Research Cardiff Property Market Update Autumn 2016 gva.co.uk
Introduction While the country is still coming to terms with the implications of the Brexit vote, it is our opinion that there remain strong opportunities within the commercial property sector across Wales. Earlier this year a 1.2bn City Deal for the Cardiff Capital Region was confirmed with the backers confident it could create 25,000 new jobs and leverage in a further 4bn of private sector investment into the city. The Deal will include 734m for the South Wales Metro, bringing better rail and bus travel to the capital and valleys. There are also significant planned improvements to the existing transport infrastructure across Wales with the major project being the electrification of the Cardiff to London Main Line, reducing the journey time to 1 hour 45 minutes, compared to the current typical journey time of 2 hours and 7 minutes. Cardiff s office market has seen a string of new projects either under development or in the pipeline with the first two quarters of 2016 having been a key date for many. Completions of schemes at 1 Central Square and at 2 Capital Quarter have been supported by the announcement of significant lettings with occupiers taking large swathes of space in single transactions the most recent being 70,000 sq ft let to Motonovo. Further notable schemes including the revamping of existing offices of the former Bank of Wales property, now 2 Kingsway, where high quality grade A accommodation is available over multiple floors. The city centre has experienced a boost in retail jobs and trade following the extension to the St David s Centre, which is now home to the largest H&M department store (46,000 sq ft) in the UK. The leisure sector has also seen popular restaurants such as Côte Brasserie and Five Guys expand their presence in the city. The lack of available quality stock in the industrial sector has reduced activity in the market. However, we have seen notable demand for freehold older stock which has been offered at lower capital value levels, particularly in the South Wales valleys. Despite the current political and economic uncertainty we remain optimistic about the prospects for Cardiff s occupier and investment markets, buoyed by the positive picture that the first two quarters of 2016 have painted, and confident that the regional market will prove to be robust and dynamic enough to adjust to the new world being forged by the UK as a whole. gva.co.uk/research 3
UK economic outlook Britain s vote to leave the EU the country s biggest decision in more than a generation has ushered in a period of uncertainty. However, it is important to remember that today s situation is not comparable with the 2008 financial crisis. This is a political, not a financial problem, and the main impacts on the economy are indirect, at least in the short term. The UK economy appears to have weathered the initial shock of the Brexit vote, helped by the rapid formation of a new government. Consumer confidence has started to bounce back and recent business confidence surveys have been positive. UK equities are trading higher than before the referendum and the fall in Sterling of circa 10% is helping to boost manufacturing exports. The Office for National Statistics (ONS) reported that the UK economy grew 0.6% in the three months to the end of June, up from 0.4% in Q1 and broadly in line with the long-term trend. We expect a sharp slowdown post-referendum, with Treasury-compiled consensus expecting economic growth of 1.6% in 2016, dropping to 0.7% in 2017. The UK unemployment rate fell to 4.9% (1.64 million) in the April to June period pre-referendum, 54,000 fewer than for January to March 2016. The number of people in work rose by 55,000 with the employment rate remaining at a record high of 74.5%. CPI inflation has been rising gradually from broadly zero during 2015 to 0.6% in July. Following the sharp fall in the value of Sterling we expect inflation to rise further and possibly overtake wage growth again over the coming year. Forecasts compiled by HM Treasury show CPI inflation rising to 2.5% by 2017, and it could still exceed this. Retailers will be faced with a difficult choice of passing on the price rises or facing a further squeeze on already tight margins. Our view on Brexit There will undoubtedly be volatility in the financial markets in the months ahead as the inevitable twists and turns of the political negotiations are played out. Property will be less volatile as it is a less liquid asset. Most commercial occupier markets are not in an oversupply situation, and many are experiencing a shortage of prime stock. This will help insulate rental levels from a postreferendum slowdown in demand. Some falls in rental levels are inevitable, and this