CBRE Real Estate Outlook – Part 2 (Economic Outlook + Office Sector)

February 29, 2016

OFFICE SECTOR

HO CHI MINH CITY

Office market is waiting for next wave of high-quality supply

In 2015, the market welcomed only one new Grade A office building coming into operation: the Vietcombank Tower. It has been five years since the city welcomed the previous large scale office building Vincom Center, with NFA more than 40,000 sq.m. Up to 2018, there will be four more Grade A office buildings added to the list: Saigon M&C Tower, Deutsches Haus Ho Chi Minh Stadt, Saigon Centre (Phase 2) and The One HCM. Deutsches Haus Ho Chi Minh Stadt will be the second LEED Gold Certificated office building in the city.

Regarding quality, new supply with low quality will find it difficult to fill up the space even though demand exists. The performance of newly completed buildings in the last few quarters has revealed that those buildings with sustainable and efficient design will attract more tenants. Developers planning to invest in office properties will need to pay more attention to efficiency of design.

Good take up rate recorded as market situation continuously improves.
Historically, net absorption at newly opened projects have been usually high and thus, driven up net absorption of the market. The significant expansion in 2015 net absorption validated this HCMC norm. Newly leased space in Vietcombank Tower contributed a major proportion of total net absorption for the year. In 2016, the market expectedly records very low annual net absorption figure as there is no new supply completed and very limited vacant space left during the year. Net absorption will pick up again on the back of its upcoming new office space in 2017-2018.

In addition to the country’s remarkable economic recovery in 2015 (low inflation, improved GDP, high consumer spending), Vietnam’s conclusion of the TPP and various FTA will most likely spur an increasing amount of foreign direct investment into in the real estate sector. Demand for office buildings will surge as more foreign companies start to set up their business premises here in 2016.

Continuous demand is expected on the back of economic recovery

2015 has seen positive correction in the office market with positive net absorption and vacancy rate drop recorded in Grade A. The top five most active sectors in 2015 were technical services/IT/software, manufacturing, banking/finance/insurance, consulting and logistics/transportation. The technical services sector is expected to remain one of the fastest growing sectors, though the market will also see the emergence of the logistics industry. The expected trade boom following the TPP, strong development of e-commerce in Vietnam and the needs of potential hi-tech manufacturers will all require more sophisticated logistics infrastructure and services in Vietnam.

Enquiries for large spaces came from business consolidation. However, as there are not many expected office space consolidation plans until the end of 2018, small to medium size enquiries will continue to dominate the market . The central area is still the number one choice for location and 1,000-2,000 sm office spaces which are almost out of stock are still in demand. Given very limited future supply, pre-launch leasing activities are believed to be very competitive and brisk at future buildings.

Prime rent is expected to increase remarkably in 2016 This is mainly driven by limited available space and lack of new supply. Until end of 2018, the market is expected to welcome 119,080 sm in which a notable amount has been pre-committed. Technically, the office market will experience supply shortage in short term. This expectedly will strengthen landlords’ bargaining power and thus enable them to increase their rent. Rent in 2017 -2018 is expected to grow continuously albeit at a slower rate.

The revised Law on Real Estate Business which was officially implemented on July 1st allows foreign invested firms to sub-lease properties that they are renting and to acquire and own a completed building for their own use. This is a way of finding/approaching potential sub-investors in the market, allowing developers to more quickly and easily access other sources of capital. As a result, there are likely to be more office floors being offered for long term lease or sale. However, it should be noted that this will require a degree of caution in finding strategic long term tenants otherwise landlords may face internal competition within their properties.

Economic recovery and investment potentials on the back of upcoming new supply expected to spur new developments in the market

Over the course of 2015, no new Grade A office building was recorded in Hanoi market. Positive construction progress of new office buildings, which are expected to come into operation in early 2016, was also recorded. An addition of 109,500sqm NLA, which is more than 30% of the current supply, from three new Grade A projects will enter the market in 2016. This new supply will locate in the West and Midtown clusters, leading market to further decentralize. Pre-lease activity of these buildings has drawn positive attention from tenants for large floor plates. Such upcoming Grade A supply would also compete with upcoming Grade B, which is 50% larger than Grade A’s new supply from 2016 to 2018.

Hanoi office performance became more stabilized in 2015 with stable level of rental rates and strong demand from various enterprises of all sizes and industries. Relocation and new office opening were two common leasing activities in the market. A number of deals with large office space (>1,000sqm) were also reported. The majority of relocations are by foreign companies with a view to growing their business in technology related fields. Demand from domestic firms was also strong, where certain new leases were recorded of more than 1,000 sqm, including telecommunication and FMCG firms.

The implementation of the revised Law on Real Estate Business on July 1, 2015 is expected to attract new investors to the office market. According to the new law, foreign invested enterprises are allowed to sublease their rented properties and to acquire a completed building for their own use. Foreign investors could also purchase or lease a proportion of the project and sublease it.

Participation of Vietnam into Trans Pacific Partnership (TPP) and Free Trade Agreements (FTAs; Vietnam – EU, Vietnam – Korea) are expected to bring more tenants into office buildings. Economic recovery together with improvements in business environment have encouraged foreign enterprises to either establish a new office or expand their current premises, which provides a supportive backdrop for the office market.

Strong increase in net absorption expected, however still lagging behind new supply

Hanoi Grade A office market in 2015 ended with more than 62,000sqm of net absorption, taking up 40% of market-wide’s and forth-folding the previous year’s. The forecasted net absorptions of Grade A in 2016 and 2017 are around 57,000sqm each, increasing by 30% compared to 2014, while new MNCs might set up their first office. Such net absorption would still lag behind pace of new supply, resulting in average vacancy rate of Grade A buildings forecast to be up 7 points y-o-y, reaching 24.7% in 2016, before gradually decreasing to 17.6% in 2017.

Hanoi office market has been a tenants market due to oversupply in the past years. This trend is expected to remain for some time, hence the forecasted rental rates will continue their downward trend. While rental rates of Grade A in CBD is expected to decrease by 1% y-o-y for the next three years, decline of market-wide Grade A is likely to be 3%-5%. Most the new supply is located in Midtown and West clusters, which typically offer much lower rental rates than CBD. As a result, average rental rate of Grade A is projected to decrease at a higher rate than that of Grade A in CBD.

Meanwhile, average rent of Grade B will decrease at a slower rate than Grade A thanks to improved building quality.

As anticipated demand recovers, developments in prime locations in the CBD might be restarted. Although completion dates of these projects have not been released, these indicate that developers are presently upbeat about market outlook. While buildings of less than one year old might have to soften rental rates to attract tenants, matured buildings with stable occupancy rate and quality improvement are expected to experience rental growth in 2016.

Landlords catering to tenants increasingly demanding requirements

Many of the Grade A office buildings in Hanoi are old and lack standard facilities, i.e. sizable floor plates, sufficient parking capacity, raised floors, etc. In order to meet the requirements of international tenants, these Grade A buildings would have to upgrade to compete effectively in a tenants market. Among requirements of many international tenants, ‘green’ building is a newly introduced concept, but will soon increase in importance as more MNCs establish presence in Vietnam.

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• CBRE Real Estate Outlook – Part1(Economic Outlook + Retail Sector)