Decentralisation turns Central into the “Central Financial District”of Hong Kong

20 April, 2011

Global real estate services firm DTZ revealed today that, after a robust Q4 2010, take-up in all office districts in Hong Kong dropped in Q1 2011 due to seasonal factors and because of the continual surge in rental, which is driving decentralisation. Transactions in Central remained active, but high rental and tight vacancy meant that some business functions have been squeezed out.  The central business district (CBD) can now be referred to as the central financial district (CFD) of Hong Kong, as its tenant profile is predominantly the financial and professional sectors. Companies escaping from high rental moved to sub-markets close by and to the fringe markets that are maturing rapidly. The trend will be supported by the government’s long-term plan of establishing more office hubs in fringe areas in Hong Kong.

Take-up fell throughout the territory during the first quarter of 2011, down from a total figure of 399,512 sq ft in Q4 2010 to 78,273 sq ft. Among all districts, the biggest quarterly drop was recorded in Central/Admiralty, from 50,941 sq ft to -26,398 sq ft, and in Tsimshatsui from 21,798 sq ft to -115,152 sq ft. The fact that both districts are the top office location in their respective “region” – Central and Admiralty in Hong Kong Island and Tsimshatsui in Kowloon – and the impact of the rapid rental surge on tenants, shed light on the dropped take-up.

Mr Alva To, DTZ’s Head of Consulting, Greater China, commented: “Despite the seasonal factor of the Chinese New Year, office transactions in Central/Admiralty remained active in Q1, but many were from companies of the finance, legal and professional sectors that can afford the rental. Some of these companies are content with a smaller floor plate, which is easier to find in Central/Admiralty. In other words, companies in need of larger floor plates, or those seeking to lower their rental cost, would eye locations elsewhere, most commonly the good-quality sub-markets close to the prime market.”

The decentralisation trend is best reflected in the mild drop (between 5.7% and 8.6%) in take-up in Wanchai/Causeway Bay and in Island East, both popular locations for those moving away from Central/Admiralty. Mr To said: “As Central/Admiralty’s rental continues to surge, sub-markets like Wanchai/Causeway Bay are expected to be more active this year, although it will still be some time for the district to compete with Central/Admiralty as there is less grade A office stock in Wanchai/ Causeway Bay.”

Another reason for the decreased take-up in the prime districts is that a lot of companies have long foreseen a tightening of space in their districts during the previous quarters, and they have knocked the lease deal at a time of a lower rental. This has been particularly evident in Central/Admiralty. Therefore these tenants have not been contributing to the take-up of Central/Admiralty in Q1 because they have already committed.

Turning to vacancy rate, only Central/Admiralty and Tsimshatsui with negative take-up recorded a quarterly rise in vacancy, which was 0.1 percentage point up for Central/Admiralty and 1.2 percentage points up for Tsimshatsui. All other districts have dropped in vacancy by 0.3 to 0.9 percentage points, and Sheung Wan’s vacancy rate remained unchanged. Mr To observed: “Central/Admiralty’s vacancy rate is virtually unchanged from the last quarter. Even the rise of 1.2 percentage points in Tsimshatsui cannot be considered a big jump for the market. So the vacancy rates of all districts have actually been quite stable over the past quarter.”

Mr To continued: “In most districts there is still some distance from the vacancy rate at the market peak time (Q2 2008), except in Kowloon East, which is now 8.9 percentage points below its peak vacancy rate, meaning that floor space has been readily absorbed in Kowloon East over the past few years. At the same time, however, its rental rose substantially and so its take-up in this quarter slowed to some extent.”

During the quarter, all districts recorded an increase in the net effective rental per sq ft per month, with the biggest rise noted in the AAA buildings of Kowloon East (10.3% to HKD32) and the smallest in AAA buildings in Central/Admiralty (6.6% to HKD145). District-wise, a solid growth in rental was observed in Sheung Wan (rental up 10% quarterly to HKD55) and Island East (up 9.1% to HKD36) due to increased relocations of tenants from Central/Admiralty. Rental in Wanchai/Causeway Bay was up 7.3% from last quarter to HKD44 which is close to its peak rental as of Q2 2008. The quarterly growth was smaller in Central/Admiralty (up 7.6% to HKD113) and Tsimshatsui (up 6.7% to HKD32).
Mr Mark Price, DTZ’s Head of Business Space, Greater China, commented: "Apparently a larger drop in take-up in Central/Admiralty and Tsimshatsui this quarter has been related to the smaller rental growth. The surge in rental, particularly in Central/Admiralty, was already quite steep, with some buildings breaking new rental records in this quarter. Moreover, in view of the decentralisation trend, landlords in the prime districts became more cautious in their asking rental.”

