Melbourne oversupply to pressure vacancy, rents and values

Melbourne oversupply to pressure vacancy, rents and values

6 July 2018

A $7.4 billion building boom in office towers, apartments and hotels in central Melbourne is raising fears the city may become a victim of its own success, with oversupply putting pressure on vacancy, rents and values.

The concerns are sharpest in the office sector, which is expected to produce around 500,000 square metres of new space in at least 12 new buildings in the current two to three-year cycle.

It is the biggest single boost to supply that the Melbourne office market has seen so far and the strongest growth in supply in more than a decade, reports The Australian Financial Review. 

Gross supply will increase by 170,000 square metres in 2019 and by 290,000 square metres in 2020. The 20-year average gross supply in Melbourne CBD is 120,000 sqm annually.

On the demand side, the take-up of space has been outperforming in recent years, with tenants swallowing 75-100,000 square metres annually.

But unless white-collar jobs growth keeps up, fuelling an outsize demand for new offices, the CBD vacancy rate could double by 2022 to around 9 per cent.

“We are nervous that Melbourne’s recent outstanding rates of absorption may not continue and absorb this over-supply,” Michael Cook, Investa’s group executive for property told The Australian Financial Review this week.

By May 2018 in Melbourne, there were 44 separate projects under construction in commercial hubs of inner city Melbourne, according to CoreLogic figures.

That tally is a leap up from the $5.1 billion worth of projects under development in the same precincts last year, which was spread across 65 construction projects.

Eliza Owen, CoreLogic’s commercial research analyst, said the Melbourne boom reflects a broader construction trend taking place across Australia in the last 12 months.

“The number of projects has been on the decline, while a few high-value projects inflate the scale and value of work being done,” Ms Owen said.

Investa’s research head David Cannington is keeping a close eye on the situation. His view of the potential for over-supply is more moderate than his colleague Mr Cook’s but it all hinges on where the economy goes.

“This is the largest single-cycle injection of office supply that we’ve seen in the Melbourne market,” he said.

“If you forecast a lot of these projects hitting the market at one time that will create a sharp tick-up in vacancy and a sharp softening in leasing market conditions.

“The big question is whether office-based business will expand at a similar growth rate to absorb that. Build it but will they come?”

The take-up of office space in Melbourne is strong, but it will struggle to keep pace with the sheer amount of space coming into the market.

By 2022, Mr Cannington forecasts vacancy will rise to almost 9 per cent. By then, Sydney’s CBD vacancy will be around 5 per cent.

The numbers are staggering: 410,000 square metres of new office space is under construction currently in central Melbourne.

“If you look at the demand side of the equation that’s where the greatest risk is,” Mr Cannington said.

Even in the best case scenario, with strong economic growth Mr Cannington expects conditions to ease.

“It’s not recessionary carnage. It’s just softening in conditions from a market that is currently pretty tight.”