Route 21 Corporate Park

Are landlords destroying property values by opting for lower rentals?

Highveld Technopark

One of the problems facing the commercial property market is that landlords are destroying property values by signing leases below market value, prompting banks and financial institutions to downgrade the value of buildings as values are essentially based on rental inflows.

This is currently arguably one of the biggest problems facing the commercial property market, said Org Geldenhuys, managing director of property development company, ABACUS DIVISIONS.

 “Some landlords are still emerging from the rigors of the recession and are signing leases below the going market rate  just to get some cash flow in. But this is a short term solution as it is having a negative affect on the value of their buildings – which can have a seriously detrimental affect on their property portfolios in the medium to long term. Banks,” said Geldenhuys, “primarily value a commercial building on its rental income.”

If a landlord is facing ‘cash flow pressures’ there are still ways to avoid damaging the value of the building, or the overall property portfolio.

“Landlords can sign short term leases at lower rates just to generate cash flow, with build-in clauses that see the rentals return to normal levels after a six month or a 12 month period. But signing sub-standard rental agreements for long term periods is definitely a big no-no.”

“There are also other ways to attract better rentals, such as better package deals, including offering more common amenities and facilities for tenants – like shared boardrooms – as well as considering offering free parking in order to generate better rental agreements.”

Geldenhuys said that while there are ‘pockets of excellence’ in the commercial property market, vacancy levels are still ‘too high’ – and tenants are demanding better rates.

He said companies – under the current economic environment –are packing as many staff into office space, meaning parking is currently at a premium.

“Tenants are sharpening their pencils and are maximising office space as much as possible. They are trying to get as many employees into the smallest possible square metre spacing as possible. This means that parking is at a premium. So by offering a tenants free parking for a certain period is a good means to negotiate better rentals.”

Meanwhile, according to SA COMMERCIAL PROP NEWS: “Notwithstanding the cyclical trends for Quarter 1, it can be seen that tenant payment behaviour has deteriorated for the first time in 24 months. The overall number of tenants in good standing has declined to 79% vs. 81% in Q1 of 2011.”

Additionally,  in addition to the investor’s financial ability to secure further funding from credit-shy banks, new and proposed legislation is acting to create further fear in the market, discouraging many would-be investors from acquiring new rental properties.

The Consumer Protection Act, for instance – which allows tenants to arbitrarily cancel a lease agreement on 20 business days notice (albeit with a reasonable penalty) – is but one of them. Landlords can no longer cancel a lease with a defaulting tenant forthwith or after seven days notice, but must now wait 20 business days. This is having a detrimental affect on the market as it is seriously impacting their cash flow as mortgage bonds and levies still need to be paid.

The Companies Act also provides for business rescue – and this is also expected to have an impact on corporate leases. Adding fuel to the fire, the Municipal Act – although not finalised – is also compounding investor fears.

This current situation – which still needs to be fine-tuned – is nonetheless making the worrying implications originally raised by the National Credit Act seem “relatively manageable” by comparison.

On the upside, Geldenhuys did say that the commercial property sector is, nonetheless, starting to show signs of improvement as an increasing number of companies are starting to look for good commercial space. But the ever-present sovereign debt problem still hanging over the Euro Zone could put a damper on any sustained economic recovery.

The jury is still out on this one…

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