Thursday, July 17, 2008

Malaysia's Buoyant Office Sector

Source : The Business Times, July 17, 2008

CHRISTOPHER BOYD examines demand and supply trends in the Klang Valley and sees a continued up-cycle for the foreseeable future

THE office sector in Malaysia's Klang Valley saw a number of significant events in the last 18 months, both in terms of rents as well as major sales.

Rising values: By the end of 2007, prices had crossed RM1,000 psf. This year sees the continuation of the positive trend with prices hitting RM1,200

Last year began with the anticipation that rents and values would rise because of the shortage of space for good Grade A buildings. However, it was not until late into the second half that the price of office space broke above RM700 per sq ft, with the sale of the Icon West Wing to Kuwaiti Finance House.

Occupancy has been gradually rising over the last three years as the 1997 freeze on new office buildings over 20 storeys worked its way into the market. Rents have risen as a result and values have been supported by funds in pursuit of good commercial building investments.

By the end of 2007, prices had crossed RM1,000 psf and in one exceptional transaction we saw the yield fall below 5 per cent.

While 2007 was the turning point, this year sees the continuation of the positive trend with rents breaching RM8 psf, prices hitting RM1,200, yields edging below 6 per cent, occupancies continuing to rise and land prices for commercial development crossing RM2,000 psf.

Interest from foreign institutional funds in this sub-sector has not abated and we expect more major transactions being announced this year for prime assets and development projects. This year will also see an increase in absorption rate as more buildings are ready, some of which are already pre-let. Most importantly, the office space market is not over-supplied, and the high occupancy rates and lack of large space in good buildings currently suggests a continued up-cycle for the foreseeable future.

We have also seen healthy growth of rents in the suburbs due to the pressure of traffic jams in the traditional parts of the city. The important major development and transport hub known as KL Sentral has already achieved rents of RM8 psf as a result, and this is likely to continue into 2009.

Likewise, two new buildings in Mid Valley comprising nearly one million sq ft are being completed this year and have leased very well.

What's available

As at December 2007, the total number of purpose-built office buildings in the Klang Valley stood at 261 and total space reached 66.5 million sq ft net, a sizeable market by regional standards.

Supply had grown very slowly since 2001 as a result of the freeze on building post-1997, with the additional space each year falling below two million sq ft with the exception of 2006. In KL, growth has been slow, at below one million sq ft a year except in 2006. This compares with an absorption rate of over three million sq ft per year in a good year.

Pre-letting has, for the first time, become a feature of the Kuala Lumpur office market. Of the 3.1 million sq ft of space being completed this year, 71 per cent is already let. Moreover, some 49 per cent of next year's expected supply of 2.4 million sq ft is already booked.

Companies such as Quill are emerging as specialists in the important build-to-let industry. Major companies need to plan carefully for their accommodation needs. Specialist developers, who can deliver a quality product on time, play an important role. Major funds such as the locally listed Reits are ever ready to add such buildings to their portfolios. And so the western model of build-let-sell is taking hold in Malaysia and will bring a greater degree of professionalism to the development industry.

Investment activity

The Kuala Lumpur office investment market has been buoyant since late 2006, growing significantly in 2007 and continuing its strong momentum into 2008. Total investment sales of office buildings located in Kuala Lumpur reached RM3.29 billion in 2007, a hefty 83 per cent increase from the RM1.8 billion worth of deals done in 2006. This January, a record RM2 billion worth of transactions were inked for three upcoming purpose-built office buildings, surpassing the transaction values reported in 2006.

The Malaysian office investment market has seen increased activity in the past 18 months. Interest from both local and foreign investors alike has been strong, largely as a result of the expectation of future rental and capital growth. The market, which used to be tightly held among a small number of domestic landlords, is becoming more institutional in nature and less tightly held. This trend has been driven by the development of the Malaysian listed market and the foreign investment community.

Current concerns

The effect of the sub-prime crisis originating in the US appears to be radiating outwards. In Malaysia, there is considerable uncertainty as to how or when the investment market will be affected. This is understandable when one recognises that the whole business of foreign investment in major Malaysian properties is relatively new.

Locally, liquidity is high. Reits are still active in the market. Much of the overseas buying interest comes from cash funds and regional and Middle Eastern interests and our experience is that buyers still outnumber sellers by a considerable margin.

However, now that it is an international market, it is not impervious to world crises. Undoubtedly, investors are going to take a closer look not only at initial yields but also at prospects of growth offered by specific opportunities. This means a more cautious approach for the year. It also spells a gradual sophistication of the investment market involving a closer and more exact evaluation of an investment in terms of building quality and future cash flows.

The writer is executive chairman, Regroup Associates Sdn Bhd

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