RESEARCH

PERTH CBD OFFICE MARKET OVERVIEW MARCH 2015

HIGHLIGHTS A significant increase in backfill By the end of 2015, it is expected A depreciating Australian dollar and space will make an impact in 2015. that the vacancy rate will be in lower interest rates should attract New developments completing excess of 20%, as new supply international investor interest into during the year will add 149,601m2 comes online against a backdrop the Perth market. of NLA to the market. of soft demand conditions.

KEY FINDINGS SUPPLY & DEVELOPMENT By July 2015, 52,502m2 of new supply is to be Total CBD stock increased to 2 2 completed, followed by 97,099m in the second half of 1,625,118m as at January 2015, following the completion of two the year. Overall, 62% of this new development has office buildings. been pre-committed. Approximately 149,600m2 of office supply is currently under As of late 2014, Perth CBD saw the construction and due for completion completion of refurbishment works at 565 Sub-lease/Backfill in 2015. Hay Street (Public Trustee Building) and Late 2014 saw Aurecon move to 861 Hay the newly developed 861 Hay Street Street leaving 5,144m2 of backfill space The Perth CBD recorded negative resulting in an increase to gross supply at 256 Adelaide Terrace. A significant net absorption in the six months during the six months to January 2015 of increase in backfill space in Perth CBD is to January 2015, prime falling by 24,097m2. There were also withdrawals 2 likely to make an impact in 2015 as new -13,786m and secondary recording of 3,283m2 arising over the same period. 2 developments reach completion. In the -16,796m . 565 Hay Street is currently vacant with first six months of 2015, backfill space of 7,700m2 available, while 861 Hay Street 16,000m2 from tenant relocations was 47% pre-committed by Aurecon It is expected that the vacancy including Shell, Legal Aid and HBF is translating to 5,144m2 still available to be rate will be in excess of 20%, by expected to enter the market. This is leased. the end 2015. followed by an even larger backfill impact

of 35,432m2 during the second half of In addition, a further 149,601m2 of new 2015 from tenants such as Deloitte, supply is projected to be introduced to Ashurst, Corrs, GHD and Crown Law the market over 2015 from eight projects. relocating to the newly completed Across the projects, 92,953m2 or 62% buildings. has been pre-committed. There is a

diversity of commitment levels across the The largest backfill space is attributed to developments with KS 2 (19,282m²), KS 3 consolidation of the WA State (5,675m²) and Treasury Building Government offices which will see Crown (30,196m²) fully committed to Shell, John Law relocate from Westralia Square at Holland and the WA Government 141 St Georges Terrace to the Treasury respectively. Building, leaving a backfill space of

20,000m2. However, with a lease expiry At this stage space remains available in in 2020 at 141 St Georges Terrace, the KS 4 (72% committed to HBF), 32 St State Government is expected to Georges Terrace (40% committed to reallocate the majority of backfill to other Legal Aid), 999 Hay St (59% committed internal departments. There will however by GHD), 123 St Georges Terrace (50% be some net inflow into the CBD also, committed to a range of professional with circa 8,000m2 of new space to be tenants) and KS 1 which is seeking absorbed by tenants currently occupying commitment. suburban office space, with Brookfield

Multiplex and John Holland relocating to Beyond these projects under Brookfield Place 2 and KS3 respectively. construction, further office development

BALVEEN KAUR in the medium term is expected to be Research Analyst—WA Sublease space continues to be a major limited to those projects which have factor within the Perth CBD office already achieved significant pre- market. The sublease vacancy crept up commitments such as Woodside’s marginally from 2.7% in July 2014 to Capital Square and the Chevron Building. 2.8% (up 2,305m2) as at January 2015.

