EXPERTS ON THE FUTURE OF REAL ESTATE

MAY 2020

DEVELOPMENTS IN THE OFFICE MARKETAT THE START OF THE CORONACRISIS

The kitchen table, the loft, the balcony and the garden have all suddenly become the most popular office spaces in the Netherlands in recent weeks. No more traffic jams, no more chats with colleagues at the coffee machine and no more Friday afternoon drinks to round off the week. For now, office workers across the Netherlands are making do with Teams and Skype, and when it comes to socializing, maybe a pub quiz or a game of bingo on Zoom. The coronavirus has certainly had a major impact on office workers. With the hit taken by the office market following the financial crisis a decade ago still fresh in many

people’s memories, the question today is what effect this crisis is going to have. How is social distancing going to impact the use of office space? How will a rise in unemployment affect the demand for office space? Is the Dutch office market still a safe haven for investors? Which direction are rents going to move in? In short, what is the outlook for the office market in the era of coronavirus and beyond?

OUTLOOK FOR THE OFFICE MARKET IS GOOD

SOCIAL DISTANCING IN THE WORKPLACE WILL FLATTEN VACANCY CURVE

INVESTORS RETURNING TO SAFE HAVENS IN THE BIG CITIES

RENTS IN GOOD LOCATIONS WILL REMAIN STABLE

vacancymassiveno

due to the corona crisis

Geen massale door coronacrisis

HOTEL

OFFICE MARKET FUNDAMENTALS REMAIN STRONG: CONVERSION PROJECTS AND STRICT POLICIES ON NEW-BUILD PROJECTS

The most important thing to note is that the Netherlands has learned a lot from what happened between 2008 and 2013. During the financial crisis and the ensuing euro crisis, vacancy in the office market climbed to almost 17%. Many property owners saw their income from rents fall and the value of their assets melt away. At street level, the effect was obvious, particularly in areas with a high office density – there were empty buildings everywhere.

But local governments took decisive action. Not only did municipalities encourage the repurposing of surplus office buildings – they also introduced tough restrictions on new-build projects. Around 4.5 million square meters of office space were repurposed. Many old offices have been converted, particularly in the Netherlands’ five major cities, creating a healthier balance between supply and demand in the office market.

36% FEWER CONSTRUCTION PROJECTS IN THE PIPELINE THAN AT THE START OF THE PREVIOUS CRISIS

Although the number of conversion projects has fallen sharply in the past two years due to the uplift in the office market, the strict rules on new-build are still in place. It was not until last summer, when the shortage of office space in Amsterdam became untenable, that the five major cities turned on the supply tap just slightly. But the ban on speculative construction remains firmly in place.

This strict policy now means that we are entering this crisis from a completely different starting point. One illustration of this is that vacancy in the five major cities at the start of 2008 was already at 10.5%, whereas today it is at an average level of 7%.

new construction pipeline as a percentage of the stock

20%

15%

10%

5%

A M S T E R D A M R O T T E R D A M U T R E C H T E I N D H O V E NT H E H A G U E

In primary office locations, it is actually less than 3% on average. That is a difference of almost 600,000 square meters of vacant office space. The future outlook is also more favorable. There are 36% fewer construction projects in the pipeline1 than there were at the start of the previous crisis. Some existing plans have not yet been finalized, so it is uncertain whether these will actually get the green light. The limited amount of new-build means less risk from the investor’s perspective, because the stock of office space is not being added to in an uncontrolled manner.

A M S T E R D A M

R O T T E R D A M

U T R E C H T

T H E H A G U E

E I N D H O V E N

0 % 5 % 1 0 % 1 5 % 2 5 %2 0 %

transformed offices as a percentage OF THE stock 2008

1. ‘Pipeline’ refers to projects completed between 2007 and 2012 for the previous financial crisis and pipeline projects between 2019 and 2024 for the corona crisis. It was deliberately decided to include the years prior to each crisis year because, particularly before the previous financial crisis, a wave of new office projects was completed and delivered, leading to structural oversupply in the market.

5 . 3 %

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7 , 2 %

6 %

6 , 5 %

1 6 . 5 %

8 . 5 %

8 . 9 %

5 . 6 %

6 . 4 %

15.8%

23.8%

4.7%

CORONA CRISIS FINANCIAL CRISIS

today, THERE IS 36% fewer construction projects in the pipeline

VACANCY RATE AT THE START OF THE CRISIS

14.7%

10.6%

10.5%

9.4%

3.7%

4.7%

2.4%

Lower demand for office space does not necessarily mean that vacancy will increase by exactly the same amount. Lease contracts cannot be changed at will, and the same applies when organizations find they have more office space than they need.