will provide opportunities for occupiers looking to re-gear or take new space. In the investment market, overseas buyers will continue to benefit from the devaluation of Sterling, and there is a huge amount of global capital looking to invest in property. Some UK property companies are taking the opportunity presented by the re-pricing to bid for properties previously not within their reach. For UK consumers, the backdrop of rising inflation and slower wage and employment growth will weigh on real incomes. Together with tighter credit conditions and setbacks to confidence, the outlook for consumer spending has deteriorated, although it has remained resilient so far. 10-year gilt yields have fallen to historically low levels (0.7% in early September). While gilts are likely to remain low, any further credit rating downgrades could push up yields. The Bank of England recently announced its decision to expand its quantitative easing programme by 60bn, taking its stockpile of asset purchases up to 435bn over the coming six months, from 375bn today. Policymakers also voted unanimously to cut interest rates to 0.25% from a previous low of 0.5% in August. The Chancellor, Philip Hammond, confirmed that there would be no emergency Budget as promised by his predecessor before the EU referendum which would have included 30bn of spending cuts. However, in the Autumn Statement the government could announce fiscal stimulus measures, including reducing corporation tax to below 15%, which would help encourage businesses to continue investing in the UK. The Chancellor has said he may use the Autumn Statement to reset Britain s economic policy. The UK economy appears to have weathered the initial shock of the Brexit vote Long dated secure income remains very highly sought after and pricing is largely unaltered. Pricing adjustments have been relatively modest and undoubtedly reflect the greater level of uncertainty in the occupier market. However, the investment market had been slowing prior to the referendum, and we take the view that the vote for Brexit has accelerated a correction that was likely to have occurred anyway. Following the initial uncertainty and lack of market evidence, the picture on capital values is becoming clearer. We do not expect any further significant falls and buyer confidence should increase with greater certainty over pricing levels.
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Cardiff economic outlook Cardiff s population is forecast to see strong growth, with a rise of circa 42,000 expected over the next decade. This is an 11% increase on its current population of around 361,000, and well above the rate projected for Wales (3%), according to Experian. Cardiff s economic growth was estimated at 1.5% in 2015 and is currently estimated at 1.6% for this year, according to Experian data which was published after the EU referendum. However, forecasts show economic growth declining to 0.6% in 2017, in line with the broader UK slowdown. From next year, the city will benefit significantly from the electrification of the Great Western Main Line, improving eastwest links with London and Bristol. The employment rate in Cardiff stood at 74.0% between April 2015 and March 2016, compared with 75.3% for Wales during the same period, according to the ONS. There are currently over 240,000 people in employment in Cardiff, with that number set to increase to over 250,000 in the next five years, Experian data shows. Supported by Welsh government incentives, the city has developed as a primary location for the banking, finance and insurance industries, supported by the Enterprise Zone creation in the area in and around the central railway station and south of the railway line. This is highlighted by the enhanced occupation by Deloitte who have recently expanded their operations within the city centre taking in excess of 30,000 sq ft of extra office space. At the beginning of the year, Legal & General announced it was closing its offices in Surrey and relocating its workforce between Cardiff and Hove, and Motovovo Car Finance have expanded dramatically in the city with their acquisition which is within the Enterprise Zone boundary. Cardiff, like most of the UK s regional markets, stands to gain from the wider devolution agenda. For example, the 1.2bn Cardiff Capital Region involves 10 local councils working together to bring 25,000 new jobs to the capital and an extra 4bn in private sector investment. Devolution is forming an increasingly important part of the government s economic strategy, with the prospect of more autonomy and greater investment in infrastructure in public services, economic development as well as the four so-called devolved minor taxes: business rates, Stamp Duty, Land Fill tax and aggregates levy.
