City of London Developers Start Skyscrapers as Rents End Slide
March 08, 2010, 7:22 PM ESTBy Chris Bourke
March 9 (Bloomberg) -- Brookfield Asset Management Inc., owner of a stake in the U.K.’s tallest building, is about to start constructing an even higher tower in the City of London.
The 64-story Pinnacle is currently the only major office project scheduled for completion after 2012 in the City, the capital’s main financial district.
That may be about to change.
Brookfield is seeking a site to build another office tower, this time as developer. Land Securities Group Plc, the U.K.’s largest real estate investment trust, is preparing to revive a skyscraper project it shelved two years ago.
City of London real estate is becoming attractive again to companies like Toronto-based Brookfield after the worst recession on record stopped most development. A shortage of prime office space may push rents back to their 2007 peak in three years, according to King Sturge, a London-based broker. That’s encouraging other companies to follow Brookfield’s lead.
“I’m not surprised that developers are sharpening their pencils again,” said Savvas Savouri, head of research at BH2, another broker based in the city. “The issue now is supply of space, not demand.”
Brookfield’s construction workers are sealing the foundations of the Pinnacle, a tower commissioned by investors based in Saudi Arabia. When it’s finished, the building will have a height of 288 meters (945 feet), 53 more than the skyscraper in the Canary Wharf district that holds the U.K. record. Brookfield has a 15 percent stake in Canary Wharf Group Plc, the owner of that property at 1 Canada Square.
Search for Sites
The company’s development unit has seen some “interesting opportunities” for an office building in the City of London, according to James Tuckey, chairman of Brookfield’s European arm. Before proceeding with the development, Tuckey would like to secure tenants for most of the office space, he said.
In the fourth quarter of 2009, financial companies agreed to lease the most space in the City of London in 30 years as they raced to find premises before rents started to rise. The amount of new space coming onto the market will fall to about 840,000 square feet (78,000 square meters) in 2011, the lowest on record, broker Drivers Jonas estimates.
“Providing you’ve got the money and you’ve got the appetite for risk, I think between now and the end of next year is a very good time to start new developments,” said Gerald Ronson, chief executive officer of Heron International, in an interview at his London offices. “Those developments will be finished by 2013 and there’s nothing else in the marketplace.”
Heron Tower
Ronson is the developer of the Heron Tower, a 46-story skyscraper near Liverpool Street station that’s one of only two office buildings due to be completed in the City next year.
In the past two months, contractors have received inquiries about building more City offices from U.K.-based developers, said Ashley Muldoon, Brookfield’s U.K. head of construction.
Land Securities is preparing to revive a 155-meter tower, known as the Walkie-Talkie because of its resemblance to a two- way radio. The project, which will create 660,000 square feet of space, was shelved in 2008 as the financial crisis worsened.
The London-based company has already asked contractors to provide estimates for building the tower.
“Construction costs generally have reduced over the last 12 months, so it should come as no surprise if we were to market-test any of our potential schemes,” said Donal McCabe, a spokesman for the developer.
In January, Land Securities announced plans to start three developments in the West End shopping district this year costing a total of 655 million pounds ($990 million).
Giant Crater
Land Securities has almost completed a 541 million-pound building with 50,000 square meters of offices and stores facing St Paul’s Cathedral, called One New Change. In January, the REIT said it had found tenants for a third of the office space.
The Walkie-Talkie will be 25 percent bigger. The proposed site at 20 Fenchurch Street, about three minutes’ walk from the Pinnacle site on Bishopsgate, is still just a giant crater.
“While third-party investors have yet to test the market, developers with their own money are deciding to proceed and placing their balance sheet at risk,” said Michael Marx, CEO of London-based Development Securities Plc, builder of the Paddington Central office complex on the edge of the West End.
Great Portland Estates Plc, an investment trust that halted most of its projects in 2008, is also viewing more sites in the City, CEO Toby Courtauld said in a telephone interview. About 80 percent of Great Portland’s properties are in the West End.
‘Sensible Prices’
“If land is priced appropriately and we can pick things up at sensible prices, we would develop in the City,” Courtauld said. “Broadly, the market across central London is looking very tightly supplied a few years out.”
