ADELAIDE RESEARCH OFFICE MARKET OVERVIEW AUGUST 2017 HIGHLIGHTS

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1 ADELAIDE OFFICE MARKET OVERVIEW AUGUST HIGHLIGHTS Average Prime incentives in the CBD Core now average 36.3% and typically range between 35% to 4%, compared with 3% to 35% in the second half of 216. Offshore purchasers are having an increasingly larger role within the Adelaide market, accounting for all prime grade transactions that have settled in the year to date. Owners of secondary buildings face growing impetus to reposition their assets through refurbishment and upgrades in order to maintain relevance in the leasing market.

2 KEY FINDINGS CBD prime yields firmed by basis points from an average of 7.23% to 7.13%, while secondary yields remained unchanged at 8.5% Year to date investment volumes stand at approximately $24 million, headlined by the sale of 45 Pirie Street and the MAC Portfolio. Sales volumes totalled $545.3 million at the same last year. Average prime incentives in the CBD Core increased from 34.8% to 36.3% over the previous six months and now typically range between 35% to 4%. Tenant s flight to quality has placed pressure on secondary buildings, highlighted by prime net absorption of 6,138m² and secondary net absorption of -1,514m² in the six months to July. HENRY MATHEWS Research SA SUPPLY & DEVELOPMENT New office supply is anticipated to be minimal until late 219, providing the opportunity for the market to absorb existing stock. Gross supply for the Adelaide CBD totalled just 5,227m² in the six months to July, approximately 62% below the 25 year average. The next significant source of supply will be in Q3 219, with the expected completion of Charter Hall s 21 level GPO Exchange development (25,m²) located at 2- Franklin Street. Construction is expected to commence in Q3 this year following a 49% tenant pre-commitment from the SA Attorney General s Department. The development will provide floor plates of circa 1,48m², incorporating the existing heritage component on the lower levels. With the exception of 2- Franklin Street, there are no other significant office developments or refurbishments under construction in the Adelaide CBD as the market absorbs existing stock and attempts to reign in the vacancy level. Smaller office supply will arise from Uniting Communities 19 storey mixed use development located on Pitt Street, offering retail, office (6,6m²), retirement living and disability respite accommodation. Construction is expected to be completed in Q3 218, with 66% of the office space to be owner occupied by Uniting Communities and the remainder (4,35m²) seeking tenant commitment. Additionally, 74 Pirie Street (1,5m²), a 7 storey building being refurbished by Maras Group is expected to commence construction shortly and be completed by circa Q The four level 17 Frome Street (3,9m²) completed in December 216, is marketing some 2,5m² following the initial 38% pre-commitment from accounting group Grant Thornton. Elsewhere, the 23 level speculatively built 115 King William Street (6,775m²), which was completed in October 216, is being offered to tenants as co-working space and is also seeking tenants to fill remaining vacancies. Future projects include the new head quarters for hospitality training school Le Cordon Bleu at 2 North Terrace, which has recently been revived. This is proposed to be a 19 storey mixed use tower (26,m²) above the existing heritage listed building. Walker Corporation s Festival Plaza development (4,m²) has no firm starting date. FIGURE 1 Adelaide Gross Supply Additions CBD Office ( s m²) Update Jul-2 Jan-2 Jul-19 Jan-19 Jul-18 Jan-18 Jan-17 Jan-16 Jan-15 Jan-14 Jan-13 Jan-12 Jan-11 Jan- Jan-9 Jan-8 CBD GROSS SUPPLY 6 MONTHS TO... ('m²) 25 YEAR AVERAGE /PCA Projection TABLE 1 Grade Market Total Stock (m²) Vacancy Rate (%) Annual Net Absorption Annual Net Additions Average Gross Face Rent ($/ Average Incentive Average Core Market Yield Prime CBD 594, ,195 3, Fringe 39, , Secondary CBD 829, , Fringe 176, ,35-1, Total Precinct CBD 1,424, ,16 21,511 Fringe 215,85.1 2, Total Market Adelaide 1,64, ,61 21,952 /PCA NB. CBD includes the Core & the Frame precincts 2

