Retail and office sectors hit hardest by the pandemic

RICS UK Commercial Market Survey, Q2 2020

• Rents predicted to fall sharply across the office and retail sectors in the year ahead
• 93% of respondents envisage businesses scaling back their office footprint over the next two years as people move to home working
• However, 64% feel offices will increasing move out to the suburbs, as anecdotal evidence cites a move towards local shopping behaviour and a potential revival of local highstreets
• 76% of survey participants across the UK as a whole now consider the market to be in some stage of a downturn, 12% feel conditions have reached the bottom of the cycle

As the global pandemic continues to take its toll, the Q2 2020 RICS UK Commercial Property Survey results predictably point to a further deterioration in conditions. In Q2, a net balance of -55% of respondents reported a decline in occupier demand. Each sector covered saw a fall, and although the decline in tenant demand was most felt in retail and office space, net balances of -86% and -79% respectively, a fall was also seen in demand for industrial units, with 13% more respondents seeing a decline. This is the first time that the industrial series has seen a negative response since 2012.

Given the economic fallout and lack of demand from tenants and business, the near term outlook for rents is now negative across the board, deteriorating further since Q1. A net balance of -85% of survey participants expect retail rents to decline in the coming three months, the poorest reading since 2008. In the office sector, a net balance of -62% (Q1-24%) are predicting a further fall in rents. Contributing to the adverse sentiment around offices, 93% of respondents anticipate that businesses will scale back their space requirements in the coming two years.

Although interest in retail in general has fallen, some anecdotal evidence in the survey points to opportunity and interest in secondary units, in some instances perhaps due to the potential for conversion to housing as well as appetite from some independent businesses looking for space in local high streets. This is perhaps indicative of a broader shift around commercial location in the wake of the pandemic.

When respondents were asked if they felt demand for office space in suburban locations may rise in place of urban centres over the next two years, 64% felt this shift would occur. This not only suggests there could be some significant changes in store for the office sector moving forward, but also interestingly, a potential driver for regional high streets. Anecdotal evidence also suggests there will also be a shift to higher quality office space, with more focus on well-being and sustainability.

Looking further ahead, twelve month rental expectations are now predicted to fall by 4% and 7% for prime and secondary office space, and secondary retail rents are seen falling by 14% while prime retail rents are seen posting declines of around 10%. Sentiment is much more resilient across the industrial sector, although rents in secondary locations are seen falling by around 1% in the year to come, prime industrial rents are expecting growth of just under 2%.

Tarrant Parsons, RICS economist, commented: “The latest survey feedback unsurprisingly reflects the significant disruption and uncertainty that emerged across the economy during the lockdown period. With demand from both occupiers and investors falling sharply, respondents now anticipate rents and capital values will come under downward pressure while the market adjusts to a drastically changed economic environment.

“In particular, the recent shift into remote-working raises many questions across the office sector, with respondents expecting businesses to re-evaluate their office space requirements over the next two years. On a brighter note, the outlook is already showing signs of recovery across industrial sector, which remains set to benefit longer-term from an acceleration in the growth of ecommerce.”

Hew Edgar, head of UK government relations, adds: “The reduction in demand for office space in some locations could be used to counter demand for housing, something the government has contemplated through recent loosening of Permitted Development Rights. However, the proposals are not right and have raised concerns around substandard homes, including building and space standards, all of which were highlighted in a 2018 RICS report.

“It is possible to deliver viable office-to-residential schemes through the more stringent planning permission process, this would maximise the existing asset base in a sustainable way, providing affordable homes in close proximity to pre-existing facilities while contributing towards community and wellbeing. New community hubs developed through repurposing and reusing building stock is greener, will support supply chain management in construction, and kick start SME activity; all of which contribute to a stronger and quicker economic recovery.

“With down turn there can be opportunity, government must also look to replace uncertainty with stability; and fill the middle of the commercial sector polo mint. Offices and shops in city centres need support as people stay away from their normal workplace, and although local shop hubs are benefitting the market must be addressed as a whole.”