'Flight to quality': The demand for CBD offices
No. 181 William Street, Melbourne, was refurbished to include a new lobby with a cafe.

'Flight to quality': The demand for CBD offices

While office vacancy rates are up in some cities, there are positive signs for the future of our CBDs.

Melbourne’s vacancy rate rose to 13.8 from 12.9 per cent six months ago and Sydney’s to 11.3 up from 10.1 per cent, according to February data from the Property Council of Australia (PCA). However, in other capitals vacancy rates fell slightly – in Brisbane from 13.9 to 12.9 per cent, Perth from 15.8 to 15.6 per cent and Hobart from 2.7 to 2.5 per cent.

The data reflects a healthy amount of supply rather than a lack of demand for CBD office space, says PCA chief executive Mike Zorbas.

“Organisations see that an office presence in our cities is an essential part of doing business,” he says. “While new supply has increased total vacant space in some areas, these latest numbers are a vote of confidence in our CBDs.”

However, data analysts at commercial tenant services company Tenant CS expect vacancy rates to shoot up this year as the national market continues to recover from working-from-home arrangements forged during the worst of the COVID-19 pandemic.

“Despite some recovery, let’s be honest, Mondays and Fridays still struggle [and] daily occupancy has fallen well below pre-pandemic levels,” says Matthew Pollak, Melbourne director at Tenant CS.

“This indicates that there’s a lot of under-utilised office space out there that businesses will eventually look to shed.”

Domain Neighbourhood Sydney CBD
Experts are seeing a shift towards better value spaces. Photo: Steven Woodburn

The lure of amenities, lower leasing costs and better locations at new or freshly refurbished buildings are driving more tenants to move, Pollak says. This, along with downsizing workforces across the banking and technology industries, is putting the market in a tenuous position.

“Businesses are relocating to smaller, high- quality spaces, crushing demand for lower-grade buildings,” he says. “What is clear is that fewer tenants are assumed to be renewing their leases because relocation for financial and cultural benefits is worth exploring.

“For these reasons, there’s every chance the market could get worse before it gets better, particularly for lower-grade assets, which will be left behind in the flight to quality.”

This shift for better value is a pronounced pattern in the market, says Chas Keogh, national director and joint head of department at Cushman and Wakefield.

“I think what we’re seeing now is that vacancy will stay higher on poorer assets where landlords haven’t spent money,” he says. “Newer, higher-quality assets or higher-quality assets where landlords have spent money, will see vacancy diminish.”

In Melbourne, where Keogh says the market is coming off a strong development pipeline between 2018 and 2020, the demand for quality offices will see a split among tenants.

“It will cause Melbourne to diverge, whereby the good assets will secure better tenants who are willing to pay more, and poorer assets will really struggle to secure tenants,” he says. “Naturally, tenants are reducing their footprints so they can go to better-quality spaces and get people back to work.”

Neighbourhoods Melbourne CBD
Amenities, lower costs and better locations are driving tenants to move. Photo: Greg Briggs

Refurbishments by landlord The GPT Group at 181 Williams Street, on the corner of Bourke Street in Melbourne, have included a new lobby, lobby cafe and concierge. Insurance giant CGU is the major tenant in the building, which has a 5.5-star NABERS base building energy rating.

Like Melbourne, there’s a flight to quality offices in greater Sydney. But that’s where the similarities end, says Aaron Weir, co-founder and director at commercial property group Resonate Partners, who points to a future undersupply.

“If you look at Sydney CBD, you’ve got the over-station development around the metro lines and there are about 140,000 square metres of supply that will be finished, say, by the end of next year and half of that is already pre-committed,” he says.

“There’s another approximately 250,000 square metres of what I’d say is under construction but the significant elements of that aren’t going to be delivered until ’27 or ’28 and a third of that is already pre-committed. All up, there are about 400,000 square metres of new supply.

“I think demand will outstrip what we’re building. I don’t think we’re building enough.”

Many tenants will be more confident about locking in lease renewals this year as employers get a better handle on the size and needs of their workforces. This will apply fresh pressure to the market, Weir says.

“This year and next year we will start to see tenants making decisions, not deferring decisions,” he says.

“We’ve seen a kind of deferral of big [commercial real estate] decisions, people sitting on the fence a bit and trying to figure out, Are people coming back? How do they want to work? Where do they want to work?

“We expect that we’ll see an uptick in requirements hitting the market. It’s already starting to happen. It was almost like we hit February and out came the briefs and the phone started to ring again. It was quite noticeable.”