Offices still attracting capital

Fewer lettings, higher vacancies, growing challenges: the European office property market is feeling the impact of the Covid-19 pandemic. Yet there are still attractive investment opportunities. Despite all the prophecies of doom, the office market is very much alive. By Christian Hunziker

Michael Voigtländer is one of Germany’s foremost real estate experts. Sometimes, however, even the head of the Financial and Real Estate Markets Research Unit at the employer-linked German Economic Institute (iW) in Cologne gets it wrong. “We’re expecting a serious downturn in the office market,” said Voigtländer in June 2020. Back then, he forecast that the crisis sparked by the pandemic would cause office prices and rents in prime locations to fall across Europe, with Berlin office rents potentially taking a 20 percent hit in 2020 and purchase prices slumping by 35 percent.

In the meantime, Voigtländer has completely revised his assessment. “The office market survived the crisis much better than we anticipated,” he concedes. The figures bear that out. Staying with Berlin as an example, data from real estate services firm JLL shows that prime rents in the German capital rose by 3 percent in 2020, while yields on premium properties remained stable.

Nor is there any sign of a slump in the office markets elsewhere in Europe. “Although demand for office space in Europe is lower than prior to the Covid-19 pandemic, it’s still surprisingly strong considering we’ve had a long lockdown,” says Hela Hinrichs, Senior Director, EMEA Research & Strategy at JLL. In the 24 European office markets from Athens to Oslo analysed by JLL, take-up of space in the first half of 2021 rose by 6 percent compared to the first half of 2020. “Prime rents only fell in a handful of European cities,” notes Hinrichs. On average, prime rents declined by 2.3 percent in the second quarter of 2021 compared to the same quarter of the previous year, albeit with considerable variation. In Prague, they plunged by 14.1 percent, while in Hamburg rents gained 3.3 percent.

Prices for prime office properties have remained resilient because investors are looking for stable, long-term cash flows.
Jan Linsin, Head of Research Germany, CBRE

The world of work is changing, which is adding to uncertainty for investors

According to Hinrichs, landlords are now more willing to offer rent-free periods and other incentives. “Many companies are still adopting a wait-and-see attitude to signing leases for office space while they figure out how to organise their physical presence in future,” explains the JLL expert. “Transformational change is sweeping across the world of work and also affecting more traditional companies such as insurers and financial services providers. They are becoming more flexible and thus also more willing to give their employees the option of not working in the office for between one to three days a week.”

This is causing considerable uncertainty for investors. Of the 150 real estate companies in Germany, France and the UK surveyed by Union Investment at the end of 2020 for its semi-annual investment climate study, 56 percent thought that increasing acceptance of homeworking would result in persistently weaker demand for office space.

It’s by no means certain things will turn out that way, though. Karsten Jungk, man- aging director and partner at the Berlin office of Wüest Partner, a Swiss consulting company, admits that office life will never be the same again after the Covid-19 pandemic, with many employees continuing to work from home at least part of the time. “But that doesn’t necessarily mean demand for office space will decline,” he adds. Rather, there will be a switch to flexible spaces with zones for interaction and communication. This reflects the trend being observed by experts across Europe – the role of the office is changing. It’s no longer just a workplace, but first and foremost a platform for sharing information and for in-person contact.

Adaptation needed to ensure tenant retention

Having said all that, experts predict that office vacancies will grow over the coming years. According to data from JLL, the Europe-wide vacancy rate rose to 7.5 percent in the second quarter of 2021 – an increase of 30 basis points compared to the first quarter. That makes it all the more important for property owners to actively engage with their tenants and adapt to changing requirements.

The Paris Victoire office building in the French capital is an example of how long-term tenant retention can be achieved even in a difficult market environment. The letting specialists at Union Investment succeeded in agreeing two long-term  leases covering a total of 16,000 square  metres of office space with major French banking group CIC. The quality of the office property, with its impressive historic façade, and the location both proved compelling. Fully refurbished by Union Investment, the building not only provides modern office space but also offers additional facilities such as an auditorium, a business lounge combined with a  restaurant, and a crèche. The excellent location in the 9th arrondissement benefits from close proximity to the Opéra Garnier and Grands Boulevards.

Many companies are still adopting a wait-and-see attitude to signing leases for office space while they figure out how to organise their physical presence in future.
Hela Hinrichs, Senior Director EMEA Research & Strategy, JLL

Central office locations remain attractive alongside local satellite offices

But is it really always such prime locations that grab the attention of tenants? Two trends are emerging here. On the one hand, decentralised locations close to residential areas are gaining in importance because not all employees who enjoy flexible working and don’t want to commute to a central office every day have a good work environment at home. “Some companies will therefore rent office spaces near to where their employees live,” anticipates JLL researcher Hela Hinrichs. 

However, that doesn’t mean central locations will lose out – quite the opposite. Hinrichs believes that “core office properties will be more attractive than ever, because only they support implementation of flexible office concepts that promote communication while at the same time meeting ESG requirements.” A modern corporate headquarters building of exceptional quality in a city centre combined with satellite offices could be the way forward for many companies, in her view.

Prime properties of this type therefore remain sought after in the present climate. “There will be continuing demand from investors for core properties across all sectors, and competition among buyers will lead to a further decline in prime yields,” says Marcus Lemli, Head of Investment Europe at real estate consultancy Savills. According to Savills, prime yields on downtown office properties in Europe fell by four basis points in the first quarter of 2021 to an average of 3.58 percent. Savills expects a further softening over the course of the year, to around 3.5 percent.


Nonetheless, office properties that are fit for the future are still attracting buyers. Union Investment, for example, recently acquired the First development project in the heart of Brussels (for its UII EuropeanM special fund) and the Terrano office building in downtown Munich (for UniInstitutional German Real Estate). Other investors are likewise showing a preference for core strategies, according to data analysed by Jan Linsin, Head of Research Germany at CBRE. Linsin sums up the consequences as follows: “Prices for prime office properties have remained resilient because investors are looking for stable, long-term cash flows.” By contrast, things could get challenging for owners of older office buildings in less favoured locations. “They will find rents coming under pressure,” predicts Hela Hinrichs of JLL.

Swiss consulting company Wüest Partner sees mixed prospects for the individual markets. It rated 30 locations, paying particular attention to identifying which cities have weathered the pandemic better than others.

Three major German office markets among the European top ten

The most attractive city for investment in the office property market turned out to be Berlin. “The German capital stands out due to comparatively low vacancies and good absorption of new space coming onto the market,” explains Karsten Jungk of Wüest Partner. Two more German cities feature in the top ten: Munich in second place and Frankfurt in ninth. The top group also includes Stockholm, Oslo and Amsterdam, which offer investors attractive yields of 3.2 to 3.3 percent, according to Wüest Partner. Cities in the south of the continent (Madrid, Athens, Rome, Sofia and Barcelona) came in at the bottom of the ranking. The EMEA Investor Intentions Survey 2021 published by CBRE also confirms that investors feel particularly confident about the German market. It found that investors expect transactions in Germany to recover more quickly than in most other European countries. 

Eri Mitsostergiou, Director of European Research at Savills, notes that prospects are also good in terms of the wider European market. Based on her assessment, investment activity in the European property market will revive further over the coming quarters. Demand continues to be strong for properties in very good locations let on long-term leases to creditworthy tenants, confirms Jan Eckert, Head of Capital Markets for Germany, Austria, Switzerland at JLL. He shares the conviction that investors still believe in office real estate.

By Christian Hunziker

Title image: Union Investment / Jürgen Müller

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