Once the new Government Office Accommodation Project building is completed, a number of commercial properties on Grand Cayman will be looking for new tenants.
Jeremy Hurst of IRG, a company that specialises in corporate leasing, said the effect on the commercial property sector may not be as significant as most people are predicting.
“The introduction of the space in the GOAP office building to the market will not cause the collapse of the local office market some predict and in fact may create some positive benefits,” he said.
The current situation
He offered some background to Cayman’s corporate leasing sector to put the market into perspective.
“We are coming out of an office space market with a severe undersupply especially in the Class-A market sector,” he said.
“Office vacancy rates before the recession were under 2 per cent with almost no Class-A – such as Cricket Square or the new Walkers building – space available,” said Mr. Hurst.
He noted that during 2008 and 2009 some new buildings were brought onto the market and during the same period most companies either contracted and or remained stable. Others were not able to get head office approvals to relocate to new premises. As such vacancy rates increased over the past two years to around 8 per cent.
“Even though this is significantly higher than before, it is actually a normal rate for most international markets and far lower than most cities in the US for example,” he said.
“Significantly, Class A space is still in very low supply with most vacancy being found in a limited number of the older Class B buildings – such as those with uncommon entry areas – especially those that have lost tenants to the new buildings.”
Mr. Hurst says the result is that over the past two years rental rates for Class A office space have remained relatively stable, while the same or slight rent decreases have applied to the better Class B buildings with low vacancy rates.
“Landlords with higher than normal vacancy rates have, however, offered their space at significantly lower rates although typically only for the first year or two of the lease,” he said.
“These landlords are offering additional incentives to attract tenants such as rent free periods or higher than normal fit out allowances, which is naturally preferable to leaving their space vacant.”
Now, some of this vacant space has started to be taken up.
“Encouragingly, we are starting to see a trickle of new companies relocating to and setting up office in Cayman, which, although nowhere near pre recession levels, is a significant increase over the past 18 months,” said Mr. Hurst.
“2010 therefore promises to be a year of gradual recovery in the office space market and vacancy rates will likely even fall slightly.”
Impact of the Government Office Accommodation Project
Mr. Hurst notes that overall, the country as a whole should benefit from the construction of the new GOAP building, as it is being built to hurricane shelter standard, which will mean Government can remain fully operational in the event of a serious storm.
“I expect departments moving into the new Government building will happen in stages throughout 2011,” said Billy Culbert of Rainbow Realty.
“The new building is high tech and will take a lot of coordination to fit out and prepare for occupancy. For the most part the Government will be moving out of second class office space in last generation buildings.”
He said that in the interim, those landlords affected will be offering the Government space to their other tenants for 2011 expansion in these buildings.
“Or, they may be willing to upgrade the office space and building infrastructure to attract the higher end of private industry that now demands building features specifically designed for high energy efficiency, building security, storm protection and disaster recovery,” he said.
Mr. Hurst says that by the time the building is move-in ready, the office space market will have corrected itself slightly and vacancies will be lower.
“Most of the tenants moving to the Government Building will be moving from Class B+ buildings and so vacancy will increase to a greater degree in this sector,” said Mr. Hurst.
“Class A rent rates should therefore remain relatively stable and could possibly even increase as new Class A buildings are pre-let, especially bearing in mind that any new Class A building that breaks ground in 2010 will unlikely be ready until the second half of 2011 at the earliest,” he continued.
“Class B office landlords will however likely continue to offer attractive incentives to tenants especially those in properties with higher than normal vacancy rates.”
Mr. Hurst predicts that, assuming a relatively slow absorption of space over the next two years, vacancy rates are unlikely to increase to levels that much out of line with the average for global office markets, even though they have been higher than those we’ve experienced in the recent past.
Opportunities for deals
Once the spaces open up, Mr. Hurst predicts there will be some good deals on offer, especially to tenants looking to relocate to good quality Class B office space.
“Tenants may be encouraged to move by a combination of attractive rates, landlord incentives and the fact that they will be able limit their cost of fit out by taking over offices already fitted and comparatively ready to move into,” he said.“This could save them between US$150 and US$200 per square foot compared to the cost of fitting out new shell space.”
Even so, he realises certain sectors of the market will still prefer to move to new Class A space, and he says it is likely one or two new buildings will break ground during the latter part of 2010.
He says increased competition will encourage Cayman landlords to improve the quality of their older buildings by upgrading their hurricane resiliency – installing backup generators or retrofitting with impact rated windows for example, or renovating common areas.
“Improvements such as these will generally enhance the quality of Cayman’s office stock and make our office space market even more attractive to corporations considering Cayman as a possible jurisdiction in which to set up their offices,” he said.
He said another, perhaps not so obvious benefit to the business community and country, will be the economies of scale and cost savings that should be achievable by centralising many of Government’s departments under one roof.
Mr. Culbert says many companies have put their office needs on hold until the economy shows a measure of growth and confidence.
“But now it’s 2010 and all that can change quickly,” he said.
“When you consider the significant capital cost of office expansion or a complete relocation, tenants want to make sure the space committed will handle future growth for the next five to 10 years.”
That means finding the ideal office space with guaranteed expansion can already be challenging, particularly for larger (major) tenants. But, he says sophisticated landlords of new buildings will often programme a number of shorter term tenancies to allow their major tenant room to grow.
“This year there will be an opportunity for savvy midsized tenants to lock in future leases of well priced and fitted out second generation office space,” he said.
“However this will be short lived, even with the Government space coming available, because there is already a very low vacancy rate of first class space available in George Town for 2010.
Remember most first class office buildings take 18 months to build so we are looking well into 2011 for any new buildings to be ready to occupy.”
On the demand side, Mr. Culbert said one should have faith that Cayman will re-invent itself and with Government cooperation the financial industry will take a stronger physical presence in Cayman.
“We must believe that private equity will replace hedge and specialized tourism will enhance the draw of a now generic dive industry and that the management and administration of our large infrastructure projects will also create a significant number of white collar jobs,” he said.
“These will all create demand for commercial space both downtown and peripheral.”
He thought it fair to say that 2010 will be a turnaround year for commercial real estate.
“And while the cost of debt service for landlords is low and competition healthy, there is a limited window or buyers market for tenants to secure the best deals on their office space for the next decade.”