Tenants have upper hand
No tenant pre-commitment ... Barangaroo. Photo: Lee Besford
With no tenant pre-commitment announcements at Barangaroo, the start of a new commercial development supply cycle in Sydney is akin to ever-moving goalposts.
What will the vacancy rate be when the recovery of the commercial property market really begins? In our view, the current tenant-led market conditions will continue for another 12 to 24 months as volatility in the global economy stabilises.
Those Sydney tenants who adopt an informed corporate real estate strategy can leverage their lease covenants to realise markedly improved workplace solutions and lease conditions.
Tenants seeking to improve their workplace solutions and/or leverage an imminent lease event are in a prime position to negotiate substantially improved terms on lease renewals and options and capitalise on highly tenant-friendly lease incentives, which will fund high-performance workplace solutions.
Lessor incentives ranging from 23 per cent to 31 per cent are being secured by tenants in Sydney's central business district, while sitting tenants who wish to recommit to their office space should expect to secure incentives of up to 26 per cent to ''stay put''.
Not surprisingly, the transactions reported in the press by supply-side proponents underestimate the scale of incentive secured by well-represented tenants. The range of incentives addressed at lease negotiation stage for premium A-, B- and C-grade properties are on offer across all markets but are more readily available at the better end of the property scale.
These include negotiating a compelling rent structure, reducing bank guarantees, first right of refusal over expansion space, break clauses, rent-free/abatement periods, waiving make-good liabilities, structured or capped outgoings, a timed refurbishment clause (obligating the landlord to undertake works during the lease) such as re-carpeting/repainting at the mid-point of a lease and building incentives into the follow-on term or option. In some cases, lease tails on legacy properties can be novated to the new lessor.
Allowing occupancy for a period under licence before a lease takes effect allows the landlord to provide additional incentive, which is not part of the official reported leasing deal.
The jump in incentives available has largely been driven by the large institutional investors and banks demanding that space be filled, whatever the cost.
In our view, Sydney's vacancy rate has not peaked and could increase over the coming three years until the next development cycle begins and Barangaroo (comprising about 300,000 square metres) legitimately enters the market. With Sydney's commercial market in its final phase of softening and vacancy rates currently at 9.6 per cent, tenants' negotiating position is as strong as I can remember.
Simon Gunnis is the managing director of Project Control Group.