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Cardiff office sector Strong occupier demand levels for both quality grade A and grade B accommodation Significant shifts in rental levels for both grade A and grade B accommodation Transactions across the city are significantly higher than previous years statistics Availability of grade A space is improving as notable developments and refurbishments complete Office demand remains strong in Cardiff s city centre. H1 2016 take-up reached circa 295,000 sq ft which is well above the H1 average levels of circa 160,400 sq ft and almost 80,000 sq ft higher than H1 2015 take-up of 219,000 sq ft. The total take-up for 2015 reached 615,000 sq ft and 2016 is on course to reach similar heights supported by significant lettings at 1 Central Square. Notable deals in the first half of the year included the Bilfinger GVA advised acquisition of circa 55,000 sq ft at Brunel House on behalf of an undisclosed public sector client. This deal underlines the strong demand for good quality grade B accommodation. With a shortage in supply, buildings like Brunel House and Capital Tower are performing significantly above the aspirations of their fund owners. The general lack of good quality supply is the result of two factors the on-going refurbishment of older premises to offer higher quality grade A space to match market demands, such examples being Plas Glyndwr (now 2 Kingsway) and Golate House, coupled together with the ongoing demand for student-led redevelopments. The market for student redevelopment opportunities across Cardiff has been buoyant for a number of years and shows little sign of abating with recent sales of Howard Gardens and more recently Fitzalan Court emphasising the sheer scale and size of this market. In terms of market trends, there was a noticeable drop in smaller enquiries in Q2 but an increase in the number of larger requirements, including Network Rail seeking up to 60,000 sq ft. The immediate availability of grade A space in the city centre has increased to around 140,000 sq ft, from the record low of the past two years, but this is being acquired swiftly. As an example of the quality of accommodation available, 2 Kingsway meets the demands of the market. The extensively refurbished building sat dormant for a prolonged period following the Credit Crunch and recession, but with significant investment it now provides grade A accommodation over 5 floors within the professional core of the city. We estimate that there is also 7 months supply of speculative space under construction with completion dates varying over the next 18-24 months. JR Smart has started onsite with the construction of circa 75,000 sq ft at 3 Capital Quarter following the success at 2 Capital Quarter. Headline rents for grade A offices in Cardiff have increased significantly over the past 12 months rising from 21.50 to 24.00 psf based on recent transactions, with rent free incentives falling from 21 months down to 12-15 months on a ten year. This equates to a net effective rent of 21.60 psf (see chart 3). The outlook remains positive - subject to the unknown impact of the Brexit vote. With the Government Property Unit (GPU) hub requiring a development site that could total as much as 500,000 sq ft, coupled with the sale of Welsh Government owned land at Callaghan Square, there stands to be a strong level of Grade A development and subsequent availability in Cardiff with the likelihood of rentals surging forward. Table 1: Top Cardiff Office deals over the last 12 months Tenant Sq Ft Purchaser Date BBC Wales Broadcasting House 150,000 BBC Wales Dec-15 One Capital Quarter 70,000 Motonovo Aug-16 Brunel House 54,587 HMRC May-16 2 Capital Quarter 51,652 Public Health Wales Nov-15 6 Park Street 40,821 Deloitte Jun-15 Friary House 29,000 Cardiff University May-16
Chart 2: Cardiff office take-up Source: Bilfinger GVA 600,000 500,000 400,000 Sq ft 300,000 200,000 100,000 0 2012 2013 2014 2015 2016 H1 CC OOT Chart 3: Cardiff prime office rents Source: Bilfinger GVA 30.00 25.00 20.00 ( pst) 15.00 10.00 5.00 0.00 Q2 2012 Q3 2013 Q4 2014 Q1 2015 Q2 2016 Prime rents Net effective rents 2 Kingsway, Cardiff gva.co.uk/research 9
Cardiff retail & leisure sector Retail Zone A rental levels are improving on the previous 12 months Strong retail performance despite the loss of further household named occupiers New occupiers are coming to Cardiff city centre market Strong leisure led interest in the city with a number of new outlets for national occupiers The Cardiff city centre retail occupational market has been led by strong discount sector demand, although the retail sector in general has suffered the fallout of administrations across the market, as have most UK centres. Administrations hitting the retail sector have seen the high street lose household occupier names with the likes of Austin Reed and Store 21 joining the extremely high profile failure of BHS. Cardiff remained robust in the face of market fluctuations and the loss of BHS from the high street had little impact on the city centre with Primark having occupied their former store since 2014. Their occupation outside the city has resulted in unfortunate job losses in the sector. Clas Ohlsen announced the closure of their