Space, the final frontier

With businesses in the UAE downsizing as a result of the international financial downturn, demand for office space has declined dramatically. Combined with a large supply of office towers coming on to the market, developers and landlords have been forced to drop prices and rental rates. It's a positive sign if you're looking for commercial space, as the sector has moved to a more tenant-driven market. But buying is risky business.

Even in early 2009, the writing was on the wall. According to the Q1 2009 report by CB Richard Ellis (CBRE), office lease rates in Dubai dropped for the first time in four years. At the same time, businesses reduced space and staff.

Colliers International's Q1 2009 survey found that demand for office size shrunk from an average of 750m² to 300m². It noted that a fully-fitted office space was being leased in Q1 2009 for the same rate as a similar space in Q4 2008.

With companies in real estate, construction and the financial sectors downsizing, this had an impact on other sectors. With new supply coming on to the market in Tecom and Jumeirah Lakes Towers (JLT), the CBRE report noted "a noticeable drop in office lease rates and consequent increase in landlord incentives".

Charles Neil, CEO of Landmark Advisory, says that he doesn't expect the commercial market to recover at the same rate as residential property due to this massive 'overhang' in supply. He estimates residential prices to be back to their 2008 peaks in about five to seven years, but says commercial prices will take even longer to return to those previous levels. Colliers "conservatively" estimates that by 2011 there will be an additional 3.1 million m² of office space in Dubai.

Developers adapt

With company closures and relocations, landlords were forced to reduce sale prices and rental rates in Q1 2009. Secondary locations with Grade A office buildings, mainly in JLT and Tecom, experienced a sharp decline in lease and occupancy rates, according to CBRE.

Another trend is that developers are providing greater flexibility to buyers and renters. Deyaar has offered investors in slow moving projects the alternative of swapping properties with its Business Bay developments, which are closer to completion. Landlords are quoting reduced rates and offering incentives such as more relaxed payment terms on a quarterly and bimonthly basis, notes the CBRE report. Shifting from owner-occupier market, Omniyat recently entered a partnership with CBRE and Jones Lang LeSalle to lease out two of its Business Bay projects, One Business Bay and Bayswater. It argued that higher occupancy improves the operation of these buildings, and is a better option than leaving them partly vacant.

Free zones

Dubai's free zones have long attracted companies due to the freedom of operation offered, with no local sponsors required. Mohammad Fahim, research analyst at CBRE Middle East, says the decline in demand for office space has affected rental rates in Dubai's free zones. However, he says Tecom's Dubai Media City and Dubai Internet City have introduced rate restrictions to stimulate demand. "In Dubai Media City and Dubai Internet City, the free zone operator has maintained favourable lease rates to encourage tenants," he says. "Demand is arguably best measured in terms of occupancy and these free zones have historically maintained high occupancy levels."

According to CBRE, average rents in buildings managed by free zone authorities range from Dh169 to Dh190/ft². In privately managed buildings located within free zones the average rent ranged from Dh238 to Dh378/ft² during Q3 2008. Since then, average rates have dropped significantly, with those signing up in Q1 2009 paying as low as Dh91 to Dh179/ft². This is an indication that demand has weakened, says Mohammad, who also notes the most affected zones are those where freehold status is available.Areas like JLT have experienced a drop in rental rates. "Prior to the economic downturn the rents in JLT were actually higher than the rents in the buildings managed by the Tecom authority," he says. "Currently the rents in JLT are comparable to Tecom. JLT, Dubai Silicon Oasis, Tecom C and Dubai International Financial Centre (DIFC) were examples of free zones where office space was offered for sale.

"The sale rates for offices in these locations have dropped considerably over the last six months. The prices in the free zones are now showing similarity to what was prevailing during 2006 and 2007." Average rents at DIFC are high because it is one of the most popular locations for companies looking to move to Dubai. "Rents in Dubai Internet City and Dubai Media City are pegged lower, but this is done to attract international companies to the free zones. Dubai's prime office rents are now around Dh422 to Dh451/ft². The lower rents in some of the free zones therefore make them financially more attractive for companies," says Mohammad.

Nicholas Maclean, managing director of CBRE, Middle East says, "Rents are artificially affected within the free zones, upwards or downwards, because the authorities have a different agenda than commercial landlords. The free zone was a very bold idea that has proved to be hugely successful. Throughout 2008 many free zones had lengthy waiting lists of people wanting to set up business in Dubai."