Office mkt remains appealing for long-term investors seeking stable returns

The Indian office real estate market, which had recovered significantly in early 2022, began to slow down in the latter half due to macroeconomic problems in the developed world.

Rental yields are likely to be stable at best in FY24.

Recovery followed by slowdown

The office leasing market witnessed strong growth in the first half of calendar year 2022.

“This was due to the resumption of economic activity and a gradual acceleration of occupiers’ return-to-office plans,” says Anshuman Magazine, chairman & CEO-India, Southeast Asia, Middle East and Africa, CBRE.

According to data from CBRE, 56.5 million sq ft of office space was absorbed in 2022, up 40 per cent over the 2021 level of 40.5 million sq ft.

Average transacted rent rose by 8.1 per cent in 2022 across the top eight cities, according to Knight Frank India.

“Bengaluru appreciated by 11 per cent, Pune by seven per cent, and Hyderabad by six per cent,” says Vivek Rathi, director research, Knight Frank India.

By the latter half of 2022, the office market began to lose momentum.

“The average rental across the top seven cities, which stood at Rs 78 per sq ft increased only marginally to about Rs 80 per sq ft in the second half,” says Anuj Puri, chairman, Anarock Group.

Corporate withdrew or deferred about 10 million sq ft of requests for proposals (RFPs) in the second half of 2022, according to Anarock Research.

The foremost factor responsible for this trend was the fear of recession in the West.

“The looming threat of recession in the major economies and slowdown in hiring by Indian players in sectors like information technology (IT) and IT-enabled services (ITeS) were the major causes,” says Puri.

The other factor was supply-related.

“An oversupply situation is building up in a few markets,” says Puri.

Stable rentals

The slowdown and the layoffs in Western markets, especially the United States (US), will continue to impact India’s office market in FY24.

The IT-ITeS industry is already bearing the brunt.

“Most clients are looking to cut down on assignments and are not awarding new contracts, so we are unlikely to see an increase in outsourcing to India,” says Puri.

Rathi adds that many corporates have deferred their plans for the expansion of office space by a few quarters.

The tightening of interest rates in the US may also impact capital flows and private-equity investment in India.

“If rate hikes continue at an intense pace in the US, investment flows into India may get delayed,” says Rathi.

Around 51-53 million sq ft of quality space is likely to be delivered in 2023, according to CBRE.

So much supply in a muted demand environment may also prevent rentals from appreciating.

Sound medium-term prospects

The availability of cost-effective talent and competitively priced office space mean India will remain a popular outsourcing destination.

Demand from domestic corporates will also keep the market steady.

“Office real estate has the potential to offer stable returns.

"While the rental yield ranges from 8.5 to over 10 per cent, the potential for rental escalations and capital appreciation can increase the internal rate of return to 12-14 per cent,” says Piyush Gupta, managing director, capital markets & investment services, Colliers India.

Investors can make leveraged investments in this asset class by taking bank loans.

Do the due diligence

Begin with a thorough title check. If banks are willing to fund investment in a building, that is a positive sign.

“Study recent leases and understand the building’s lease potential.

"Also study the micro market to understand its longer-term prospects, including infrastructure developments that are in the pipeline.

"Also, assess the quality of the end-user that is likely to opt for building,” says Gupta.

Rathi suggests opting for a city and micro market where occupier interest is strong, grade A supply from credible developers is available, and where the policy environment is supportive.

Magazine suggests focusing on high-quality assets with a good blend of technology, wellness, and sustainability features.

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