The current economic situation, although improving somewhat on last year, is still putting great pressure on commercial and retail property owners who are seeing significant pressure on commercial property values.

Statistics show that rentals are down and vacancies are up, which has major implications for rental growth, the main driver of optimistic valuations of commercial property.

Certain retail centres are feeling the pressure with consumers keeping their belts tightened, to the point that some retailers have shut shop or moved to cheaper premises – leaving rental vacancies that landlords can ill-afford.

As with the residential property market, the interest rate stimulus is starting to wear thin for commercial property whilst household debt is still high. This means reduced spending at shopping centres and fewer jobs being created which hampers industrial and office property.

Marc Edwards, managing director of Cape Town based Spire Property Management, says landlords need to make tenant retention in retail, commercial and industrial property their number one priority. “The biggest threat to property owners is that tenants will (as a result of higher market vacancies) be offered a better deal elsewhere and not renew their lease agreement as a result. This has a negative effect on property values given the likely vacancy a tenant’s departure will create,” he says.

“With a vacancy and having to source a new tenant, come the costs of increased commission payable to property brokers as well as high installation costs. An effective discussion with the existing tenants, listening to their wants and needs and accommodating those where possible is generally a far more cost effective and prudent approach,” says Edwards.

“Property operating costs need to be carefully monitored to ensure that the most competitive price is being paid for the best possible service. Property managers should ensure that service levels of soft service suppliers are carefully evaluated and managed to ensure the highest possible service level is provided to the tenant and their clients.”

Edwards advises that professional management teams need to maintain the value of the building on behalf of the owner by ensuring that the facilities are maintained regularly and that preventative maintenance is undertaken to address future problems.

“Slower economic times may actually prove the perfect time to undertake needed maintenance work to properties, as building and maintenance costs tend to reduce due to the lack of work for contractors and increased price competition in the sector as a result.”

“Most property owners are experiencing some strain from increased vacancies and lower rental collection due to increases in liquidations, unemployment factors and operating costs, and we anticipate this trend to continue for the next six to 12 months,” says Marna van der Walt, CEO of JHI property services company.

Meanwhile, Tony Bales of Bales & Associates comments that in the past one could generally rely on the property market flourishing when interest rates were in a downwards cycle. “However, just like many quantum changes during the last 24 months, the current market has re-written the ‘rules’.”

Interest rates are at historically very low levels, yet the property market (both residential and commercial) seems to be going sideways and in many cases edging downwards. “Why?” asks Bales.

The answer lies in “availability of cash”. Availability of cash from a tenant perspective is measured in terms of profit (and order books). Availability of cash for property investors is measured in terms of the level (and cost) at which banks will lend. As long as both these aspects are in negative territory there will be downward pressure on the commercial property market. The moment any one of these changes, so the market will change.

“So, keep a close eye on company profitability – even better, order books – as well as propensity for bank lending in order to make your move ahead of the flock of investment sheep,” Bales says.

Auction Alliance’s Norman Raad says the commercial property market has not shown the signs of a decline as did the residential property market. “However, good properties are being tightly held and very seldom sold at market-related value.”

Property remains a safe haven for investors, as long as the interest rates remain steady and at acceptable levels.

“We have certainly not seen property prices dip as expected, but having said that, commercial property prices have not gone up in the last 18 months. Pressure remains high on the upper-end of the industrial sector, as rental levels continue to reach levels far greater compared to similar properties in close proximity,” says Raad.

He notes that as corporates restructure and start adhering to strict budgeting codes, better investment decisions will be taken going forward. “Not long ago prime industrial areas were fully let and empty properties were impossible to find. However, even though properties in good areas remain exceptionally expensive, current trends indicate that the market is slowly opening up for the tenant.”

“There are opportunities out there and my suggestion is to follow the areas where rentals are low and there is room for growth,” advises Raad.

