling over a year ago and currently stand at 4.65pc, according to CBRE.

This indicates that potential investors are at the very least sceptical about the sustainability of current rent levels when supply begins to match demand from 2017-8 onwards.

While those who came early to the party have done very, very well, the latecomers could end up nursing a very nasty hangover!

Dundrum discount

The €1bn-plus sale of Dundrum Town Centre will test Ireland’s resurgent commercial property market. Three bidders have bid up to €1.6bn for the package of Nama-owned loans, including those secured against Ireland’s largest shopping centre.    

With a reputed annual rent roll of about €58m, Dundrum Town Centre is very much the jewel in Nama’s crown. In 2014, Nama paid Ulster Bank and KBC face value for their loans in a move that gave the state bad bank full control over Dundrum.

Also included in the package of loans being sold by Nama are half shares in the Pavilions Shopping Centre in Swords and the Ilac in Dublin city centre, as well as undeveloped sites next to Dundrum and Ilac. However, all eyes will be on Dundrum Town Centre and the price it fetches.

When Nama first put the portfolio of loans up for sale, it was speculated that Dundrum Town Centre could be worth up to €1.4bn. On a €58m annual rent roll, that would give a yield just over 4.1pc, that always seemed optimistic. CRBE calculates that average super prime shopping-centre yields currently stand at 4.5pc, which would value Dundrum at €1.29bn.

It may not even achieve this value. If reports of a €1.6bn price tag for the entire portfolio are correct, then Dundrum is being valued at about €1.1bn when the other assets included in the sale are deducted - a yield of almost 5.3pc.

So will Nama get the full retail price - or will it have to let Dundrum go at a discount?


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