Beijing Commercial Real Estate Update

Tuesday, July 14, 2009 5:08
Posted in category Invest in China

- by Zhou Ji Ming

Life among Beijing’s commercial office landlords these days is tough at the moment. With vacancy rates expected to climb above 25% during Q3 and average rents falling to below RMB 200 per square meter per month, landlords are facing potentially the toughest situation any landlords have faced since office rents in Shanghai took the dive in the late 1990’s. Lets have a look at some of the factors which are exacerbating the situation:

First, demand is not high at the moment. Over the past several years in Beijing, what industry experts call ‘take-up’ (how much space is actually leased by tenants) is around 600,000 square meters. This year it is expected to fall but only slightly. But the hidden danger exists with those tenants who leased large space (2,000 sqm plus) within the past 2 years. The smart ones are going back to their landlords now and renegotiating lower rents, which landlords must take seriously. There is no reliable measure of how many tenants are in this upper-hand position currently.

Second, supply continues to expand at a rapid pace. From 2001 until now absorption (how much space is leased to tenants) falls somewhere in the 500,000 square meter range, too. But according to the chart below, this year Beijing will see more than 900,000 square meters of new office stock. Several of these projects are already completed while Parkview Green, CWTC III are largely completed but with quite low occupancy rates, if judged from simply looking in from the ground level on the site.

PROPERTY ( Sqm.)
World Financial Centre, Beijing (156,000)
China World Trade Centre III (120,000)
China Overseas International Plaza (100,000)
International Financial Centre East Towers (93,220)
Parkview Green(88,000)
Phoenix City Office Tower 1 (30,000)
Central Point (90,000)
Chaoyang Plaza (124,020)
Raffles City (83,000)
Pangu Plaza (89,000)
Total GFA 973,240

Another specific example of what has occurred in certain buildings is the anemic leasing effort at Guanghua International, located within the Central Business District. Seven months ago the three-building complex was lacking even 1 commercial tenant. Today they have 4 tenants; actually 2 office fit-outs and 2 lonely retail tenants (Costa Coffee and Societe General retail branch).

East Ocean TowerSan Li Tun

In terms of performance, a clear distinction can be drawn between those properties built and occupied prior to 2008 and those that have arrived on the market in the past 12 months. What remains significant is not on only the number of new commercial office and retail complexes arriving onto the market in 2009, but rough an equivalent amount being released in 2010, which is said to be an additional 900,000 square meters of space.

The critical issue for owners is the declining valuations in their overall portfolios, which restricts their ability to borrow thereby placing additional financial pressure on existing development projects.

But times are not dire for everyone.

Seasoned properties such as China World, Kerry Center and Oriental Plaza are said to be maintaining high occupancy rates through a combination of efforts aimed at keeping existing tenants inside the property. According to industry sources, sometimes landlords in a falling market are willing to renegotiate leases, but for the landlords in the properties mentioned above, they may be able to dodge that bullet.

Unfortunately for those landlords with no tenants, this strategy holds no value. And with an additional 1.5 million sqm or more of office space scheduled to reach the market in 2010, thanks to the opening of the new CCTV Big Pants Building, there does not really seem to be any hope of this situation changing any time soon.

East Ocean TowerSan Li Tun

Conclusions:
This condition will definitely have an effect on the introduction of REITS into China’s public debt markets. REITS rely strictly on cash flows provided by the underlying properties and the reliability of those flows must be certain. Introducing innovations into China’s capital markets has over the past decade come in a deliberate and serious way. Both as matters of business and reputation, the authorities deliberating the introduction of REITS must have cause for concern when the reliability and stability of the cash flows face uncertain times. Ultimately, I expect that in-depth due diligence by the listing authorities will reveal any underlying risk in properties that may be considered for inclusion into the portfolio that eventually lists.
Next week I will look at publicly owned real estate in China.

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