TABLE 1 Perth CBD Office Market Indicators as at January 2015

Total Stock Vacancy Annual Net Annual Net Average Net Average Average Core Grade (m²) Rate (%) Absorption (m²) Additions (m²) Face Rent ($/m²) Incentive (%) Market Yield (%) Prime 949,864 12.9 -32,286 24,010 593—731 30—35 7.00—8.00 Secondary 675,254 17.4 -34,984 4,999 439—482 30—35 8.00—9.00 Total 1,625,118 14.8 -67,270 29,009 Source: Knight Frank/ PCA

2 PERTH CBD OFFICE MARCH 2015 RESEARCH

MAJOR OFFICE SUPPLY

861 Hay St - 10,947m² [Aurecon] 1 Perth Diocese - Completed - 50% committed 565 Hay St # - 7,560m² 2 Perth Diocese - Completed - seeking pre-commitment 32 St Georges Tce # - 15,045m² [Legal Aid] 3 Private - Q2 2015 - 40% committed

KS2 (Kings Square)*, 376 Wellington St - 19,282m² [Shell] 9 4 DEXUS & DWPF - Q2 2015 - 100% committed 11 15 17 KS3 (Kings Square)*, 376 Wellington St - 5,675m² [John Holland] 12 5 13 DEXUS & DWPF - Q2 2015 - 100% pre-committed 6 KS4 (Kings Square)*, Wellington St - 12,500m² [HBF] 4 6 HBF - Q2 2015 - 72% committed 1 5 KS1 (Kings Square)*, 376 Wellington St - 22,543m² 7 7 DEXUS & DWPF - Q3 2015 - seeking pre-commitment Treasury Building - 30,196m² [WA Gov't] 8 Mirvac / Keppel REIT consortium - Q3 2015 - 100% committed 10 20 999 Hay St - 10,160m² [GHD] 9 QUBE - Q3 2015 - 59% committed 123 St Georges Tce (Brookfield Place 2) - 33,600m² [Ashurst, Corrs, 10 Deloitte, Brookfield] - Brookfield - Q4 2015 - 50% committed 19 Veil 253, 253 St Georges Tce - 3,577m² 11 16 Primewest - seeking pre-commitment Capital Square, 98-124 Mounts Bay Rd - 50,500m² [Woodside] - H.O.A 8 12 AAIG - mid 2018 - 100% committed - Initial site-works 2 14 239 St Georges Tce (Bishops See no.2) - 46,000m²+ 13 Brookfield/Hawaiian - Q4 2015 - seeking pre-commitment 3 100 Murray St # - 4,000m² 14 AWD Diversified - seeking pre-commitment 18 950 Hay St (old Melbourne Hotel site) - 10,000m² 15 Oakesfield - seeking pre-commitment Crn Barrack St & The Esplanade - 70,000m² [Chevron] 16 Chevron - DA Pending KS5 (Kings Square) * - 38,000m² 17 Seven Entertainment - DA Pending 480 Hay St - 34,000m² 18 BGC - DA Pending - seeking pre-commitment

Elizabeth Quay - 130,000m² excluding 70,000m² Chevron site 19 Leighton / Broad Construction Services

20 Perth City Link * - Circa 120,000m² exclusive of Kings Square Mirvac/Leighton development consortium

2 21 Waterbank, near The Causeway - 17,000m Lend Lease / MRA - Initial site works

Completed / Under Construction

DA Approved / Confirmed / Site Works

Mooted / Early Feasibility

NB. Dates are Knight Frank Research estimates Office NLA quoted Major tenant precommitment in [brackets] next to NLA 21 # Major refurbishment * Mirvac/Leighton awarded the Perth City Link development contract excluding the Kings Square precinct. KS1-5 are being developed by Leighton / Seven Group.

3

TENANT DEMAND & RENTS

The total vacancy rate continues to Net Absorption FIGURE 2 increase according to PCA January 2015 Perth CBD Historical Vacancy 2 data which recorded a total vacancy rate The Perth CBD market continued to Prime and Secondary grade (‘000m ) for the Perth CBD of 14.8%, up from experience negative net absorption over 11.8% in July 2014. Over the past year, the six months to January 2015. Prime 300 the prime vacant space increased by assets recorded -13,786m2 and 85% compared to secondary vacant 2 secondary assets recorded -16,796m . 250 space which increased by 52%. The The negative net absorption is also increasing prime vacancy in the Perth attributed to the increase in sublease 200 CBD is a direct result of the mining space available in the market as downturn, leading to business companies downsize. The Perth CBD 150 contractions and consolidation. recorded negative net absorption of 2 67,270m over the calendar year to 100 The prime vacancy has increased from January 2015 as company contraction 9.7% in July 2014 to 12.9%, recording a and tenant relocation made its impact. 50 total vacancy of 122,591m2. The

