Saudi office rent levels lowest in GCC

Office space rentals in Saudi Arabia are the lowest among peer Gulf Co-operation Council (GCC) cities due to the relatively poor office sector fundamentals but current yields are on the higher side, says a research report. "Average rental levels in Saudi Arabia are much lower even compared to Dubai. But yields are higher at 10 per cent plus levels compared to the regional average of eight to nine per cent and contractions from the peak in general were also much smaller than other cities in the region," Kuwait Financial Centre (Markaz) said in a report. The primary reasons are lower cost of land, due to the higher availability of land suitable for office space, compared to the size and the contribution of service sector gross domestic product and lower liquidity. Other factors that cause these differences are relative closeness of the economy, lower liquidity, relative lower quality of buildings, and current demand/supply conditions. The rental growth in Jeddah office market would be higher compared to other cities mainly due to the continuance of the low vacancy levels (six per cent) as the forthcoming supply during 2009-10 is just enough to serve the demand. RENTALS TO CONTRACT "We expect rentals in Riyadh to contract as more supply of Class A office space is provided and vacancy increases in Class B during 2009-10 and the extent of contraction would range between 10 and 15 per cent depending upon the extent of projects that get delivered. Al Khobar and Dammam should face sluggish supply trends until 2010, which would keep the rentals stable/growing during 2009-10, however, the size of the demand is small to attract investment," it said. Longer-term improvements in the rental levels would occur when the economy gets more diversified and reformative, which should lead to increased private sector contribution to overall economy and result in improvements in financing and liquidity conditions and also in the quality of buildings. The diversion of attention from these cities to developments in the King Abdullah Economic City among other economic cities planned in Tabuk, Jizan and other master-planned developments such as Seera City, could prevent the rental levels from improving to the extent of other GCC cities in the longer term (next decade) although the capital city can be expected to thrive in any scenario. This possible development, if it materialises in the future, could lower the total occupancy cost and augur well for the overall economic growth provided the other structural framework is in place for diversification. Meanwhile, the office market in Riyadh is characterised by oversupply, evident in its high vacancy rates at 17 per cent and the extent of contraction in rentals (15 per cent) and prices (16 per cent) on an average, mainly due to contraction in demand. The slowdown in economic activity converted a market from short supplied (triggering developments of 0.5 million sq m) to oversupplied. Economic prospects of Saudi Arabia are more driven by government spending and the non-oil private sector economy would experience a muted growth at 2.5 per cent in 2009 and 4.5 per cent in 2010, well below the trend five per cent level as this growth is mainly due to the freewheeling and multiplier effect of the enhanced fiscal spending. Demand for office space, which is a function of private sector employment generation, is highly sensitive to private sector economic activity levels and hence would remain muted as well in the coming two years, said the report. LATENT DEMAND Latent demand for high-quality Class A office space is still present in Riyadh and is evidenced by the 75 per cent rental premium over Class B offices. However, the demand is not fresh and is more from the current occupiers of Class B offices. "We expect 300,000 sq m of office space supply during 2009-11 and we expect that the forthcoming supply of Class A office space in the coming two years would be enough to serve the demand, which will result in increased vacancy levels in Class B office space and contracting rental premium for Class A office space," said the Markaz report. Contrary to public opinion, Markaz found that the impact of the selection of Riyadh for locating the GCC central bank on the office space demand would be marginal at 7,000 sq metres. "Our estimate suggests that the size of office market in Jeddah is close to 60 per cent of Riyadh and it has been stable at best with six per cent vacancy levels and 8-10 per cent contraction in rentals on an average from its peak. We expect the forthcoming supply to be at 150,000 sq metres in the coming two years, which should match the demand causing the rentals to rise moderately at best. The twin cities of Al Khobar and Dammam are yet to mature as a market with good investment possibilities as it is dominated by owned offices of industrial establishments," said the report. Markaz expects rentals in Riyadh to contract by 10-15 per cent in 2009-10 mainly due to forthcoming supply a