_The Property Perspective Episode 2 | How the development cycle in Sydney ties into demand

Katy Dean: Welcome to Knight Frank's The Property Perspective. I'm Katy Dean, Associate Director with Research and Consultancy. I'm joined by Al Dunlop, Director, Head of Office Leasing for Sydney CBD. In this podcast episode, Al and I will be talking about the development cycle and how this ties into demand. Al, I'd be interested to hear your thoughts on what themes and trends are shaping the current development cycle in Sydney CBD. 

Al Dunlop: We've seen the redevelopment cycle struggle to keep up with demand and that's evidenced by the vacancy rate coming down from call it 7% when Barangaroo came online into the threes, and that's attributed by a number of factors. The long lead times to bring on product in Sydney CBD has an effect from a planning and deconstruction and construction phase perspective. We've seen major tenant movements, the government putting divisions or agencies out to Parramatta has had an effect where buildings have come back and being repositioned and referred, but that also takes time. You look at some of these examples around town, like 320 Pitt, which we're involved with, and 388 George on George Street and their 12 to 18 month refurbishment periods. So that product, whilst it's coming back as a backfill opportunity, it does effectively get side-lined and taken out of the market for a period whilst it's being refurbished. 

And you look at the commitment levels of these projects where it's 75% or thereabouts on all the new supply. That's the new constructed product that's coming in in 2019 and 2020. And again, you look at the refurbished product, we're hovering around that 75, 65, 70% committed level for the five buildings we're getting back in the next 24 months as refurbished product. So, the options available to some of these larger scale tenants, even though there is supply when they come to market and look at availability, there may only be a handful of options that are appropriate for their requirement needs. 

Katy Dean: Al, on the supply side, where do you see the withdrawal cycle in Sydney and do you think we will continue to see a pullback in withdrawals? 

Al Dunlop: We've certainly had a period over the last three years of above trend withdrawals. You know, there was the Metro product that came out and circa 70,000 metres that was pulled down. We've seen a number of buildings taken out of the market entirely for residential and alternate uses, and it feels like we're seeing a tapering of that now. The Metro story has played out and we will get that back as new supply around 2020. The residential market, with that cooling somewhat, we're seeing fewer starts in that space. A really good example is the sale of 201 Elizabeth Street, which was a mooted residential and hotel conversion and with Charter Hall acquiring that, Charter Hall and their funding partner Abacus. That's been a real vote of confidence for the underlying fundamentals of the Sydney office market. And it's our understanding that they will retain that built form in an office format and look to refurbish. It also has the effect that, had the building gone hotel residential, the building is fully occupied and there would have been circa 38,000 metres of occupiers pushed in the market and obviously that would have had a further tightening effect. So, it's great to see that vote of confidence and have that building see out another life cycle with significant capital investment that'll come in tow with the new owners and that product retained as office space in the Sydney CBD. 

Katy Dean: Yeah, I mean that's definitely a driver behind divesting non-core to reinvest and deploy capital into Sydney at the moment. And there’s certainly a focus on expansion through development and redevelopment, and institutions in particular are padding out their portfolios with acquisitions. I mean, just the sheer volume of capital that's being raised and also being deployed is running above average. 

Ownership shakeup, you know, with the REITs both offshore and domestic trading as well as entering into new capital partnerships and capital raising. What I think is interesting actually is a lot of the capital raising that is going on is being oversubscribed and that reflects the appetite for REITs in light of the low interest rate environment and certainly the confidence that you're talking about in the performance of Sydney's office market. 

Al Dunlop: As you can hear, the CBD office market landscape remains very much under supplied and struggling to keep up with demand until we see the Metro projects come online in 2024. 

It's been great chatting with you, Katy. If any of you would like to get a detailed breakdown of the market, you can visit our recently released office market report.