premium building vacancy rate more 0 than doubled from 3.9% in July 2014 to 8.5% in January 2015 while the vacancy “Negative net Jan-05 Jan-06 Jan-07 Jan-08 Jan-09 Jan-10 Jan-11 Jan-12 Jan-13 Jan-14 Jan-15 rate within A-grade buildings increased PRIME VACANCY SECONDARY VACANCY

for the sixth consecutive half year period, absorption levels Source: Knight Frank/ PCA rising from 12.7% in July 2014 to 15.2%. will continue further pre-commitments are secured Similarly, the secondary market through 2015 thus adding further risk to Perth’s experienced increasing vacancy rate expected vacancy rate. levels, at 17.4%, up from 14.6% in July due to low 2014. While vacancy levels in C and D Knight Frank projects the vacancy rate grade assets recorded a marginal tenant demand.” to reach its peak in late 2015 and the improvement, B grade assets recorded first half 2016 in excess of 20%. the largest increase in vacant stock Vacancy rates should then gradually across all asset grades increasing from decline over the following two to three 2 2 60,820m in July 2014 to 80,814m in Much of the prime negative net years due to a significant reduction in January 2015. absorption has come from the premium the level of new supply and improved market, contracting by 14,917m2 over tenant demand which are expected to the past six months. In contrast, A- positively impact the vacancy rate,

grade had an increase in absorption to albeit modestly through to 2018. FIGURE 1 1,131m2 over the past six months Net Absorption and Vacancy reflecting improvement from -12,360m2 2 Tenant Demand (‘000m and %) per six month period during the period before. This confirms

the trend of tenants upgrading from Tenant demand remains soft due to 140 secondary to prime buildings during soft uncertainty in current economic 120 20% market conditions. Further negative conditions as well as businesses looking 100 absorption was experienced in the to improve cost efficiencies and 2 80 15% secondary market (-16,796m ). Negative consolidate their office accommodation.

60 net absorption levels will continue 10% While some tenants prefer to adopt the 40 through 2015 due to low tenant demand. ‘wait-and-see’ approach until the 20 5% market stabilises before committing to a 0 Vacancy 0% lease, the overall trend of tenants -20 As outlined above, backfill space of seeking a flight to quality is still evident. -40 -5% 51,432m2 is expected to enter the Tenants upgrading from secondary to prime grade properties are ideally

Jan-05 Jan-06 Jan-07 Jan-08 Jan-09 Jan-10 Jan-11 Jan-12 Jan-13 Jan-14 Jan-15 market in 2015 as tenants relocate to new buildings. Within the new seeking small to mid size space at a NET ABSORPTION 6 MTHS TO (LHS) TOTAL VACANCY (RHS) developments, 56,648m2 of office space competitive rental rate coupled with an will be vacant upon completion unless attractive incentive over a longer lease Source: Knight Frank/ PCA term.

4 PERTH CBD OFFICE MARCH 2015 RESEARCH

Similarly, the Perth CBD could potentially Rental Levels decreased approximately –5.4% to experience the beginning of a new trend $461/m2 compared to $486/m2 six of tenant relocations from the city fringe The increasing vacancy continues to add months ago, with net incentives 30%- or suburban offices, considering it is a further pressure on landlords to accept 35% (vs. 25% in July-14). good time for tenants to upgrade to a rental levels in accordance with superior quality asset within a CBD prevailing market conditions. As a Incentives levels are expected to remain location. Besides the pending result, tenants are benefitting from high at around 30%-35% as vacancy relocations of Brookfield Multiplex and increasing incentives in the form of rent levels rise further when new stock John Holland into the CBD, another free periods and capital contributions for enters the market over 2015. prominent example includes the lease office fit-outs, which are minimising the commitment by listed education provider costs associated with tenant relocation. Navitas. They relocated from its Applecross office to the entire eighth The Perth CBD office rental market has 2 floor of 1,692m at Brookfield Place, 125 been challenging over the past three St Georges Terrace as its global years with declining effective rents over FIGURE 3 Perth CBD Office Rents headquarters at a rental of approximately that time. Rents are now below the $739/m2 ($1.25 million) a year. Prime and Secondary Average Net Effective trough of 2009-2010. Rents ($ / m2)

