Weak economic recovery still affecting Scottish commercial property
10 May 2011
Economic recovery from a banking crisis-induced recession is notoriously weak. Aberdeen aside, the lack of a solid foundation to the recovery means that Scotland’s occupier markets are still performing at below average levels, while the development sector remains moribund. The investment market appears to have found some stability but trading is thin and these conditions will persist during 2011. These are the main findings in Ryden’s 68th Scottish Property Review, an authoritative report on the country’s commercial property sector.
Economy
Scotland’s economic recovery remains weak. Negative growth in late 2010 may, as in the wider UK, be offset by growth in early 2011 when data is published but the foundations of economic recovery are not yet solid.
Offices
The recent trend of office sales and lettings running below average in Edinburgh and Glasgow but above average in Aberdeen continues. Very limited new development afflicts all locations but has different implications for each city.
Glasgow’s lack of any speculative new-build development and dwindling supply of new Grade A space and better quality Grade B property is reducing choice for local companies seeking to expand, and for potential inward investors. Continued lack of funding for new developments, allied to the time required for securing planning and construction, means there is little prospect of any new city centre development before late 2013/14. As the supply of new Grade A city centre space dwindles, the case for new development becomes increasingly compelling, and those developers and/or funds with the appetite and resources have the opportunity to benefit going forward.
Office take-up in Glasgow in the last six months to March has fallen by 37% to 26,842 sq.m., however it is still 11% above the equivalent period last year. Prime city centre office rents have reached a plateau of c. £305 per sq.m. Incentive levels remain aggressive and it will continue to be a tenant’s market, at least in the short term. Reducing supply however will strengthen the landlord’s position at the upper end of the market.
Edinburgh has no new office developments scheduled for completion prior to 2012. Edinburgh Council’s HI development is due in 2013 and it is understood that Fordell Estates is preparing a planning application for quality offices at The National Trust for Scotland’s former premises, which could lead to space being available in 2013. Other development sites with planning consent have yet to commence. It is expected that the supply of Grade A offices will tighten as the best space in new buildings has been taken up or will be secured by current market requirements. Rental growth is not anticipated but incentive levels should stabilise and reduce as supply falls, leading to opportunities for new-build offices, potentially via private equity companies, developers or funds.
Office take-up in Edinburgh in the last six months to March was 38,971 sq.m., a 31% increase since October 2010, but still 9% below the long-run average. Demand for offices larger than 929 sq.m. has been particularly slow but improvement in demand is expected due to lease expiries and break options during 2012-2015. Small open plan offices continue to be the most active sector but supply is diminishing. Prime office rents sit at £280 per sq.m., however there continues to be downward pressure on rents.
The Aberdeen office market has seen a surge in demand, which is not surprising given the price of oil. Take-up figures in the last six months to March are up 45% to 33,000 sq.m. and beyond this, a large number of available office suites are currently under offer. Within the city centre there is virtually no Grade A space available, with the exception of the final remaining suite in Union Plaza and three floors within City Wharf. With no further new office building in central Aberdeen on the horizon, this market is likely to remain constrained for some time. The severe lack of good quality office space coupled with increasing demand from a strong oil sector is starting to have a positive effect on rents, and incentive packages for the right product are reducing.
Industrial
The industrial property market has split into three main bands of demand. Below 929 sq.m. the market remains active with good levels of take-up and shortages of stock in prime areas. From 929 – 2,787 sq.m. there is lower demand but steady take-up and a number of active requirements seeking suitable property but facing shortages of better quality stock. Above 2,787 sq.m. the market has been very slow with a lower than average level of requirements and take-up.
In West Scotland the supply of good quality and well located industrial property remains tight. Vacant industrial floorspace is returning to the market through company failures and branch closures but this continues to be at a surprisingly low level given the current economic difficulties. The industrial development pipeline remains limited due to funding issues and perceived take-up concerns but there are a number of projects on site and others programmed to follow. Rents are holding up well for smaller prime stock but reducing for secondary and tertiary property/locations.
Turning to East Central Scotland, the general trend has been the continued lack of new industrial development and a steady stream of demand and lettings of small to medium sized second hand space. The exception to this has been Fife, which has secured three major industrial transactions during the past six months. A return to new-build speculative development is on the horizon, as two projects at Livingston and Newhouse are being considered for site starts in the next few months. Both developments will comprise small high quality units and it is likely that this type of scheme will typify any speculative development in the next cycle.
The industrial market in Aberdeen has improved in recent months, with a 27% increase in take-up and 58% increase in transactions in the six months to March. Most notably take-up rose by 270% in the 929 – 1,858 sq.m. size range. Since early 2010 the price of oil price has increased dramatically, instilling confidence in the oil and gas sector and stimulating further investment in the North Sea. This has put stress on good quality industrial properties within the city and as supply falls companies increasingly have to consider locations on the periphery of Aberdeen. Some developers have sought to alleviate this problem and capitalise on the strong demand by undertaking speculative development.
Retail
The retail property market activity continues to be focussed within the top prime, food and value sectors. All major food stores are acquisitive across supermarket, superstore and convenience store formats. Food and non-food sales have fallen over the last 12 months to March and this is mainly due to the first year-on-year fall in disposable income for 30 years.
Activity has been encouraging in Glasgow, with deals involving HSBC, Forever 21, Paperchase, Gap, Gio Goi and Camper on Buchanan Street.
Within Edinburgh, George Street has been very active with new retailers including Austin Reed, County Casuals and Pepperberry. Both White Stuff and Viyella have relocated to new units on the street and Joules and Anthropologie are also set to open stores.
Transactional activity remains strong in Aberdeen. Republic, TGI Fridays and Kutchenhaus have all taken space at Union Square. On Union Street, Jamie Oliver has secured a restaurant and HSBC has a unit under offer.
Investment
There are fewer transactions being agreed due to a combination of less active investors and limited suitable stock coming to the market.
Scottish commercial property recorded a total return of 10.6% in 2010. Rental growth was negative across all three sectors however the rate of decline has further slowed, continuing the trend of recent quarters.
The availability of bank debt remains tight as banks seek greater security in terms of location and certainty of income. The health of the banking sector remains crucial to the property sector’s recovery but as there is pressure on banks to reduce their exposure to commercial property a significant improvement in lending cannot be envisaged in the near future. The market will undoubtedly look to new sources of funding to fill the void. It is likely therefore that demand will be from similar sources as in 2010: UK institutions, foreign investors, well-funded property companies and private investors.
Demand is expected to continue to be strong for investments which offer good quality and well-secured long term income. An overriding characteristic is the lack of available stock in comparison to the number of investors in the market, resulting in competitive situations for suitable assets and strong prices being achieved. This is a major factor in maintaining low yields for good quality investments. There remains limited demand for secondary and tertiary property and investors who do consider these markets are looking for significant price discounts.