3 ADELAIDE OFFICE MARKET AUGUST MAJOR OFFICE SUPPLY King William Street - 6,775m² Local Private Developer - October % committed 17 Frome Street - 3,9m² [Grant Thornton] Emmett Properties - December % committed Pirie Street # - 1,5m² Maras Group - Q Pitt Street* - 6,6m² Uniting Communities - Q % owner occupied GPO Exchange, 2- Franklin Street - 25,m² [SA Govt] Charter Hall - Q % committed Festival Plaza / Riverbank Precinct - 4,m² Walker Corp / SA Government North Terrace - 26,m² [Le Cordon Bleu] Commercial & General - H N/A Echelon, 322 King William Street^ - 12,482m² Karidis - 22 Gawler Chambers, North Terrace - 5,5m² Adelaide Development Company Riverbank Precinct Wakefield Street - 16,5m² Kyren Group Franklin Street - 21,m² Kyren Group Pirie Street - 6,m² Palumbo Wyatt Street - 4,18m² Private Worldpark (Stage B & C) - Richmond Road, Keswick - 22,6m² Axiom Source of Map: Property Council Worldpark, Keswick 14 Under Construction / Complete DA Approved / Confirmed Mooted / Early Feasibility NB. Dates are Knight Frank Research estimates Major tenant pre-commitment in [brackets] next to NLA # Refurbishment * Mixed use development comprising retirement living, respite accommodation, retail and office 15 ^ Mixed use development comprising residential, hotel, retail and office 3

4 TENANT DEMAND & RENTS Vacancy The headline vacancy rate in the Adelaide CBD was largely unchanged in the six months to July, decreasing from 16.2% to 16.1% and remaining above the year average of 9.9%. In the six months to July, Prime CBD vacancy decreased from 14.9% to 13.8% (see Table 2), with a decrease in total vacant prime stock from 88,39m² to 82,252m². Over the same six month period, vacancy in CBD secondary grade space increased from 17.2% to 17.8%, an increase in total vacant stock from 142,469m² to 147,543m². With the Adelaide market particularly reliant on the movement of existing tenants, the attractive incentives on offer and efficiency gains from higher quality space has seen a multitude of tenants upgrade from secondary to prime space. The Adelaide CBD contains a notable proportion of ageing C and D grade office space, accounting for 3.6% of total stock. This is coupled with one of the lowest proportions of Premium and A grade stock in Australia, accounting for 41.8%. While high vacancy in secondary stock has been a factor for some time, there is a growing impetus for landlords to refurbish to remain competitive, illustrated by the divergence in vacancy rates shown in Figure 2. Much of Adelaide s C and D grade stock is held privately and has seen minimal capital upgrades from owners conscious of the bottom line and in a more difficult position to access funding for upgrades. Further complicating this is the lack of conversion demand more readily seen in markets such as Sydney and Melbourne to reposition assets for residential and hotel use. The lower cost of development sites and construction in Adelaide limits feasibility, leaving some buildings both unattractive to potential office tenants and for conversion. Net Absorption The Adelaide CBD recorded positive net absorption of 4,624m² in the six months to July and 6,16m² over the previous 12 month period. Highlighting the flight to quality occurring within the market, prime stock recorded absorption of 6,138m² over the previous six months, while secondary stock experienced negative net absorption of -1,514m². The South Australian economy has seen positives arising from high retail sales, a strengthening tourism industry and an increase in defence spending as a result of the $5 billion Federal Government submarine contract. Despite these positives, the South Australian unemployment rate stands at 6.2% as at July, one of the highest in the nation, and the state continues to face challenges in regards to sluggish FIGURE 3 Adelaide CBD Net Absorption ( m² LHS) vs Total Vacancy Rate (% RHS) population growth and rising electricity costs. White collar employment growth in the CBD has continued to remain slow after recording an increase of.7% over the previous financial year. By sector, increases in Administrative and Support Services and Health Care and Social Assistance were offset by decreases in Public Administration and Safety and Professional, Scientific and Technical Services. White collar employment is forecast to increase marginally over the next financial year with the expectation of annual growth of approximately 1.1% in 218/19, maintaining a similar level over the subsequent 2-3 year period. /PCA NET ABSORPTION 6 MTHS TO ('m²) LHS CBD TOTAL VACANCY - RHS (%) FIGURE 2 Adelaide CBD Vacancy Rates Prime vs. Secondary Grade (%) 2.% 18.% 16.% 14.% 12.%.% 8.% 6.% 4.% 2.%.% PRIME PRIME YR AVERAGE /PCA SECONDARY SECONDARY YR AVERAGE TABLE 2 Adelaide CBD Vacancy Rates (%) Grade Jul 216 Jan /PCA Jul Premium A Grade Prime B Grade C Grade D Grade Secondary Total TABLE 3 Adelaide Fringe Vacancy Rates (%) Grade Jul 216 Jan Premium - - /PCA Jul A Grade Prime B Grade C Grade D Grade Secondary Total

