Office market update Q1 2023

UK office vacancy rate rises, but masks a two-tier market.

Vacancy rates across the UK are averaging 6.9%, amid weaker demand and rising net delivery. However, this headline figure camouflages a trend being seen across all major cities where prime office space is in high demand, and in some cases setting record rents, while occupier and investor demand for secondary stock is much weaker.

The net absorption of prime London offices has been positive all through the pandemic, while poorer quality stock has registered -10m sq ft of negative net absorption.

There are several factors underlying the focus on prime office space among occupiers. Key is the focus on securing appealing spaces and amenities to engage staff – encouraging them back into the office. These offices are also designated as places to welcome and build relationships with clients. In addition, ESG considerations are playing a role in decision-making as companies, and their clients and investors, are becoming increasingly aware of their own carbon footprint and operations.

New data released from the ONS, surveying characteristics of workers, shows that hybrid working is firmly entrenched across the country, with nearly 3 in 10 people on average working in a hybrid fashion across the UK.

It may be too soon to announce that this is the ‘new normal’ when it comes to working from home, especially as the UK moves into more challenging economic waters. Any rise in unemployment, in the services sector in particular, could create a looser labour market, encouraging more presenteeism in offices. As a result, the pendulum would swing further back to more office-based working, although it is fair to say that the days of regular 5-days a week, 9 to 5 in the office are over.

The demand for best-in-class office space, in the best locations, is being registered across all the UK’s major cities. In some cases this is accompanied by occupiers, with one eye on costs, shrinking their overall footprint. There are notable exceptions to this however, not least among legal firms. Linklaters expanded its footprint by 20% in the city of London last summer, and Bond Turner nearly doubled its footprint in Liverpool in February this year.

As companies readjust to changing working practises, looking for space with the best amenities and green credentials, secondary space is increasingly overlooked. This, coupled with strong pipeline delivery in the office sector, means that vacancy rates are likely to remain elevated for some time to come. 

Investment levels to build in 2023 amid re-pricing

After one of the strongest starts to the year in 2022 terms of investment, with several big-ticket sales in central London, UK office investment levels hit their lowest level in a decade in Q4 2022 as political upheaval and market volatility created economic uncertainty and a disconnect between vendors’ and purchasers’ expectations. An exception to this, however, was the sale of 101 Barbirolli Square in Manchester to La Française Real Estate Management at a reported net initial yield of 5.75%, underlining the continued appetite for investment in prime office assets from overseas investors. 

There are already signs that investment activity is picking up in Q1 2023 (although any level of activity in the market will be flattered by a comparison to Q4 2022) after significant re-pricing in many markets. Prime rents remain largely static in London – they are at the same level as before the pandemic – although landlords are increasing their offer for tenants especially in Grade A buildings, from rent-free periods to more flexible lease lengths. Across the UK however, prime office rents have climbed modestly since the start of the pandemic, up by 3%.

Yields have softened across the board, with average yields for prime central London offices at between 4.5% to 4.75% in Q1 2023, up 100 basis points from summer last year. In other cities, prime yields are closer to 5.75%.

Office: key investment deals

Property	City	Price (£m)	Yield (%)	Date	Purchaser
Holborn Gate	London	£160m	–	Q4 2022	Hoi Hup Realty Pte Ltd
101 Barbirolli Square	Manchester	£47m	5.75%	Q4 2022	La Française Real Estate Management
9 Colmore Row	Birmingham	£26.4m	6.7%	Q3 2022	Birmingham City Council
Merchant Exchange	Manchester	c.£7.3m	7.6%	Q4 2022	Private Family Trust

Key statistics:

Q4 2022 unless stated otherwise	Central London	Manchester	Key regional cities
	Current quarter (last quarter/5 yr av)	Current quarter (last quarter/5 yr av)	Current quarter (last quarter/5 yr av)
Occupier
Availability rate	10.3% (11.2%/9.4%)	10.6%(10.3%/10.2%)	9.6% (9.7%/8.8%)
Vacancy rate	8.5% (8.6%/6.6%)	7.9% (8.2%/6.8%)	6.8% (6.6%/5.6%)
Quarterly take up sq ft	2.3m (2.3m/2.6m)	0.4m (0.33m/0.57m)	1.2m (0.89m/1.6m)
Prime headline rent per sq ft Q1 2023	£125 psf (West End) £82.50 psf (City)	£40 psf	–
Average rent per sq ft	£59.60 (£59.30/£58.10)	£19.89 (£19.76/£18.44)	£19.72 (£19.31/£17.95)
Rental growth % annual	1.26% (-0.3%/-0.2%)	2.6% (3.0%/3.4%)	1.18% (0.8%/3.7%)
Supply
Completions sq ft	385,000 (449,000/583,000)	74,000 (0/182,000)	95,000 (89,000/400,000)
Total under construction sq ft	10.3m (9.7m/8.1m)	2.0m(1.4m/1.8m)	4.1m (3.6m/4.0m)
Investment
Sales volume qly	£266m (£1.6bn/£2.1bn)	£58m (£69m/£179m)	£121m (£140m/£499m)
Prime yield % Q1 2023 (Q4 2022 in brackets)	City: 4.75 % (4.5%-4.75%) West End: 4%-4.5% (3.75%)	5.75%	5.75%
Average yield %	3.7%	6.5%	–

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