He believes that sound investment opportunities lie in B- and C-grade properties. “There is growth in these market segments, and these kinds of properties are set to become very sought after as investors inevitably look for better deals and ways of saving money. As the commercial office market, which comprises A-grade offices and areas, becomes too expensive, the likes of surrounding offices nodes will offer great opportunities for the tenant and thus demand for those properties will increase.”

He notes that good growth areas, such as Sunninghill and Rivonia, offer good investment potential: “Here, large vacancies will force property owners to offer attractive rentals in order to fill unoccupied space.”

Raad is of the opinion that, at the moment, older offices that can afford a facelift are a much better investment than new builds. “The demand is just not there to make new developments financially feasible.”

Raad says that surrounding commercial nodes can expect an increase in demand due to the high rentals expected in the neighbouring high-end areas: “The more exclusive areas, such as Sandton, Melrose and Rosebank for example, will start to feel the rising negative pressure. We have seen rentals decline by 30% to 40% in these areas, but selling prices have not come in line with the current status quo of the declining rental market – try and buy a property in any of these areas, and you will be asked to offer top dollar for the deal to be accepted.”

With regards to retail property, Raad hopes that this market is close to seeing the bottom of the cycle, especially since the small- to medium-sized centres were heavily affected in the economic slide of 2008 and 2009. “Investors should look at the opportunities where there are strong anchor tenants in the centres, which are attracting lots of feet. You shouldn’t rely on the line shops to carry you through the difficult times, as the economic climate remains tough and the small businesses will struggle far more than national tenants that enjoy favourable rentals and a large following.”

Raad says that Gauteng is the epicentre of smart and plentiful investors and that he has seen the clever buyers coming out and aggressively buying again. “Maybe not at the low yields of 7%, but they are buying. I believe that we can look forward to a better commercial property trading market as, relatively speaking, there are not enough good properties out there to satisfy the increased amount of buyers. This will keep our commercial property market relatively healthy in terms of secure investments.”

When asked whether the commercial property market is recovering, Andrew Bradford, director of commercial and industrial property consultancy Bradford McCormack, has a short answer: Yes, no and maybe. “There is no doubt that the market has fared better than the residential market over the last few years due to the stricter lending criteria our banks historically applied and the fact that investors in this sector are long-term players with ‘more skin in the game’.

“With larger equity contributions, investors in the commercial market are typically more risk averse and cautious and this sector of South African property has had fewer ‘buy to let’ opportunists looking for short-term gains. Sure, tenants may have defaulted or even declared bankruptcy and rentals are under pressure as landlords struggle to keep their tenants, but with appropriate debt-to-equity ratios and lower interest rates these property owners generally have the ability and resources to weather the storm,” says Bradford.

Is the market coming back? Bradford claims that it didn’t slip much in the first place. “Things have been slightly quieter, especially on the investment side, with cash-laden investors struggling to find quality assets”.

He adds that tenants wishing to move need a compelling reason to relocate knowing that their landlords will offer attractive rental rates upon renewal. “No landlord wants to lose a tenant in this market, which is favouring deals in existing buildings rather than above-market rentals in new developments”.

Year-on-year (y/y) rental growth is lower than previously anticipated as a result of an increase in vacancies and the ability of tenants to pay higher rentals. “Tenants and occupiers look for value which at present is found in existing buildings rather than new developments. One just has to look at the level of building plans passed to realise that developers are still struggling to make projects viable at current market rental rates,” says Bradford.

He says there are some interesting trends emerging in this market. “For some landlords and funds the focus has been on surviving rather than market advancement. They have done this by cutting costs, renegotiating supplier contracts, improving tenant relationships and increasing organisational efficiencies.

“For example, landlords are working with more transparency with their tenants when it comes to managing operating and energy costs,” he says.

“There are still a number of factors that will dictate whether the answer ‘yes, no and maybe’ can be converted to a definite “yes”. – Eugene Brink and Cape Business News

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