5 ADELAIDE OFFICE MARKET AUGUST Tenant Demand Noteworthy tenant requirements in the market include the SA State Government, BHP and Suncorp. The SA State Government s requirement was for office accommodation in the Adelaide CBD Core or Frame and closed on the 3th of June. This was a call to seek either new or refurbished space, with one requirement for approximately 9,m² - 12,m² from late 219, and the second for between 13,m² - 16,m² from late 22. It s understood the SA State Government, BHP and Suncorp s options are currently in deliberation. Major tenant movements over the previous six months include Great Southern Rail relocating from a Fringe location to 233 North Terrace, taking up 1,234m² for a 5 year term. First Mortgage Services has also relocated, shifting from the Frame to a Core location after committing to a 5 year term at 115 Grenfell Street. Looking forward, the most significant prime tenant movement is the SA Attorney General s Department, following their pre-commitment to the GPO Exchange Development for years. The SA Attorney General s Department recently agreed to a 5 year extension on their current lease at 45 Pirie Street, resulting in a lease tail of approximately two years once they have relocated to the GPO development. Rental Levels Increases in incentives and unchanged or reduced gross face rents has resulted in a further reduction in effective rents in the CBD (Figure 4 and 5). Average prime CBD gross face rents remained unchanged at $53/m² in the six months to July, while incentives increased from 32.5% to 34.9%. As a result, gross effective rents decreased from $339/m² to $328/m². Notably, incentives in the Core now average 36.3% and typically range between 35% to 4%, compared with 3% to 35% in the second half of 216. In the secondary market, the impact of the flight to quality has seen average gross face rents decrease from $381/m² FIGURE 4 Adelaide CBD Gross Effective Rent Growth Prime vs. Secondary Grade (%) p.a. 2.% 15.%.% 5.%.% -5.% -.% PRIME SECONDARY to $371/m² and incentives increase from 33.3% to 34.1% over the previous six months. As a result, gross effective rents decreased from $254/m² to $245/m². The reduction in face rents in the secondary market is a result of both strong competition among landlords and building ownership being largely privately owned. The prevalence of private ownership results in reduced capacity to pay out up front capital incentives, instead decreasing face rents to remain attractive to tenants. In the Fringe, prime and secondary gross face rents were unchanged at $442/m² and $345/m² respectively. Incentives were also unchanged, standing at approximately 2% for both grades. FIGURE 5 Adelaide CBD Prime Incentives vs. Gross Effective Rents 27 - ($/m² LHS, % RHS) PRIME EFFECTIVE RENT - LHS ($/m²) PRIME INCENTIVE - RHS (%) TABLE 4 Recent Leasing Activity Adelaide CBD and Fringe Address Precinct NLA (m²) Face Rent ($/m²) Term (Yrs) Incentive (%)* Tenant Start Date 115 Grenfell Street Core 1,297 45g 5 # First Mortgage Services Nov-17 1 Richmond Road Fringe 2,337 45g 8 # SA Power Networks Nov North Terrace Core 1, g 5 27 Great Southern Rail Oct-17 6 Light Square Frame g 5 # UniSA Sep Pirie Street Core 15, 545g 5 # SA Govt (AGD) Sep-17 8 North Terrace Core 2,8 48g 5 35 Optus 75 Hindmarsh Square Core g 8 Nat. Rail Safety Regulator 169 Pirie Street Frame 38 44g 7 # Nat. Heavy Vehicle Regulator 121 King William Street Core g 4 Colliers International May-17 *estimated incentive calculated on a straight line basis g Gross # Undisclosed AGD refers SA Attorney General s Department 5

