BEIJING, October 23 (TMTPost) – One out of four office units was empty in Shenzhen, the tech hub bordering Hong Kong, in the third quarter of 2023, according to reports by Cushman & Wakefield and other major institutions.

Shenzhen had the highest vacancy rates among four tier-1 cities that include Beijing, Shanghai, Guangzhou, and Shenzhen, but other cities did not do well either.

The poor performance in the second quarter continued into the third quarter. Despite collective rent cuts, vacancy rates increased across the board.

Vacancy rates on the rise

High vacancy rates of office buildings have been a persistent problem in large and mid-sized cities. According to the data from Cushman & Wakefield, among the four major Tier 1 cities, Shenzhen had the highest vacancy rate in office buildings, which was 24.6 %.

In the third quarter, Beijing saw a reversal in its net absorption, going from negative to positive, reaching 175,000 square meters. Although the overall market transaction volume increased, most commercial areas in the city, except for newly developed ones, continued to show weak performance. The vacancy rate increased slightly by 0.1 percentage point to 17.0% compared to the previous quarter. In the third quarter, office rents in Beijing fell by 2.7% compared to the previous quarter or 7.0% year-on-year to 307.7 yuan per square meter per month.

In the third quarter, Shanghai saw multiple high-quality projects enter the office market, leading to a total market stock of over 16 million square meters. This expansion of the market stock caused the vacancy rate to rise by 1.7% to 19%, with a slight rent decrease of 0.8% to 282.3 yuan per square meter per month. However, net absorption rebounded to over 100,000 square meters in emerging commercial areas.

In the third quarter, the average rent in Guangzhou continued to decrease, falling by 3.4% to 155.5 yuan per square meter per month compared to the previous quarter. Meanwhile, due to relatively weak overall market demand, the vacancy rate increased by 0.9% to 18.9% across the city.

In the third quarter, Shenzhen added a total of 173,000 square meters of Grade A office space. With economic uncertainties and high supply, property owners opted for more direct price adjustments. The average rent in the city decreased by 3.1% to 191.4 yuan per square meter per month. Stimulated by lease term incentives, policy support, and investment attraction, demand for Grade A office space remained stable, with a net absorption of 121,000 square meters for the quarter. The overall vacancy rate increased by 0.1 percentage point to 24.6%.

According to data from JLL, in 2022, among 41 central cities in China, only Taipei and Hong Kong saw Grade A office vacancy rates below 10%. In the remaining 39 cities, vacancy rates for Grade A office spaces all exceeded 10%, with 25 cities having vacancy rates over 25%, and the highest being Changchun at 43.6%.

Besides domestic cities, over the past three years, office vacancy rates have been on the rise in major global cities like New York City and London. According to McKinsey's data, over the past three years, office vacancy rates in major global cities such as San Francisco, London, New York City, Houston, Paris, Munich, and Tokyo have all shown an upward trend. Among them, San Francisco saw the highest increase at 12.9%, followed by London at 10.1%, while Paris and Munich had the lowest vacancy growth rates at 2.3% and 2.5%, respectively.

Why are office vacancy rates increasing? The vacancy rates are influenced by the supply and demand dynamics of office spaces. On the supply side, new office buildings contribute to increased supply. Major cities are eager to construct Grade A office buildings because they showcase the prosperity of the city, and bring substantial economic benefits to the city. However, on the demand side, office space demand is decreasing. With the advent of the e-commerce era, the physical economy has been impacted, affecting non-residential properties like office buildings and retail spaces. Additionally, after the Covid-19 pandemic, remote and online work has become popular, and with the sluggish economic growth, many companies are reducing office space to cut costs and are adopting a cautious approach to expansion. This ultimately leads to a global trend of falling office space demand, sagging office leasing markets, and declining rent prices.

Recovery takes time

Due to high supply and weak economy, in the short term, it will be difficult to see significant changes in the vacancy rates of Grade A office buildings in the four major Tier 1 cities in China. Owners of office buildings will continue to face pressure, and it is expected that rent levels will not recover quickly. In the long term, policy support and government investment are still needed to bring in more businesses, increase demand for office space, and stimulate the gradual recovery of the office property market.

In Beijing, the market supply in the fourth quarter will mainly come from urban renewal projects, with a total volume of 262,000 square meters. As the economic recovery will take time, high vacancy rates will continue to exert pressure on owners in the short term, and it is expected that rents in the fourth quarter will further decline. Over the next two years, limited new supply, improved corporate economic performance, and more leasing strategy adjustments by owners will collectively drive the gradual recovery of the Beijing office rental market.

Shanghai is seeing increased leasing activity as its market warms up this quarter, with the proportion of Grade A office leasing transaction area (including renewals and expansions) continuing to rise. Meanwhile, the upcoming China International Import Expo in November is expected to stimulate the overall Shanghai market, with more active leasing transactions expected at the end of the year.

Supply totaling over 500,000 square meters is expected to be put into use in the fourth quarter. As supply continues to increase, the downward trend in rent due to competitive pressures will persist, and emerging business districts will continue to face challenges in vacancy rates. While policy support and government attraction have become more evident, the key to boosting demand still lies in the sustained and stable economic recovery.

Flexible office is the trend

The pandemic has accelerated changes in China's work patterns. Although offices remain the mainstream mode of work in China, many foreign companies and leading companies in certain industries are exploring the possibility of a hybrid work model that combines office-based work and remote work. Additionally, co-working spaces are gaining popularity in cities like Beijing and Shanghai. This office model can reduce leasing costs for businesses while increasing space utilization.

Risk Prevention, destocking, and improved office utilization

In the commercial property sector, it is important to proactively identify and prevent potential market risks through various measures. Here are some strategies:

1.     Conversion of office buildings to rental apartments

This is especially relevant in cities where land and housing supply is scarce, such as Shenzhen. In fact, Shenzhen initiated such conversions as early as 2020, when the city issued a notice regarding the conversion of existing commercial and office properties into rental housing. However, progress has been slow due to various interests involved.

2.     Mixed-use office building trials

In accordance with urban renewal policies and regional development needs, mixed-use trials for office buildings that meet the criteria can be conducted. In central areas, older office buildings can be converted into mixed-use properties with residential, commercial, and other functions. In areas with an oversupply of office spaces, office buildings can be converted into long-term apartments or smart, production-oriented industrial spaces.

3.     Create office REITs to monetize commercial assets

Consumption infrastructure REITs have been mentioned by government policies and regulators multiple times in recent years. If REITs for shopping centers become successful, office buildings, which have a large volume and a mature asset management model, may become the next focus.

4.     Boost the economy, nurture more businesses, and increase office space demand:

Data from the Qichacha platform for 2022 shows that the net registration volume in all the four major Tier 1 cities, Beijing, Shanghai, Guangzhou, and Shenzhen, is positive. Shenzhen and Guangzhou have more companies leaving than entering, while Beijing and Shanghai have more entering than leaving.

From a net registration perspective, there is still significant demand for office space in these four major cities. It's important to note that lower-tier cities with high office vacancy rates, such as Changchun, Wuxi, Nanchang, Hohhot, Guiyang, Changsha, Tianjin, Xi'an, Harbin, and Dalian, should reduce the supply of commercial land and allow vacant office space to be absorbed by the market over time. Early risk prevention and mitigation are crucial.

(This article was originally published on the TMTPost App. Reporting by Wang Jian.)