Obsolete office space is a growing problem

According to JLL’s Offices 2020 research, 22% of commercial building stock in the UK pre-dates 1960, and a further 53% was built between 1960-1999. Similarly, in Germany, 59% of non-domestic building stock was built between 1950-1990s, while in Paris, two-thirds of office stock is over 20 years old.

Conclusion? The majority of building stock in key European markets is now quite old. With evidence suggesting that older, poorer quality offices display longer void periods, reduced rental growth and higher rent frees than more modern stock, this fact signals an important obsolescence risk for investors.

But this is not a new phenomenon, so why revisit a well-publicised topic? Because it’s no longer simply about age: obsolescence and potential value loss will be exacerbated in the next few years as a result of tightening sustainability regulations, evolving corporate requirements and advancing workplace technology.

Starting with legislation, the UK Climate Change Act has set an ambitious target of 80% reduction in national carbon emissions by 2050. This will require dramatic shifts in the way in which we generate and use energy, implement energy efficiency measures, and capture, store and absorb carbon dioxide emissions from the atmosphere.

Research suggests that buildings represent some of the most cost effective levers for decarbonisation, on the basis of £s per tonne of carbon saved. The need for action on the existing building stock has been further accelerated by the Energy Act 2011, whereby from 2018 letting a building with an EPC rating of F and G will become unlawful. On the basis that about 18% of our commercial building stock might be F and G rated, we are fast approaching a cliff edge of obsolescence.

A space that has flexible floor plates, strong environmental performance, reasonable total occupational costs, and the ability to accommodate new services and technologies, is one more likely to last the test of time

In parallel, occupiers nowadays have strong corporate real estate teams scrutinising their total occupational costs, and striving for the bottom line savings associated with efficient buildings. Offices in particular are no longer seen just as places to work, but increasingly as a strategic tool for recruitment, retention, productivity and brand. Technology already plays a pivotal role in how buildings are used, as mobile technologies such as laptops, smartphones and tablets have all transformed the way in which we work. It is clear that real estate needs to adapt to incorporate these evolving trends to avoid the very real trap of obsolescence.

So what is the solution? The answer lies in creating resilient spaces that can accommodate these evolving preferences. A space that has flexible floor plates, strong environmental performance, reasonable total occupational costs, and the ability to accommodate new services and technologies, is one more likely to last the test of time. The trick is to factor in such criteria within asset management plans, and schedule the capital expenditure required to combat obsolescence into key lease events and preventative maintenance plans, culminating in the strategic refurbishment of older assets.

Understandably, every building will require varying degrees of work to bring it up to market standards. Hence it is essential to carry out a feasibility study evaluating capex options according to value creation, impact on occupational costs, and environmental performance.

For example, during the refurbishment of the ageing Abbots House in Reading, JLL identified relatively low levels of obsolescence, with improvement works primarily aimed at retaining the existing tenants. A light touch retention strategy was developed to deliver a more modern workplace, while working with tenants to ensure the refurbishment met their expectations on quality and CSR standards (BREEAM Excellent and EPC B rating).

On the other hand, assets with higher levels of obsolescence might be better suited for a complete reinvention strategy based on change of use. This was the solution identified for a vacant brassworks industrial building in 2012. The result is a high quality residential development with improved access and liveable spaces, with the original structure retained which would otherwise have been completely demolished.

Of course, all investors will be keen to evaluate the impact of such capex works on asset value. Compared with full-scale redevelopment, refurbishment solutions will sometimes offer uninterrupted income streams if tenants do not have to move out of the building, and may also result in increased rental levels and significant growth in capital value.

JLL’s Valuations team has developed a sophisticated tool to assess the impact of a refurbishment strategy on an asset’s potential investment performance. The tool was used to analyse the sale of a recently refurbished office building on Gracechurch Street by Climate Change Capital, and demonstrated a significant outperformance against IPD. This can be attributed in part to an overall improvement in the quality of accommodation provided, as well as its associated environmental performance.

Ultimately, the risk of obsolescence and the need for refurbishment will be directly motivated by the need for value protection - with an emphasis rightly being placed on avoiding depreciation rather than necessarily generating a premium.

Julie Hirigoyen is UK head of sustainability at Jones Lang LaSalle