We expect the impact to vary between the five major cities of the Netherlands. This effect will depend on the type of companies found in each city, in combination with new-build plans. The government and non-profit sector are concentrated in The Hague (37%) and Utrecht (32%). The impact of the current crisis on these organizations is expected to be more limited, which means that they will not be looking to shed much office space. In Amsterdam, this percentage is only 21%, which means an increased chance of higher vacancy rates there. Nevertheless, the vacancy rate in the capital will rise only slightly from 5.3% to a maximum of 7.6% by the end of 2021.

INCREASE IN VACANCY RATE WILL REMAIN LIMITED

There is no comparison between today’s office market and the situation at the beginning of the previous financial crisis, when there was simply too much office space available. In addition, today’s crisis is mainly affecting sectors such as the hotel industry, catering and retail, which require a limited amount of office space. This does not mean, of course, that office-related companies will not be affected by the current crisis and rising unemployment.

Based on the scenarios published by the CPB (Netherlands Bureau for Economic Policy Analysis), we calculate that office job development between now and the end of 2021 will range between +5,500 (scenario 1) and -57,000 (scenario 4). In the first scenario, more jobs will be added than lost. These figures mean that the demand for office space would be between 91,000 square meters higher and 950,000 square meters lower for the Netherlands as a whole. In the worst-case scenario, we would expect to see a maximum increase in vacancy of about 1.9 percentage points. By comparison, the increase in the vacancy rate between 2008 and 2010 was 3.5 percentage points, almost twice as much. And that was just the start of a longer-term rise in the vacancy rate.

FLATTENING THE VACANCY CURVE

There is another factor that is different today than a decade ago: the public health guidelines now in force in the Netherlands. Normally, rising unemployment leads to the sub-optimal use of office space, with too much office space being used by too few employees. Today, however, social distancing means that in the short term, at least, companies cannot choose to shed office space. The social-distancing measures mean that in the average office, only 60% of desks can be used. In the Netherlands, that means no fewer than 1.2 million work stations. The number of office desks that will need to remain unused will significantly outweigh any job losses. On balance, many people will continue to need to work from home or in shifts, because there is simply not enough space at the office.

12%

14%

8%

10%

4%

6%

2%

0%

CURRENT VACANCY RATE

VACA

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RATE

PER

CENT

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THE SOCIAL-DISTANCING MEASURES MEAN THAT IN THE AVERAGE OFFICE, ONLY 60% OF DESKS CAN BE USED. IN THE NETHERLANDS, THAT MEANS NO FEWER THAN 1.2 MILLION WORK STATIONS.

R E S T O F T H E N E T H E R L A N D S

E I N D H O V E NU T R E C H TT H E

N E T H E R L A N D ST H E H A G U EA M S T E R D A M R O T T E R D A M

In Rotterdam, the government and non-profit sectors account for 26% of office space rented, making it comparable to the average city in the Netherlands. Little extra vacancy is to be expected here, since there is virtually no new-build in the pipeline for the next few years. However, more office space will become vacant in locations where only offices are located. High-quality office space in the center of the major cities remains scarce.

MAXIMUM VACANCY RATE END 2021 SCENARIO 2

MAXIMUM VACANCY RATE END 2021 SCENARIO 1

MAXIMUM VACANCY RATE END 2021 SCENARIO 3

MAXIMUM VACANCY RATE END 2021 SCENARIO 4

1

1

1

1

11

1

4

4

2

2

2

2

22

23

3

3

3

3

3

3

4

4

4

4

4

IS WORKING FROM HOME A GAME CHANGER?

It is uncertain to what extent home-working will lead to structural changes in the office market. Our recent worldwide survey shows that 72% of Dutch home-workers would like to work from home at least one day a week, even once the current restrictions have been lifted. Internationally, that percentage is as high as 82%. In the Netherlands, almost half of those who had never worked from home before would now like to continue doing so. Currently, only 14% of office workers in the Netherlands regularly work from home – which is still one of the highest percentages in Europe. By comparison, in Germany the rate is just over 5% and in the United Kingdom it is less than 5%, indicating that these countries are highly conservative when it comes to working from home. The question is whether the desire to work from home will actually become a reality once the current crisis has passed. Good intentions often remain just that, and are never put into practice. But even increased rates of home-working would not necessarily dampen the demand for office space. Before the lockdown, offices were already busiest on Tuesdays and Thursdays. Unless home-working arrangements are distributed better, this situation will persist, and the demand for office space will remain unaffected.