On a positive note, in late 2014 BHP Net face rents in Prime-grade buildings 1,000 Billiton announced its new spin-off have softened to an average of $662/m2 950 company South32’s head office will be in 2 900 (vs. $684/m in July-14) representing a – 850 Perth and also be listed on the Australian 800 3.3% fall during the six months to 750 Securities Exchange (ASX). South32 has January 2015. Incentives have 700 650 a conditional agreement to lease part of continued to rise sharply to average 30% 600 the office building at 108 St Georges 550 -35% of the net rent over the term of the 500 Terrace, Perth. The A-grade office tower lease (vs. 25% in July-14). Net effective 450 2 400 with 39,000m of NLA, is jointly owned rents are being significantly impacted as 350 by Brookfield Property and its parent 300 rising incentives flow through. The net 250 entity, Brookfield Asset Management. 200 effective prime rents fell by 16% to an 150 South32 is expected to take up naming average of $430/m2 since July 2014. 100 50 rights after signing a 10.5 year lease and 0 Jan-08 Jan-09 Jan-10 Jan-11 Jan-12 Jan-13 Jan-14 Jan-15 2 will lease around 8,300m of the building Similarly, net face rents in secondary- which could be worth more than $5.5 grade buildings have also declined due PRIME SECONDARY million in annual rent from May 2015 to strong competition as prime leasing onwards, after shareholders vote to options become comparably cheaper. Source: Knight Frank approve the demerger. Occupancy at Average secondary net face rents have the property will increase to 75%.

TABLE 2 Recent Leasing Activity—Perth CBD

Face Rent Term Incentive Address NLA m² Tenant Start Date $/m² years (%)`

15-17 William Street 292 450 n 10 29 Property Council of Australia (PCA) Feb-15 54-58 Mounts Bay Road* 2,319 745 n 5 25 Suncorp Feb-15 250 St Georges Terrace# 362 875 n 3 12 Ardross Estates Feb-15 30 The Esplanade 2,300 600 n 7 24 Kinetic IT Dec-14 77 St Georges Terrace 667 610 n 7 25 AICD Dec-14 108 St Georges Terrace 1,764 685 n 5 15 Pioneer Credit Dec-14 125 St Georges Terrace 1,658 760 n 8 24+ Allianz Oct-14 2 The Esplanade^ 620 850 n 5 13+ Mitsui Iron Ore Oct-14 2 The Esplanade^ 1,020 770 n 5 16 Mitsui & Co Oct-14 451 200 n 50 William Street 15.25 12 Anglican Schools Commission Oct-14 2,048 400 n 562 610 n 863 Hay Street 6 25 Hays Specialist Recruitment Oct-14 1,105 615 n `estimated incentive calculated on a straight line basis n- net + plus lessor’s works *sub-lease #lease extension ^lease renewal Source: Knight Frank

5

INVESTMENT ACTIVITY & YIELDS

The year 2014 saw sales activity Investa Commercial Property Fund FIGURE 4 moderate to $604.5 million in Perth CBD (ICPF) purchased the property from Perth CBD Sales Activity 2006—2014 office transactions, following an active Investa Property Trust in what is the ($ million) Sales Value >$10 million and Number investment market in 2013 when more largest CBD transaction since April than $1.34 billion worth of Perth CBD 2013. QV1 is 100% leased and $1,400 14 office assets changed hands. Four includes major tenants Chevron (40.3% office buildings sold in 2014 and three of of NLA), Worley Parsons, Clayton Utz, $1,200 12 these occurred within the first six King and Wood Mallesons, Herbert months of the year, namely Septimus Smith Freehills and Allens Linklaters. $1,000 10