6 INVESTMENT ACTIVITY & YIELDS Sales activity in has seen offshore purchasers playing an increasingly larger role within the Adelaide market, accounting for all prime grade transactions that have settled in the year to date. CBD sales currently stand at $24 million (for assets greater than $ million), down from $545.3 million at the same time last year and expected to be below the total of $1.18 billion recorded in 216. Unsurprisingly, Adelaide s record transaction volumes came approximately one year after the eastern seaboard and this is expected to be a FIGURE 6 Adelaide CBD Sales $ million+ By Purchaser Type ($m) $1,4 $1,2 $1, $8 $6 $4 $2 $ AREIT OFFSHORE 29 2 PRIVATE INVESTOR DEVELOPER 216 OWNER OCCUPIER UNLISTED/SYNDICATE YTD historical peak for transaction volumes. The first significant transaction of was the sale of 45 Pirie Street by CorVal to Singapore based AEP Investment Management in August. The building transacted for $5 million and reflected a WALE of approximately 4. years (income) and a core market yield of 7.8%, influenced by major tenant the SA Attorney General s Department (76% NLA) relocating to the GPO Development. The sale included an additional 952m² site fronting Gawler Place used for car FIGURE 7 Adelaide CBD vs East Coast Yields Prime Core Market Yields 9.% 8.5% 8.% 7.5% 7.% 6.5% 6.% 5.5% 5.% 4.5% 4.% SYDNEY MELBOURNE BRISBANE ADELAIDE parking but offering future development potential. Also in August, US based Blackstone purchased the SA Motor Accident Commission s national property portfolio containing a mixture of office and industrial assets. The portfolio included the Adelaide based 121 King William Street and 99 Gawler Place, which transacted for $58.4 million and $34.6 million respectively. Other assets to transact included the leasehold interest in the mixed use 141 Rundle Mall (Citi Centre) for circa $42. million. The 8 storey office tower component is fully leased to SA Health and the sale reflected a core market yield of.% and a WALE of 4. years. In the lead up to the end of the financial year, the second reduction in Stamp Duty that occurred on 1 July saw some sales campaigns temporarily put on hold as purchasers waited to take advantage of the savings on offer. Despite causing a brief interval in sales activity, this initiative has been a positive point of difference for South Australia. TABLE 5 Recent Sales Activity Adelaide Address Price ($ mil) Core Mkt Yield (%) NLA (M²) NLA ($/m²) WALE (yrs) Vendor Purchaser Sale Date 45 Pirie Street ,854 7, CorVal^ AEP Aug King William Street ± 58.4 # 12,558 4,65 # SA Government (MAC) Blackstone Aug Gawler Place ± 34.6 # 11,158 3,1 # SA Government (MAC) Blackstone Aug-17 Citi Centre, 141 Rundle Mall < c42. c. 16,375 2,534 c4. Private Private Aug Fullarton Road* ,326 4, Private Private Jan Grenfell Street ,544 4, GDI Funds Management Credit Suisse Dec King William Street (5%) ,399 5, Abacus Property Group ICAM Dec King William Street ,115 1, Charter Hall CPOF Private Dec North Terrace ,2 5, Australian Fashion Labels Private Dec-16 ^ as responsible entity for the Value Active Fund AEP refers AEP Investment Management ± Part of a national portfolio # Undisclosed c Circa MAC refers Motor Accident Commission < leasehold interest * Fringe ICAM refers Inheritance Capital Asset Management CPOF refers Charter Hall Prime Office Fund 6

7 ADELAIDE OFFICE MARKET AUGUST Prime CBD yields compressed by basis points in the six months to July, decreasing from 7.23% to 7.13%. This is 26 basis points lower than the same time last year. Prime yields remain approximately 2 basis points softer than that of Sydney, and Melbourne (see Figure 7), enhancing Adelaide s value proposition and reputation as a more affordable investment opportunity. Adelaide provides the opportunity for a reduction in portfolio risk due to reduced volatility and low correlation with rental growth and vacancy to that of Melbourne and Sydney. In the CBD secondary market, yields did not indicate any firming, remaining at an average of 8.5%. As they stand, secondary yields are 18 basis points lower than the same time last year. The secondary market did not follow trend with the prime market over the previous six months due to the heightened prevalence of tenant s flight to quality, which has placed pressure on secondary buildings. This has resulted in the necessity to price in increased let up periods, incentives and capital improvements to retain leasing appeal. Like the CBD secondary market, Investment yields in the Fringe have also remained unchanged in the six months to July. Average prime yields remained at 7.6%, while secondary