St Davies 2 store earlier in 2016 which remains vacant along with other outlets in the flagship retail centre. Zone A rentals have continued to improve and occupational figures have been significantly boosted by H&M having upsized into a 46,000 sq ft store, making the Cardiff branch its biggest store in the UK. Victoria s Secret will launch their first store in Wales during 2016 within the scheme. Prime Zone A rental levels, those in St Davids 2, now stand at 290 psf (see chart 4). Demand in the leisure sector has been strong with the appetite from restaurants continuing to grow at a pace in the city centre. Côte Brasserie opened their second branch in the city, making Cardiff the only location outside of London with two Côte Brasserie restaurants. Marco Pierre White Steakhouse Bar & Grill is set to open later in the year at the top of a new 100-bedroom Indigo Boutique Hotel in a 10m development fronting Queen Street in the former Dominions House building. Growing burger chain Five Guys is due to open its second Cardiff restaurant in the Red Dragon Centre in Cardiff Bay having opened its first in the Brewery Quarter, St Mary Street in March 2015. H&M upsized into a 46,000 sq ft store, making the branch its biggest in the UK
Chart 4: Cardiff prime retail rents Source: Bilfinger GVA 300.00 250.00 200.00 ( psf Zone A) 150.00 100.00 50.00 0.00 Q2 2015 Q3 2015 Q4 2015 Q1 2015 Q2 2016 gva.co.uk/research 11
Cardiff industrial & distribution sector Drop in take up as a result of a lack in supply Rental levels have increased significantly Demand for quality accommodation, particularly with accessible yard provision A lack of speculative schemes as a result of poor supply of land and funding Take-up in Cardiff reached a record peak of 1.2 m sq ft in 2014, but decreased by 44% to 662,000 sq ft in 2015. Freehold owner occupation demand remains strong both in the city boundary and further afield, but the market is struggling with a lack of good quality stock, particularly for warehousing and accommodation offering supplemental yard space. The majority of transactions recorded in the first two quarters of 2016 were for deals less than 10,000 sq ft. This issue is compounded by a lack of pipeline developments with only one speculative scheme under construction within the city. This is a result of a dangerous combination of rental levels having slipped from their 2007 peak and a lack in availability of land. The development costs for a speculative industrial scheme are such that any developer continues to struggle to make a profit, despite the lack of supply as a result of higher construction costs. Headline rents in Cardiff have risen by 16% since Q2 2015 to now stand at 5.50 psf (see chart 6). The new Eastern Bay Link Road will improve access across southern Cardiff, improving links around the city from East to West and should enhance new developments in and around these parts of the city but this development relies on the release of land for construction. Freehold owner occupation demand remains strong, but the market is struggling with a lack of good quality stock
Table 5: Top Cardiff Industrial deals over the last 12 months Tenant Sq Ft Location Date Travis Perkins 35,000 Trident Park, Ocean Way Dec-15 Syneu Ltd 31,000 Trident Park, Ocean Way Dec-15 Sheffield Insulation Group Mambo Play Centre 26,500 Portmanmoor Road Oct-15 20,000 Unit 5, Neptune Point, Ocean Way July-16 DPD 18,000 Springmeadow Business Park, Wentloog Dec 15 6.00 Chart 6: Cardiff industrial rents (psf) Source: Bilfinger GVA 5.50 5.00 4.50 4.00 (psf) 3.50 3.00 2.50 2.00 1.50 1.00 0.50 0.00 Q2 2015 Q3 2015 Q4 2015 Q1 2016 Q2 2016 gva.co.uk/research 13
Investment market performance Almost 140m of commercial property investment transactions were recorded in Wales between January and July 2016, with 75% of these transactions having taken place in Cardiff. Investment volumes were down 51% on the same period last year although the transactional evidence is distorted by the size of transactions that took place, rather than the quantity of sales or acquisitions completed. Overseas investors made up 39% of investment transactions in Wales during that period, according to Property Data. Offices were the most sought after asset class in Wales with 69m of investment having been transacted, making up 52% of the total market. Retail investment saw 32m of transactions take place in H1 2016, compared to 13m having transacted within the industrial sector. There has been a slight shift in prime Cardiff office yields which were being transacted at between 6% and 6.25% pre-referendum, but initial indications are these have shifted upwards post-referendum as market uncertainty impacts investor sentiment. The largest transactions that have completed during the first half of 2016 are sales of prime city centre grade A offices including the sale of 3 & 4 Callaghan Square, which was sold to Deutsche Bank in March, and One Kingsway, which was acquired from Canada Life by a charitable fund for over 18 million reflecting a Net Initial Yield of approximately 7.5% (see table 7). Notable active investors in Cardiff include Maya Capital whose acquisitions include two prominent office buildings within the city centre boundary. Industrial investment transactions