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Commercial real estate market is on the edge of oversupply, the more so its most expensive segment. Tenants will soon focus on less expensive space.

During “Real Estate and Construction in Kazakhstan” International Conference held in Almaty in early April, Oleg Alferov, the Vice-President of Kazakhstan National Association of Realtors said that commercial real estate market might experience price reduction in future. «Commissioning of new projects in 2009 may result in overstocking of this segment. This situation may be even more worsened by the trend of potential office tenants and buyers changing their focus from «А» class to «В» and «С» classes, which is forced by negative trend of economy. Today, one may observe lack of «А» class office premises, however in the first half 2009 we may face absolutely opposite situation where negative price adjustment is very likely to take place», – explained Mr. Alferov.

Wait-and-See Attitude

Thus far, commercial real estate seemed as prosperous segment against the background of dropping prices in residential sector. The reason maybe, it was overvalued more than residential real estate. «Due to longer pay-back periods, commercial segment attracted mainly major players. Sales time frame is longer, which means less speculation», – thinks Olga Aibassova, Head of Research of «Commercial Real Estate Centre» (CREC). While speculative transactions accounted for 60% of sales in residential market, commercial real estate market had no records of speculative transactions. «Investors constructed and purchased offices for their own use or with a view to obtain profit, i.e. for leasing them out. Nurly-Tau Business Centre (Almaty) was the project of the most active reselling. In early 2007, prices had a reasonable growth rate, and stopped at year-end. From the very start, developers provided for high market margin and can afford waiting. No significant price reduction was marked in the commercial real estate re-sale market (retail facilities – boutiques and stores, bases, service facilities), » – says Mrs. Aibassova.

Despite bank liquidity crisis, rental rates remained at the same level, and even increased in specific business centres. In the opinion of Eugene Dolbilin, Associate of Scot Holland, this is one of the paradoxes of Kazakhstan real estate market in general and Almaty market in particular: «Isn’t that wrong that average monthly rental rate per sqm of a store or chemists shop costs USD 50 in circumstances of general price reduction». Price drop is variously estimated at from 10% to 20%. Currently, the average price is about USD 4,300 per sqm.

In some instances the prices are maintained artificially. Ongoing rumours about close down of open markets and flea markets result in shopping centres keeping high rental rates. «Rentals in shopping centres are substantially overstated. What profitability should a business have to pay such rentals? Today, for example, due to high rental rates, one third of space in Adem centre is vacant», – noted Alexander Kalinin, Executive Director, Association of Appraisers of Kazakhstan.

But we are likely to observe decrease in rentals this year already. As is known, owing to the financial crisis many companies, especially those involved in construction and real estate, have left the market. «70% of Almaty realty companies have closed down. Alliance Bank is closing its branches and sells out its properties, which means much office space vacated», – says Mr. Kalinin.
 
According to the estimates of Scot Holland, the demand exceeds supply by around 500,000 sqm, but this gap is quickly closing. «For example, total of 601,300 sqm of office space is expected to be commissioned by the end of 2008, which represents 150% addition», – notes Eugene Dolbilin.

Indeed, there are number of large projects in the pipeline, such as ‘Esentai’ and ‘Almaty Financial District’. Commissioning dates of these projects will depend on handling the financing challenge. «By reason of dynamic development of business centre segment, supply of office premises will double within the next 2-3 years despite of postponed commissioning deadlines. Not all new projects will fall within top property classes; however rentable space tension will surely weaken. Larger supply volumes will most likely reduce rentals which are very high today, and are comparable to Moscow rates, – thinks Olga Aibassova.  In the absence of top class office properties, Almaty has derived its own standard, where many business centres are classified as «А» class because no better premises exist. Middle and so-called “C” class offices with good location are in great demand as well. Many companies (tenants) while getting over the financial crisis and struggling economic downturn, will surely have their income declined, thus increasing demand for (relatively) cheap office space».

Format Change

Analysts presume that future demand for retail space will remain fairly high. According to the information of Scott Holland, as of the end of 2007, total leasable space in shopping centres of Almaty amounted to 413,300 sqm, which is by 4% more as compared to 2000. «Commissioning of four new shopping centres was scheduled for QI 2008 («Adem 3», Euro Car, City Mall and Ramstore 3), however none of them has opened thus far, which is apparently caused by financial crisis. Given the projects under construction, shopping centre market will increase by 140,400 sqm of leasable space by the end of this year. Thus, total leasable space in shopping centres of Almaty by the end of 2008 will be as much as 553,700 sqm. It should be noted that we consider shopping centres and leave out retail space of open markets, food stores and small shops located along major streets of the city etc.», – says Eugene Dolbilin.

But this will change demand-supply situation in certain categories of commercial real estate. As far back as 2005, «С» (64.6%) and «В» (30%) class offices represented the larger part of supply, while supply of «А» class offices accounted for only 5.4%. As estimated by Scot Holland, Almaty «А» and «В» office market increased by 87% in 2007, i.e. 184,000 sqm, and exceeded 396,000 sqm.

Rent rates in «С» and «В» class offices are increasing today already. It is worth mentioning that this increase is of speculative nature. «Despite of higher rental rates, quality and number of services rendered fails to improve. It appears that owners of these buildings are trying to make single average price for everything. Currently, average rental rate ranges from USD 35 to 40 per sqm and sometimes may reach USD 70 per sqm», – says Alexander Kalinin.

It turns out that by 2010 we will have the situation exactly the opposite of that in the mid 2000-ies, i.e. large supply of high class offices and shortage of less expensive ones. In the opinion of CREC Head of Research, this shift on the market is driven by the desire of developers to take expensive segments. «As a result, cheap, less profitable and therefore longer paid-back segments were left out of sight. We believe the situation to change by the end of this year already, when investors will focus their interest on underestimated segments», – says Olga Aibassova.

Basic Trends in Office and Retail Markets, by Scot Holland:

• Demand decentralization at office market due to the shortage of vacant offices in the centre of Almaty, and as consequence, change of tenant mentality towards offices located out of centre;
• Fairly high and stable rental rates for prepayment;
• Demand for lease and purchase of larger offices (over 500 sqm);
• Larger supply of high-quality B class offices;
• Emergence of technological and business parks, and mixed-use projects;
• Larger number of modern shopping centres in west and east parts of the city due to lack of vacant land plots in «Golden Square» and high concentration of customers in other city districts;
• Construction of new shopping centres with wide range of various public services, such as restaurants, cinema, entertainment zones for children and adults, banks and ATMs, bowling, skating rinks etc;
• Larger premises demanded for lease;
• Increased number of worldwide known brands and anchor tenants;
• Increased number of professional retail networks;
• Persistent high demand for retail space;
• Larger number of professional property management companies;
• High rental rates.

Valentina Palaicheva, ‘Expert Kazakhstan’

Links:
http://expert.ru/printissues/kazakhstan/2008/16/rynok_kommercheskoy_nedvizhimosti/ or
http://www.realestate.kz/news/56