yields remained at 8.4%. It would appear less likely that the aggressive yield compression experienced across the market over the past 24 months will continue, as purchasers weigh the cost of finance and tighter lending criteria into decision making. Nevertheless, demand for prime investments with secure and stable tenancy profiles remains strong. Given Adelaide's value proposition and increased interest from overseas and institutional investors, there is potential for the firming bias of yields to continue in the short term within the prime market, particularly for core assets without exposure to leasing risk. FIGURE 8 Adelaide CBD Core Market Yields Yields and Averages by Grade 11% % 9% 8% 7% 6% 5% PRIME YIELD (LHS) SECONDARY YR AVG Outlook The next significant source of supply in the Adelaide CBD will not be until Q3 219, following the expected completion of Charter Hall s GPO Exchange development (25,m²). Other projects such as 2 North Terrace (26,m²) may progress depending on further tenant precommitment. Secondary building owners face amplifying requirements to reposition their assets through refurbishment and upgrades in order to retain appeal. Limited growth in face rents and expanding incentives will continue to place pressure on effective rents. The lack of supply over the short term provides the opportunity for the market to absorb existing stock and stabilise the vacancy rate. SECONDARY YIELD PRIME YR AVG FIGURE 9 Adelaide CBD Yields & Spreads Core Market Yields vs Yr Govt Bond Rate.% 9.% 8.% 7.% 6.% 5.% 4.% 3.% 2.% 1.% SPREAD (RHS) /RBA Tenant demand is likely to remain inconsistent in the short term, with movements led by existing tenants relocating, taking advantage of efficiency gains in prime grade buildings and enticing incentives. Offshore purchasers will continue to expand their activity within the Adelaide market as investors follow suit to the likes of Blackstone and Credit Suisse and interest grows in the value proposition on offer. The firming bias of yields within the prime market is expected to persevere in the short term, however will be driven by capital market trends rather than improvements in office market fundamentals. PRIME YIELD (LHS) YR GOVT BOND RATE (LHS) SPREAD YR AVG (RHS)

8 COMMERCIAL BRIEFING For the latest news, views and analysis of the commercial property market, visit knightfrankblog.com/commercial-briefing/ Henry Mathews Research Analyst - SA Henry.Mathews@sa.knightfrankval.com.au Jennelle Wilson Senior Director Jennelle.Wilson@au.knightfrank.com SOUTH AUSTRALIA Guy Bennett Joint Managing Director - SA Guy.Bennett@au.knightfrank.com Bobbette Scott Joint Managing Director - SA Bobbette.Scott@au.knightfrank.com CAPITAL MARKETS Lukas Weeks Director Peter.Mcvann@au.knightfrank.com Tony Ricketts Director Tony.Ricketts@au.knightfrank.com Knight Frank Research provides strategic advice, consultancy services and forecasting to a wide range of clients worldwide including developers, investors, funding organisations, corporate institutions and the public sector. All our clients recognise the need for expert independent advice customised to their specific needs. RECENT MARKET-LEADING PUBLICATIONS OFFICE LEASING Martin Potter Senior Director Martin.Potter@au.knightfrank.com Andrew Ingleton Associate Director Andrew.Ingleton@au.knightfrank.com VALUATIONS James Pledge Managing Director, Valuations - SA James.Pledge@sa.knightfrankval.com.au Nick Bell Director, Valuations - SA Nick.Bell@sa.knightfrankval.com.au Adelaide Industrial Market Brief June Sydney Olympic Park Office Market Brief July Office Market Transactions Update August Active Capital Knight Frank Research Reports are available at KnightFrank.com.au/Research Important Notice Knight Frank This report is published for general information only. Although high standards have been used in the preparation of the information, analysis, views and projections presented in this report, no legal responsibility can be accepted by Knight Frank Research or Knight Frank for any loss or damage resultant from the contents of this document. As a general report, this material does not necessarily represent the view of Knight Frank in relation to particular properties or projects. Reproduction of this report in whole or in part is not permitted without prior consent of, and proper reference to Knight Frank Research.