SIMON BROWN: I’m chatting now with Keillen Ndlovu, head of listed property at Stanlib, he is my go-to property guru. Keillen, I appreciate your early morning time. You sent a great note out towards the end of last week, focusing particularly on offices in the local Reit space, in the listed space. What struck me with it was your first point, which is firstly it’s relatively big in terms of percentage, and also quite spread out among the various different Reits. It’s possible to avoid the office, but frankly not very easy.
KEILLEN NDLOVU: Good morning, Simon. Yes, it’s a tough one, given that the obvious market mix of about 21% of the old property index. I guess it is important to highlight as well that the sector is exposed to retail and industrial and a bit of residential. But the office market is fairly sizeable. And, as you all know, I’ve been working from home for the last 13 months, more than a year, having stepped back into the offices and most people haven’t. So we’re watching that space.
SIMON BROWN: Some of this office is also offshore. If I’m correct, there is some MRI in Europe, but it is predominantly SA office in that 21%.
KEILLEN NDLOVU: Yes, that’s right. So South Africa makes up more than half of that. And then we have some office space in Eastern Europe, Poland, as well as in Australia and a little bit in the UK, but the majority is in South Africa.
SIMON BROWN: I’d forgotten about that Australia component there. So we’ve got lots of offices there. The question then is the vacancies and the data you sent was obviously the vacancies. If we step back, the office sector was under some pressure, or certainly the property Reit space ahead of the pandemic. Vacancies during the pandemic obviously spiked. We saw that happening. But that trend – you’ve got some data even up to December. The trend still seems to be vacancies sort of increasing rather than starting to decline.
KEILLEN NDLOVU: Sure. So that’s the trend, I think, for the next year or two. We’re likely to see vacancies go up. I’m probably thinking about 15% at the current level, according to estimates, and more likely to go to 20%. That’s likely to be driven by, as leases expire, you’ll see corporates take up less space. And then some of it’s more like smaller tenants who just say no I don’t need this space, and you can’t keep forcing a smaller tenant to keep operating and just let them go as well. There’s been times where the landlord has done that, but the challenge is the big space that comes up every year for renewal.
SIMON BROWN: And the trick with those big spaces – if you’re large corporate and you’ve got X thousand square metres, that renewal negotiation is you’re probably going to want a lot more either flexibility, or just out and out you’re going to say, actually I want less space going forward. So it’s those renewal processes, and then not many new tenants I imagine coming in because as you say, people aren’t back at the office yet.
KEILLEN NDLOVU: Sure. So the other one is intended for the numbers that we don’t have, its the amount of space that’s available or being sublet to corporates, you have so much space that you need but you do not have it in official numbers. So that also adds pressure to the vacancies, as well as the rental. You talk about flexibility, so we’re likely to see more of that going forward where it allows companies to contract maybe the size of the operations when they need to or expand when they need to, as opposed to being tied to long leases of 10 years, with big space that you can’t exit. Because right now you’re committed to the lease. It’s a legal requirement that you have to keep paying that, but going forward you will see less of that.
SIMON BROWN: And lease durations – you would use Growthpoint as an example – the durations are about 3.8 years, which certainly gives the landlords some sort of wriggle room. It means some of some of those negotiations are happening today, but some of them are a couple of years away. Is that probably the standard in the industry where lease durations are currently sort of plus three years?
KEILLEN NDLOVU: Yes, I would say for in the office market. This is approximately two-and-a-half years to four years, depending on the company, but as real estate markets fall on …… so don’t wait for the year or the month that it expires in terms of looking a year out for negotiating that earlier, make a decision. It takes a year for you to actually manage your operations, move out your tech and the IT costs as well. We tend to look forward by more than a year. So approximately in the next two years, you watch out for most of the fleet expiring coming through.
SIMON BROWN: I remember there was a point a couple of years ago where the Sandton skyline was just cranes. There was massive development happening. Are we still seeing that sort of level of development of new properties coming into the market, or has that perhaps slowed a bit?
KEILLEN NDLOVU: Luckily there’s no new development coming up; it’s quite tiny. A little bit overall among the five developments coming up in South Africa. It’s now less than 1% of total office space in South Africa, whereas in the good times that number was very high. I could put it at a 7/8% of total aspect. So what you see now coming out is basically a feeling that what we have started before Covid-19, once you start that building you can’t stop, so you have to finish the building as well. So there’s not much coming up in terms of new supply, which is a positive.
SIMON BROWN: One of the questions, and this is the hard one, is the work-from-home trend. Obviously, with the pandemic, we are working at home, we need to. As we start getting vaccinated, with reports this morning of more vaccines arriving in the country, how do we have any sort of sense of how it’s going to shift? Are the corporates saying everyone is back, or it going to be a blend? Google in their results, comment that they saved over a billion dollars with work from home. We are not going back to the 2019 levels, I imagine.
KEILLEN NDLOVU: Unlikely. So the talks that we are picking up across most corporates, but within ours as well, is that people like to work from home – or in office from two to three days at home to two to three days in the office. That’s number one. And then the setup will change. You won’t have a permanent desk anymore. So it’s been more people call it hot-desking. When you’re at home, somebody else is using your space, which means corporates will require less space in terms of a number of tables or desks.
But then the challenge is actually how much space do you need for social distancing? So do you need to put extra space or not? But as we count it that people being at home, sort of tends flexible working and hot-desking.
SIMON BROWN: And we’ve certainly seen Reits have actually been exiting office where they’re can, or re-repurposing office buildings into other bits. As an investor, and obviously, you’re head of listed property at Stanlib, my sense is there’s probably still some pain there. You say vacancies are going to continue rising. The market itself, from the index, had a really good April. Are investors kind of looking through this and saying, it’s tough, but it’s going to get tougher. If we start looking out to say 2022 and the like, that there is some opportunity here and that the sector obviously is going to survive, but it’s got some investability.
KEILLEN NDLOVU: Sure. We believe that has been priced in at some points. It was trading about 55% below NAV I think at the mid of last year. It has come down, or its improved to about 25% below NAV, 16-something. We had to write down as much as 15% in terms of direct property values. We expect that to continue and the office market will suffer a bit more. We may see about a 5, 10% decline in values over the next year to two on an annual basis. So that’s in the price, number one.
And then looking at some of the corporates also having properties up for sale in the office market as a corporate is an indicator if you want to exit the office market completely between Growthpoint really buying and selling some of their properties and so on. And also the fact that the office market is over 20%, big, but not as big compared to retail and industrial or other sections.
SIMON BROWN: And that’s an important distinction. The office is one of them, and it’s the one that that’s going to take the longer hit. But retailers there, industrial, the logistics have been doing absolutely great guns.
Keillen Ndlovu, head of head listed property at Stanlib, I so appreciate your early morning time.
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