completed in Cardiff during the first half of 2016 showed signs of a strong performance with much demand in the market, particularly from privately owned property companies, for smaller multi-let light industrial estates. Yield performance for prime assets in the industrial & distribution sector now reflects a level of 7.3%. The most recent industrial transaction completed in the city was also the largest for 2016 - the disposal by Pears Property of The Levels Business Park in Wentloog, a multi-occupancy light industrial estate of smaller units, which transacted in July/August of this year and was acquired by Longmead. The estate was circa 120,000 sq ft across 26 units with an income stream of circa 370,000 and sold for 5 million providing a Net Initial Yield of 7.34%. Recent retail sales include the disposals of Quayside in Cardiff Bay (March 2016) together with city centre disposals at 10 John Street (May 2016) 70 Queen Street (Aug 2016) and 78 Queen Street (Dec 2015) which reflect a variety of yields ranging from 5.3% up to 7.5% led by a mixture of tenant profile and lease term. Although Brexit will continue to create uncertainty, the fall in the value of Sterling will offer up UK property as a cheaper alternative for overseas investors, having accounted for such a significant proportion of the transactions completed during the first half of the year. This will help insulate values and yields of prime assets in Wales. Offices were the most sought after asset class in Wales with 69m of investment in H1 2016, making up 52% of the total market Table 7: Notable investment transactions in Cardiff for H1 2016 Address Office Transactions 3 & 4 Callaghan Square, Cardiff One Kingsway, Cardiff Churchill House, Cardiff Price ( m) NIY (%) Purchaser 32 6.50 Deutsche Bank 18 7.5 Canada Life 13 8.2 Oval Real Estate Date Feb-16 Feb-16 Jan-16 Industrial Transactions The Levels Business 5 7.34 Longmead Aug-16 Park Swift Business Park 1.8 7.5 Undisclosed Jan-16 Retail Transactions 10 John Street 2.1 5.3 Undisclosed May 2016 Quayside, Cardiff Bay 2.0 7.1 Undisclosed April 2016
Who owns Cardiff? In our first Cardiff Real Estate ownership survey we have analysed the ownership make up of office buildings across Cardiff city centre and central business district where the Net Internal floor area is above 25,000 sq ft. Our survey covered a total of 3.8 m sq ft of office stock in the city with the information allowing us to provide a unique insight into the profile of Cardiff s commercial property ownership following on from strong levels of transactional activity over the last two years. According to our survey, UK private investors own 25% of total floorspace, accounting for 883,000 sq ft of property in Cardiff (see chart 9). This was followed by UK institutions and property companies who own 27% of office stock in Cardiff, totalling 943,000 sq ft. 30% of floorspace is owned by all overseas investors (over 1 m sq ft), while 11% is owner occupied (394,000 sq ft) and 2% is owned by the UK public sector (80,000 sq ft). The remaining 5% of office stock (180,000) is owned by other. The clear growth in the student and Permitted Development Rights (PDR) markets is evident with our survey finding that over 204,000 sq ft of office stock has been converted into student accommodation since 2013 (see Table 8). These developments include the 45,000 sq ft redevelopment of Shand House on Newport Road, which has been converted into 198 student apartments, together with three ground floor retail units and the ongoing redevelopment of Windsor House off Dumfries Place, which has been developed to accommodate up to 321 students. Changes in ownership of office buildings across the city have been frequent and varied over the past 12-24 months with Source: Bilfinger GVA new fund led owners coming into a market place which was previously dominated by privately led property investment companies. Chart 9: Ownership by type of investor 5% Other The growth in ownership by these funds has clearly driven yields. While the survey has shown that 63% of the stock is owned by a mixture of funds and private UK based investors, in reality this figure is largely made up of traditional fund investors who have been attracted by the competitive yields achievable against competing regional centres and cities elsewhere in the UK. Cardiff remains behind other UK cities in terms of the capital values and yield levels generated in the sales that have taken place. But the combination of strong demand for offices in the city of both grade A and grade B quality blended with a lack of supply and resulting increase in rental tone means it has been firmly on the radar of investors. Table 8: Offices converted to student accommodation Location Address Approx size (Sq Ft) Newport Road Windsor Place Windsor Place Park Lane Kingsway Source: Bilfinger GVA Mansion Shand House Windsor House Hodge Buildings Caradog House Northgate House 25% UK private Landlord 45,000 The Mansion Group 37,860 Crosslane UK Real Estate 35,000 N/A 51,812 Crown Student Living 35,000 Collegiate Student Accommodation 30% All overseas 11% All owner occupiers 2% UK public sector 27% UK institutions and property companies gva.co.uk/research 15
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