Roe Square, QV1 and 130 Stirling Street. The asset sold with a WALE by income $800 8 The remainder of the year only saw 220 of 7.7 years reflecting a rate of $11,372/ St Georges Terrace transacted in m2 on NLA (office tower, basement car $600 6 October 2014. park and retail only). $400 4

The most recent major sale, 220 St International investors continue to target $200 2 Georges Terrace, is a B grade office Perth development sites. In December building located along the northern side 2014, Georgiou Capital’s Milligan $- 0 of St Georges Terrace, between Milligan Square was sold to Singapore-based 2006 2007 2008 2009 2010 2011 2012 2013 2014 and King Streets and is within the core Fragrance Group for $30 million. The VALUE OF SALES (LHS) NO OF SALES (RHS) of the Perth CBD. The 10 level building vendor was in the midst of seeking Source: Knight Frank with basement car parking has a net office tenant pre-commitments after lettable area of 9,198m2 and was sold in being granted a development approval 2 October 2014 for $35 million. The for a 21,000m office tower, restoration their projects with works to commence property required an immediate capital of the Pearl Villa and Milligan Hostel, only when they have secured a good expenditure of approximately and a 132-room hotel fronting Murray level of pre-lease commitment from 2 $5 million—$7 million for upgrades. The Street. The transaction of the 3,561m potential tenants. However, with the asset sold with a WALE by income of site includes intellectual property rights high number of office buildings under just under one year reflecting an and development approval. However, construction and expected to be 2 improved rate of $3,805/m and the Fragrance Group will now redevelop completed this year, new office passing and core market yields were Milligan Square into a residential project developments are highly unlikely in the 4.83% and 8.02% respectively. with a 132-room hotel on the site. short to medium term as the market will take time to absorb new supply. The largest transaction of 2014 was the Several developers of CBD sites have 50%, related party sale of QV1 at 250 St reconsidered their development plans, Currently, average prime core market Georges Terrace. The half share in the shifting from office to residential and yields are estimated to range between premium grade landmark 42 level office hotel towers to align with the current 7.00% and 8.00% while average tower, which includes a 5 1/2 level car and weakening office market in the secondary core market yields range parking station and retail plaza, sold for Perth CBD. between 8.00% and 9.00%. Both prime $388.5 million in June 2014 reflecting a and secondary core market yields are at core market yield of 7.20% (office tower, Developers are also adopting a cautious their lowest since 2008. Further yield basement car park and retail only). stance by deferring the construction of compression for select prime assets is

TABLE 3 Recent Sales Activity—Perth CBD

Core Price $/m² Sale Address Grade Market NLA m² WALE Vendor Purchaser $ mil NLA Date Yield (%)

220 St Georges Terrace B 35.0 8.02 9,198 3,805 0.8 Gucce Holdings N. Giorgetta Oct-14

250 St Georges Terrace# P 388.5 7.20^ 61,217 11,372^ 7.7 Investa Property Trust ICPF* Jun-14

256 Adelaide Terrace B 91.0 8.56 17,247 5,133 1.8 Aspen Group Far East Organisation Apr-14

Source: Knight Frank ^ Office, basement car park and retail only * Investa Commercial Property Fund # 50% share

6 PERTH CBD OFFICE MARCH 2015 RESEARCH

FIGURE 5 Perth CBD Office Yields Prime and Secondary Core Market Yields “Prime and 11.0% secondary yields 10.5% 10.0% are at their 9.5% 9.0% lowest since 8.5% 8.0% 2008 recording 7.5% 7.0% between 7% 6.5% 6.0% and 9%” 5.5% 5.0% 4.5% 4.0% Jan-05 Jan-06 Jan-07 Jan-08 Jan-09 Jan-10 Jan-11 Jan-12 Jan-13 Jan-14 Jan-15

An artists impression of the Treasury Building which has been 100% pre-leased to the Crown Law— PRIME SECONDARY currently under construction and expected to be PRIME 10 YR AVE SEC 10 YR AVE completed by third quarter 2015. imminent, assisted by strong overseas Source: Knight Frank Source: www.cathedralandtreasury.com.au and national investment demand in a market characterised by limited buying opportunities.