The current development of a tight vacancy and sky-high rental is gradually changing the tenant profile of Central/Admiralty. Mr Price commented: “It has become obvious that terming the tenants in Central/Admiralty as belonging to the FIRE (financial, insurance, real estate and business services) sectors is outdated, since the insurance industry has established a new stronghold in Kowloon East. The CBD has narrowed the scope of its business to the financial, professional and related fields, such as banking, wealth management, hedge funds, and law firms focusing on IPOs or those working with banks. Thus the name “CFD” – central financial district – now makes more sense for Central/Admiralty. Its tenants are more resourceful to withstand the high rental, or they are content with a smaller floor plate. The current tenant profile will continue to support the rental level of Central/Admiralty in the near future, while the pressure for companies to decentralise to save cost or seek more business space remains,” said Mr Price.

Mr Price continued: “Across the districts, we can see a growing presence of the retail and trading sector, and other non-location sensitive sectors, from high rental districts to lower rental districts. The sector’s current stronghold is Tsimshatsui, but its rental level is driving some of the business demand to Kowloon East, or districts with even lower rental such as Cheung Sha Wan and Kwai Chung. On the other hand, Kowloon East is catching up with Tsimshatsui in rental. The tenant profile of the district is becoming rather balanced with the improving quality of office buildings and the creation of a real office community there.”

In fact, Kowloon East is going to be more important in the government’s planning of Hong Kong’s business space. Mr Andy Yuen, DTZ’s Head of Office Agency in Hong Kong, said: “The current Kowloon East office district will be a crucial base for the future development of the Kai Tak office node, which is a 14-hectare commercial development planned at the northern part of the Kai Tak City Centre and is expected to provide a maximum GFA of 700,000 sq m of non-domestic space for business functions, according to government figures.”

This year, the foreseeable supply in Kowloon East should provide a total of 1,917,000 sq ft of floor space from four projects, which give almost four times the office space in the pipeline in Central. According to the 2011-12 Government Land Sale Programme, 14 new commercial sites and an extra five sites in the Application List, among them the site at Wai Yip Street, Kwun Tong, and one in Kai Cheung Road in Kowloon Bay are expected to command the most attention. Mr Yuen commented: “It is a sign that developers are seizing the chance to establish more office properties in Kowloon East to catch the train of the Kai Tak office node development, as the two districts will create synergy together.”

Mr Yuen highlighted another important future office location which is Wong Chuk Hang. “The project One Island South at 2 Heung Yip Road is expected to provide 710,000 sq ft of space this year, and further projects are in the pipeline for 2014. By 2015 when the South Island Line (East) is scheduled for completion, the office node in Wong Chuk Hang will be connected to Admiralty by a 10-minute ride on MTR. This will greatly facilitate the connectivity of the new satellite office hub to the traditional CBD. As the district matures with a stronger infrastructure, it is expected that Wong Chuk Hang will be popular to companies that prefer stationing in Hong Kong Island to Kowloon, and it will provide a good alternative to other fringe office districts,” commented Mr Yuen.

This year supply in Central will amount to 510,000 sq ft from three projects in Connaught Road Central and in Queen’s Road Central, but the potential of the future office nodes also demands attention. “The on-going establishment of new office districts in fringe areas, with improving transportation and facilities, will relieve the tight vacancy in the prime office districts. In the long run, this will drive more balanced development of the office market in Hong Kong. While robust business demand from mainland China and around the Asia Pacific region will continue to support the take-up and rental of the local market, particularly the prime markets, the new office areas will offer more choices for companies to set up their business. This in the long run will contribute to a more balanced environment of the Hong Kong office market and raise the competitiveness of Hong Kong as a leading business platform in the region,” said Mr Yuen.

“In a booming economy like Hong Kong, there is a real demand for space for business expansion, but the growing rental and the tight vacancy in prime markets are prompting companies to rethink their location preference. On the other hand, being the open economy closest to mainland China and less prone to natural disasters or political turmoil, Hong Kong is a top office destination in Asia Pacific. The forecast growth of business demand should underpin the rental development in the short run, while in the long run it will justify more office development out of the core districts to relieve the already tight supply,” concluded Mr To.

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