INCREASING SCARCITY OF OFFICE INVESTMENTS IN GOOD OFFICE LOCATIONS

The fundamentals of the office market remain sound. The effect of rising unemployment may also be limited. Nevertheless, uncertainty in the market is driving changes in investor behavior. Many real estate investors are currently adopting a wait-and-see attitude, partly for practical reasons. They will probably opt for greater security and their focus is likely to shift back to the prime office locations in the Netherlands’ five largest cities. This will be a change compared to the last few years, when more investors were prepared to look outside these cities.

Many offices in prime locations are owned by institutional investors whose operations tend to be long-term in nature, and who are often unwilling to sell. As such, investment opportunities in prime locations are getting harder to come by. Consequently, price differentials between prime and sub-prime office locations will grow even further. And this yield gap, as it is known, is already at a historically high level.

In better office locations, prices are therefore hardly expected to drop at all over the next two years. And as a result, gross initial yield will increase only slightly by between 0 and 50 basis points. This will depend largely on the availability of cheap money on the capital market and banks’ willingness to provide financing.

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INVESTMENTS BEST LOCATIONS G5TOTAL INVESTMENTS IN THE NETHERLANDS

SHARE OF INVESTMENT VOLUME IN THE BEST G5 LOCATIONS (VOLUME)SHARE OF INVESTMENT VOLUME IN THE BEST G5 LOCATIONS (NUMBER)

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8

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Investeringen beste locaties G5Totaal investeringen NL

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Top bruto aanvangsrendement kantoren

Bruto aanvangsrendement B&C locaties buiten randstadGROSS INITIAL YIELD B&C LOCATIONS OUTSIDE RANDSTAD REGION

FUTURE

TOP GROSS INITIAL YIELD OFFICES

If more workers do choose to work from home in the future, the trend toward offices as places for meeting and team work will only grow. This means that the number of square meters required for each worker could actually increase. Longer-term hygiene measures to prevent the spread of the virus would have the same effect.

In short, the growth in home-working will have a limited impact on the demand for office space, certainly in the shorter term.

THE GROWTH IN HOME-WORKING WILL HAVE A LIMITED IMPACT ON THE DEMAND FOR OFFICE SPACE.

DECREASING VACANCY rate from2015 TO 2020 Q1

RENT LEVELS ARE FLATTENING OFF

In recent years, investors have often factored in significant rises in rental incomes when acquiring new office space. However, in the next few years this cannot be taken for granted as rents will flatten off. Rent rises will only be possible if, in the event of a lease renewal, the old rent is below market level. This also applies to prime locations in the five major cities. It is also worth noting that rents are not likely to fall either, given the current scarcity of office space. Vacancy in almost all these cities has fallen below the 5% level at which vacancy leads to friction in the market. This is the level of vacancy that is necessary in order to enable relocations within the city. Experience teaches us that once this level is reached, rent increases will not be far behind.

We are on the verge of a recession due to the outbreak of coronavirus. In contrast to the situation at the start of the 2008 financial crisis, however, the fundamentals in the office market are sound this time. The strict new policies on new-build projects and the large number of conversion projects already carried out are now bearing fruit. Office vacancy would increase to a limited extent under only one of the CPB’s scenarios, in which unemployment reaches a high level.

Social distancing will help create a soft landing for the office market. Any increase in vacancy will certainly be limited in locations that have already become established as attractive multifunctional office locations in recent years. And investors, just like companies, will also favor these locations in the medium term, because they offer the security of rental income and value retention.

Higher vacancy rates would be needed for falling rents. For this to happen, vacancy would need to rise by about four percentage points to around 10%. The likelihood of this happening is low. Any office space that becomes available will probably be snapped up quickly by other companies. Particularly around Amsterdam and Utrecht, many companies are eager to find suitable office space. In recent years, this has not been possible. This means that in these popular areas, vacant offices will have no difficulty attracting new tenants.

ROTTERDAM UTRECHT

5.6%15.5%9.9%

3.3%10.4%7.1%

3.9%8.5%4.6%

3.1%7.2%4.1%

4%10%6%

AMSTERDAM

the hague EINDHOVEN

Vacancy rate in almost all of these cities has fallen below FRICTIONAL VACANCY LEVEL

IN CONTRAST TO THE SITUATION AT THE START OF THE 2008 FINANCIAL CRISIS, THE FUNDAMENTALS IN THE OFFICE MARKET ARE SOUND THIS TIME.

Stadionplein 14 | 1076 CM Amsterdam | Tel: +31 (0)20 540 55 55 . amsterdam.office@colliers.com | www.colliers.nl

Frank Verwoerd

Dré van LeeuwenExecutive Director Capital Markets & Agency

dre.vanleeuwen@colliers.com +31 65 06 71 093

Head of Research

frank.verwoerd@colliers.com

+31 61 26 38 715

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