The A-Class Office Market

In a sun, sea and sand destination, the commercial office market usually does not get a lot of airtime. Visitors to the island might be surprised to know that tourism ranks a distant fourth in overall average contribution to GDP, with the two largest contributors being the financial services and distribution sectors which account for […]

By Terra Caribbean

February 23, 2011

Warrens Tower, completed 2005. 50,000 sq. ft. Warrens Tower, completed 2005. 50,000 sq. ft.

In a sun, sea and sand destination, the commercial office market usually does not get a lot of airtime. Visitors to the island might be surprised to know that tourism ranks a distant fourth in overall average contribution to GDP, with the two largest contributors being the financial services and distribution sectors which account for approximately 40 percent of GDP.

One would think that with the residential market still smarting from a two-year hammering, the office segment might be experiencing a similar plight. In the US, the office market is currently at 17 percent vacancy with a modest outlook for the remainder of the year. After a difficult three years, the UK Central London market appears to have turned a corner with vacancy rates trending down to 8.25 percent (London’s west end still manages to retain the unenviable title of world’s most expensive office market). With the exception of a few such niche markets, the global forecast for the 2010 — 2013 period is generally muted with little movement on vacancy rates and rent growth expected.

The Barbados office market is a relatively small one and one for which there is very little statistical data available to developers or consumers. The market is characterised by a modest A-Class segment and significantly larger B and C-Class segments, the latter in the form of dated office buildings and a number of smaller converted residential properties.

Figure A
Figure A: Illustrates the current stock of A-Class office buildings including pipeline space as at Q3 2010. At present there is approximately 860,000 sq.ft. of space, of which approximately 25 percent is under construction due for delivery in 2011.

By and large the tenanted buildings today are spread evenly across the four major submarkets of Warrens, Wildey, Collymore Rock and the South Coast (Highway 7 between the Garrison and Oistins), however when the two pipeline buildings are completed, Warrens will constitute the principal submarket. While Bridgetown has seen some gentrification, A-Class buildings are typically owner-occupied by retail banks with ancillary services and back office functions on the offground floors.

Figure B
Figure B: Illustrates supply (including pipeline buildings) across each submarket.

In recent years, the A-Class market has proven to be a resilient one with a natural vacancy rate in the 3 percent — 5 percent range. Traditionally supply has tracked demand, with very little speculative construction and most buildings fully subscribed at completion. The two pipeline buildings in Warrens were purchased by the National Insurance Scheme with government guaranteed 25-year leases, as part of an overall economic stimulus package. When complete, they will represent the largest A-Class office buildings constructed to date and will likely be occupied by various government agencies.

So how healthy is this segment of the market today? As of Q3 2010 we have seen no evidence of tenants surrendering leases, no demonstrable change in vacancy levels, and as a consequence no downward pressure on rents. All indications are that market rents are stabilised in the BDS $48 – $55 range with no signs of softening. The British American Building is somewhat of an anomaly. It was originally slated for completion/occupancy in Q4 2010 and was fully subscribed by prospective tenants. The developer has since been put under judicial management, which has impacted the completion of the building and the willingness of tenants to exchange leases (hence the vacancy noted at the time of print). Whereas other segments of the market have experienced a reversion of the once positive demand/supply gap, this appears not to be the case with the A-Class market. Active demand is strong, with a number of new tenants entering the market and other tenants expanding or seeking to trade-up from B-Class properties to more modern buildings.

Perhaps where the recession has made its mark is in the area of operational expenses. Considerable scrutiny has been placed on operational expenses in recent years as service charges approached the $30 mark at some properties. Most landlords are reporting standard Triple Net Leases (CAM, Insurance and Property Tax), however there is a degree of variance in what constitutes the CAM component from building to building. Tenants therefore are collectively motivated to ensure the most efficient management and operation of their respective properties. Generally the A-Class properties are well managed and exhibit little signs of deferred maintenance or obsolescence issues.

Figure C
Figure C: Illustrates the weighting of expenses by category within a typical service charge.

On the investment side, Barbados sees little by way of acquisition/divestment of large office buildings and as such the availability of transactional cap rate data is limited. Appraisers generally turn to the capital markets to construct rates when issuing opinions of value. At present there are two properties being offered in the low 7 percent range which likely reflects a 75 — 150 basis point compression of valuation cap rates. Likely purchasers include the large regional insurance companies and the few regional property funds.

Looking forward, we expect to see two additional buildings added to the pipeline as they begin construction next year. At the point the existing pipeline buildings are completed in Warrens, we are likely to see some additional vacancy in B and C-Class properties as the Government relocates various departments to fulfil the 200,000 sq.ft. obligation in Warrens. Conventional thinking says the commercial market usually lags residential and one could therefore extrapolate a few bumps down the road. However in a conservative development climate and with the Central Bank forecasting some measure of economic growth in 2011, we are likely to continue to see relatively low vacancy rates and a measured rate of rent growth in the next 24 months.

Footnote: The building classifications referred to in this article have been created by Terra Caribbean. The buildings mentioned herein have been classified based on Terra Caribbean’s independent research and estimates only, as well as its own opinions, none of which have been independently verified. This article is not intended to include a comprehensive list of commercial buildings in Barbados or to identify all buildings that Terra Caribbean considers to be among those of the highest quality on the island, but refers to a sample of such buildings only.

This article is also not intended to constitute any form of marketing or advice, but to provide general information and an overview only of the commercial office market.

By Hayden Hutton – Director of Brokerage Terra Caribbean
The Red Book 2011 — Pink Pages

Terra Caribbean

Terra Caribbean is a Caribbean real estate services practice based in Barbados with other offices in Trinidad and Grenada. We are a fully integrated firm offering services in brokerage (sales and rentals), advisory, and property management. Our team comprises some of the most qualified real estate professionals on the island and is made up of a diverse skill-set extending to both residential and commercial real estate. We work with the best developers in Barbados and service the needs of every client to ensure their ultimate satisfaction be it to sell, purchase, rent, value or manage their property. “ We know Barbados!"