Great Portland already owns about 2.6 million square feet of development sites in central London. Two are in the City of London and will be started next year, Courtauld said. They include a skyscraper near the Heron Tower with 815,000 square feet of office space. The company has about 470 million pounds of cash or unused credit to invest after selling shares in 2009.
Developers have typically relied on equity partners or debt to proceed with new buildings. A 30 percent decline in rents in the last two years has made it harder for them to take out construction loans without having a tenant in place. Most companies that want to build are planning to use funds they raised during the recession by selling shares or properties.
Speculative Developments
“One or two banks might consider lending on speculative developments in extremely limited circumstances, but we’ve not seen any opportunities that meet their criteria,” said Caroline Snowden, director at property-finance broker J.C. Rathbone Associates Ltd.
The developer of the Pinnacle, a company with the same name, has so far raised 320 million pounds from 60 investors, enough to pay for the first floor. It will need to borrow an additional 525 million pounds by the end of next year to complete the tower by 2013, according to Arab Investments Ltd., the London-based development manager.
To secure a loan of that size, the company will need to find businesses to occupy about 40 percent of the Pinnacle’s 1 million square feet of office space, said Khalid Affara, managing director of Arab Investments.
Tenants have already leased about 200,000 square feet in advance. They include law firm Davies Arnold Cooper, which is taking about 80,000 square feet of space at 65 pounds a square foot, or a third more than the current market rate, Affara said. He is talking to three other potential tenants about leasing an additional 200,000 to 300,000 square feet. Rob Dwyer, a spokesman for Davies Arnold Cooper, declined to comment.
Hiring Plans
Some banks, insurers and other financial companies based in the City need space because they’re hiring for the first time in about three years. By 2012, the number of people working in the district will rise to about 325,000 from 305,000 last year, the Centre for Economics and Business Research estimates. That would still be less than the 354,000 employed there in 2007.
Even so, the increase in demand for new offices may not be sustainable. While the U.K. economy emerged from the recession in the fourth quarter, officials including Bank of England Governor Mervyn King say the recovery remains fragile. That may discourage companies from employing more people.
“Property needs debt and property needs occupiers, and for the next two years we’re going to be short on both,” said Mike Slade, CEO of property developer Helical Bar Plc. “Offices are going to be built only by people who can withstand the pressure.”
Institutional Investors
Helical Bar plans to develop two sites in the City, though it may not do so for another year. By then, cash-rich insurance companies and pension funds may start investing in office projects again, Slade said. Such companies were traditional backers of developments before banks embarked on a lending spree to the industry in the five years to mid-2007.
“The safest place to be in property at the moment is developing speculative offices for the long term,” said Development Securities’ Marx. “Getting institutional investors to part with their cash in the current environment is another thing, but I do know that they’re beginning to think about it.”
Development Securities is seeking sites for new projects in the City, he said.
Expiring Leases
Leases on about 15 million square feet of central London office space are due to expire over the next five years, according to broker Knight Frank LLP. City of London expirations will peak over 2014 and 2015, when leases on about 7.2 million square feet of offices will end. About 30 percent of those expirations will probably lead to a tenant changing offices, said Will Beardmore-Gray, Knight Frank’s head of City leasing, at a presentation in London last month.
One company that doesn’t have any development plans is British Land Co., the U.K.’s second-largest REIT, CEO Chris Grigg said last month. In 2008, the company halted construction of a 225-meter skyscraper at 122 Leadenhall, nicknamed the Cheesegrater, which was to be the City’s tallest building.
The empty site is in the middle of a triangle of well-known towers: Tower 42, the City of London’s first skyscraper; the Swiss Reinsurance Co. tower known as the Gherkin and the headquarters of Lloyd’s of London. The crater, next to the Pinnacle site, is sealed off by 15-foot-high fences emblazoned with the Mahatma Gandhi quote, “Be the change you want to see in the world.”
The fencing’s license from the City of London council expired in December, according to a notice pinned to it.
--With assistance from Simon Packard in London. Editors: Andrew Blackman, Anne Pollak.
To contact the reporter on this story: Chris Bourke in London at cbourke4@bloomberg.net.
To contact the editor responsible for this story: Andrew Blackman at ablackman@bloomberg.net.
