April 20, 2017 3:00 pm JST

Tokyo's office space market softening ahead of 2018

Expected surge in supply keeping rents down despite low availability

KIMIYA SAITO, Nikkei staff writer

The supply of new office buildings in Tokyo is expected to surge in 2018 and after.

TOKYO -- Tokyo's office property market is beginning to weaken despite very low availability on expectations of a spike in the supply of new office space in 2018.

Alarmed by the trend, commercial real estate developers are stepping up their marketing efforts, tweaking the designs of office buildings and taking steps to retain their tenants.

"At the current level of office vacancies, rents should be higher," said Toyokazu Imazeki, chief analyst at Sanko Estate, a real estate services provider.

According to  Miki Shoji, a commercial real estate brokerage, the office vacancy rate in the five central Tokyo wards of Chiyoda, Chuo, Minato, Shinjuku and Shibuya stood at 3.60% at the end of March, making for a tight market. In the industry, a vacancy rate of 5% is seen as a sign that supply and demand are in balance. 

But office rents in central Tokyo are showing signs of declining. Rents for leases signed during the October-December quarter of 2016 averaged 33,785 yen ($310) per 3.3 sq. meters for large, multitenant buildings with total floor space of 33,000 sq. meters or more, according to Sanko Estate and NLI Research Institute. After peaking in the July-September period of 2015, rents have been gradually trending down.

Office vacancies are currently at their lowest level since 2008, but at that time rents were higher than now, above 40,000 yen and on an upward trend.

Office rents are under pressure from the expanding construction pipeline. The stock of large office buildings in Tokyo has grown 20% since 2007, before the global financial crisis triggered a recession. Since then, supply has been keeping pace with growing tenant demand.

But now, a growing number of companies are putting their plans to move into new offices on hold ahead of an expected surge in supply.

Growing Tokyo

In 2018, there will be 861,960 sq. meters of new office space in large buildings (with one floor being 660 sq. meters or larger) delivered to the Tokyo market, up 34% from 2016. The figure represents the highest reading in six years.

During the past decade, an average of 550,000 sq. meters of office space in large buildings were leased in Tokyo's 23 wards annually.

The construction of large office buildings started booming in Tokyo in the early 2000s, when an easing of the construction standards concerning floor-area ratios and other factors made it easier to build bigger structures.

A massive supply of new office space will continue into 2019, when some 700,000 sq. meters are scheduled to be delivered in the capital.

"Supply of new office space in large buildings in Tokyo will continue at high levels in the coming years," said Chihiro Shimizu, a professor at Nihon University.

Another factor that is keeping office rents from rising is the nation's shrinking workforce. As of the end of 2016, there were 33.45 million corporate employees in Japan, down 10% from the near-term peak reached at the end of June 2011, according to data provided by the Ministry of Finance.

The government's policy initiative to reform the way Japanese people work could also have an impact on the office property market.

"An increase in the number of teleworking employees and open-office workplaces where employees don't have permanent desks would lead to a fall in tenant demand for office space," said Yoji Otani, a senior analyst at Deutsche Securities.

Workarounds

The combination has made real estate developers nervous. 

"We need to secure good tenants to get prepared for the situation two and three years down the road," said a senior executive at Sumitomo Realty & Development.

The company has increased the number of employees involved in marketing efforts to win tenants for new office buildings to 35, up 30% from March 2016. The developer plans to focus its efforts on building close relations with potential corporate customers.

Some developers are introducing new features to make their offerings more attractive.

Otemachi Park Building, which was completed in February, for instance, offers larger-than-average floors that allow tenants to integrate operations across units more easily as well as floor designs that provide for easier changes in the layout.

The building also houses fully furnished apartments designed for short- and long-term stays, called service apartments, which are not yet common in Japan. 

For a monthly rent of around 900,000 yen, customers can live in an apartment equipped with a washing machine with a built-in dryer, a kitchen with an oven and other basic amenities. The apartments are designed to meet the diverse demands of potential customers, including overseas companies.

With the expected surge in supply weighing on Tokyo's office space market, developers and lenders will have to keep working to boost the appeal of their offerings.

Sumitomo Realty & Development Co., Ltd.

Japan

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