Furthermore, the lowering cost of debt for most institutional players increases Outlook the attractiveness of making acquisitions under current market conditions. The  Growth in the West Australian residential and weakening office buyer interest in the Perth CBD market economy is forecast to market in the Perth CBD. remains high from offshore investors, marginally decline to 2.25%  With the high number of office institutions and syndicates, and is during the year from 2.75% buildings under construction and expected to continue. Most buyers according to the Department of expected to be completed this favour modern, prime grade assets with Treasury. year, new developments are long WALE’s and minimal CAPEX  Falling rents and higher highly unlikely in the short term requirements, however some offshore incentives are providing tenants as the market will take time to and institutional investors are seeking with some favourable leasing absorb new the supply. value add opportunities. conditions which should  Based on the pending vacancies continue for the next one to two Besides WA being known as Australia’s as a result of tenant relocation, years. “gateway to Asia”, the depreciating and assuming on-going soft Australian dollar together with lower  Tenant enquiry levels indicate demand in the short term, interest rates has attracted interest from net absorption will remain soft vacancy is expected to rise international investors particularly from during 2015. beyond 20% by the end of 2015. China, Singapore and Malaysia. Developers continue to strive to Incentives have risen sharply to Furthermore, Perth CBD office yields   secure tenants before around 30% - 35% of the net currently range between 7.00% and commencement of construction rent and are expected to remain 9.00%, whereas in Asia they commonly works amidst the increasingly high as vacancy levels rise. fall below 4%. As a result, investment challenging office environment. opportunities in Perth are perceived to  Average prime core market be very attractive from an international  Several developers have yields are estimated to range buyer’s perspective in the short to restructured development plans, between 7.00% and 8.00%, with medium term, especially when shifting from office only the long WALE, prime investment opportunities in many parts developments to building assets expected to show any of Asia are currently quite limited. residential and hotel towers due material firming in 2015. to the current demand for

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RESEARCH Balveen Kaur Research Analyst—WA +61 8 9225 2412 [email protected]

Matt Whitby Group Director, Head of Research & Consulting +61 2 9036 6616 [email protected]

CAPITAL MARKETS John Corbett Managing Director—WA +61 8 9225 2561 [email protected]

Tony Delich Director—Commercial Sales WA +61 8 9225 2528 [email protected]

Todd Schaffer Director—Commercial Sales WA +61 8 9225 2402 [email protected]

OFFICE LEASING Greg McAlpine Senior Director, Head of Division– WA +61 8 9225 2426 [email protected]

Ian Edwards Senior Director — Asset Services WA +61 8 9225 2420 [email protected]

Sallese Wilmot-Barr Associate Director — Office Leasing +61 8 9225 2405 [email protected]

Kendall Forrest Knight Frank Research provides strategic advice, consultancy services and forecasting Associate Director — Office Leasing to a wide range of clients worldwide including developers, investors, funding +61 8 9225 2400 organisations, corporate institutions and the public sector. All our clients recognise the [email protected] need for expert independent advice customised to their specific needs. GLOBAL CORPORATE SERVICES Bret Madden Director RECENT MARKET-LEADING RESEARCH PUBLICATIONS +61 8 9225 2407 [email protected]

VALUATIONS Marc Crowe Senior Director, Head of Division– WA +61 8 9225 2521 [email protected]

ASSET MANAGEMENT SERVICES Craig Dawson Senior Director, Head of Division– WA +61 8 9225 2406 Sydney CBD Office Perth Industrial Australian Retail Australian Apartments Market Overview Vacancy Analysis - Market Overview Market Overview [email protected] March 2015 February 2015 February 2015 Q1 2015

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