Commercial Quarterly Examiner – office market update Q4 2024

Office markets across the UK are being shaped by working from home and the push for net zero.

Despite directives from head offices mandating five day a week attendance for investment bankers, a hybrid approach to the working week has evolved across most other business sectors. Typically, an employee may
be required to clock in at the office around three times a week.

Demand for ESG-friendly offices requires a workplace that is sustainable, socially responsible, and well-governed.
Post Covid, these two dynamics have been driving many businesses to reduce their office footprint and consolidate in better quality space. This has lessened the demand for sub-prime stock.

Central London offices – occupational view

Average rents remain under downward pressure. Availability is increasing and take-up falling. Consequently, vacancy rates remain elevated and average rental levels have been falling post Covid. At the very top-end of the market rents are stable.

Office development activity is focused on the ‘Square Mile’. The City of London accounted for almost 50% of all construction in the fourth quarter. Westminster has tighter planning regulations and West End development represents just 20% of total Central London activity.

Occupiers demanding modern ESG friendly space have been attracted by the modern buildings coming out of the ground in the City. In Q4 the City supplied 56% of all offices let and 45% in the calendar year.

The more plentiful supply of this key product in the City means that headline rents are £85 psf, whilst in the West End they are at £137 psf. The emergence of Cat A+ offices has enabled landlords to demand a premium rent for a turn-key product that has been fully fitted out with desks, meeting rooms and IT. These premium rents may be disguising some of the falls in average rents for mid-tier stock.

Nearly half of all office space let in 2024 in central London was in the City, with occupiers attracted by the modern buildings coming out of the ground.

Central London offices – Investment view

Across Central London the investment market for offices has been improving since the second half of 2023. But no sub-markets, even the best performing West End, are yet sharing year-on-year capital growth in this cycle.
Institutions and Sovereign Wealth Funds which dominate the market for £100m+ assets remain reluctant to call the bottom of the market and are probably more focused on the current geo-political uncertainties and interest rate contortions.

However, there is evidence that smaller and more nimble PropCos are increasingly interested in assets priced in the tens of millions offering a value-add opportunity for permitted changes of use away from offices. Examples include,
hotel operator, JMK, acquiring St. Clements House, EC4, and Criterion Capital securing 1 Princes Street, EC2, again for a hotel conversion. Investors will also consider conversions to residential and even student accommodation.

With capital values still falling, buildings will eventually become viable for retro-fitting to meet current occupier requirements and trends, including demand for CatA+ premises.

The weaker pound may now encourage more overseas investors back into the market.

Globally, funds’ appetite for core strategies is regaining traction but riskier value-added strategies still dominate. Within Europe, the UK remains the destination of choice for real estate asset allocators. But demand is for Residential and Industrial/Logistics assets not offices.

Rest of UK offices – Occupational view

A similar picture of increasing availability and falling take-up is evident in the South East and Rest of UK office markets. Vacancy rates across all the “Big 6” regional office markets are 10% and range from 8% in Leeds and Edinburgh to 12% in Manchester. In the South East, office vacancy rates in Oxford and Cambridge are also 10%.

The Manchester office market has experienced an increase in leasing activity recently, with several large deals for new space being agreed. This includes the Bank of New York Mellon, which signed the largest UK regional office
letting in three years in August by leasing the entire 200,000 square feet at Noma’s 4 Angel Square. The strong uptake of new buildings has been balanced by tenants moving out of poorer quality and lesser rated buildings.

Prime rents in the UK’s “Big 6” grew by an average 2.5% in 2024 led by Bristol where market indices show rental growth of more than 4% in the year to December. Sub-prime assets have continued to see rents falling post Covid.

In 2024 net development completions, meaning more new space is being supplied than demolished, have been positive in the South East but neutral in the rest of the UK office market. Away from the major regional centres development activity is very limited.

Rest of UK offices – Investment view

Mirroring the property cycle in London, the investment market for regional offices has been slowly recovering since reaching very low volumes at the end of 2023. Nevertheless, market indices show that the average total
return performance across all “Big 6” centres remained negative in 2024. The standout exception was Edinburgh where total returns amounted to 5.4% but capital growth was barely positive.

Investment yields for offices may see them stabilising across the board during 2025, whilst prime yields have largely achieved this.

The sale by RER London of Surrey County Hall in Kingston to London Square, a specialist residential developer focused on Greater London, illustrates one of the trends currently at work in the South East’s office market.

Over the last five years Manchester has been the recipient of 30% of inward office real estate investment into regional “Big 6” offices. However, in 2024 Bristol became the target for 28% of investment volumes.

EQ Bristol on Victoria Street completed in 2023 is the city’s first development committed to Net Zero and offers 200,000 sf with Restaurants, Bars, Café’s and a Fitness Studio together with cycle parking. Headline rents of £48 psf are the highest across all the UK’s leading regional markets. It is currently under offer to self-described contrarian, value-oriented UK investor, Melford Capital. The price is estimated to be around £100m which would represent the largest regional office sale of 2024.