If you were to ask me to predict where the best opportunities in commercial real estate will be in the next five years, for SME investors, I would probably highlight the opportunities available in the secondary office market. On the face of it, the office market is on a downward spiral, due to the ‘working from home revolution’. However, whenever there are problems in the real estate market, there are always potential solutions that present opportunities for those in the know. As prices fall and some buildings remain empty, now is the time for investors to look at the potential to maximise these opportunities.
The Office Market: A changing landscape
The demand for traditional office space has experienced a downturn since the onset of the pandemic. However, despite working practices changing, we haven’t yet seen a mass outflux of businesses from office space as many are bound by existing occupational leases. Businesses are finding leases difficult to exit from as alternative occupier demand is thin on the ground - landlords won’t take leases back, and potential assignees or sub-lessees are limited. This is a problem for many tenants, as with an increasingly flexible workforce the need for real estate flexibility has never been greater.
In addition, high inflation has created cost pressures for corporates, who are increasing their focus on productivity and cost reduction. This, together with the longer-term impacts of working from home, mean that many businesses are continuing to reassess their usage of commercial property. Data from Remit Consulting in 2023, suggests that office occupancy rates are at circa 30%, and the three-day office week appears to have become the new normal. Indeed, the recent survey found that nearly 60% of employees would consider leaving if full-time attendance were to be mandated. Corporate real estate is the second highest cost after salaries for many businesses and as a result office requirements are continually being reassessed. On the flipside, however, the provision of high-quality space is still important for many businesses, to assist with recruitment, retention, and productivity as well as staff health and well-being.
There is also a much greater focus on buildings that are sustainable and energy efficient, as occupiers try to ramp up their ESG aspirations. The surveying firm, Carter Jonas, recently conducted some research that found only 31.6% of Britain’s office stock is EPC C or above. Occupier demand is largely focused on these Grade A type offices. EPC C is the proposed minimum standard from 2027, but office properties within EPC bands F and G account for circa 17.2% of all offices (Carter Jonas). This means that nearly a fifth of all office stock in the UK potentially became unlettable from 1 April 2023, unless remedial action has been taken. In reality, of course, this figure will be a lot lower as exemptions can be applied for – but it is also likely that the availability of exemptions will reduce over time.
