The flexible office market has been the talk of the town over the last week with news regarding WeWork’s latest position dominating the headlines. Whilst the outcome of this will be hugely significant for the sector, it is important to consider this against the wider dynamics of the sector.
Driven by resilient occupancy levels, which Workthere’s research is showing at current levels of 88%, and buoyant desk rates that have seen a 15% yoy increase to reach £602 for the average cost of a private desk within flexible office space across the UK in H1 23, demand from flexible office operators has remained strong this year. Nearly every operator we speak to, large and small, is looking to expand with key locations including London, Bristol, Edinburgh, Birmingham, Manchester and Cambridge. However, this appetite does not seem to be translating into take up levels, which currently stand at 482,753 sq ft across the UK, reflecting a 71.23% decrease compared to H1 2019.
So why is this? One reason could be the lack of good quality prime grade A space, which is an issue that is currently impacting the entire office market. The type and quality of buildings that operators are looking for are increasingly becoming the best in class spaces, where the operator hopes to run the flexible workspace as well as the building amenity. ESG is also an increasingly important factor with most operators looking for space in buildings with top green credentials, allowing them to attract a customer base focused on their own sustainability journey.
A further challenge for flexible operators is that for any prime grade A stock that is available, landlords generally tend to favour a tenant on full market rent and stronger covenant rather than an operator lease or management agreement. In addition, for those operators that do agree to a lease on a prime rent, the margin to desk rate, particularly in the regions, is relatively low. Whilst secondary stock is an option it requires significant landlord investment to make it viable as a flex option.
Coming back to WeWork, Workthere research shows that between 2015-2019 WeWork accounted for 35% of take up (4.2 m sq ft out of a total of 12.2 m sq ft) whereas from 2020-2023 WeWork accounted for 1% (30k sq ft out of a total of 3m sq ft). This huge drop in take up clearly has drastically impacted take up figures. This begs the question, who will replace WeWork going forward?
One solution is the growing trend towards management agreements as a capital light expansion strategy. Historically we have seen some resistance from landlords towards management agreements, due to the perceived risks around income. This has changed in recent years, with many landlords now embracing them and appreciating the greater levels of input and control that they can have with this structure. In fact, in the first half of 2023 43% of deals done were on a management agreement, but we still have some way to go in the education process around transparency and performance in order to provide confidence to investors.
We are also seeing more pragmatic landlords considering management agreements, as this structure allows the landlord to have input into the curation of the amenity offered to the conventional tenants within the building or wider estate. With many serviced office operators offering hospitality quality amenities, including bars, coffee shops and gyms, landlords have a great opportunity to use this expertise to improve their buildings for all occupiers.
Greater competition in the market is also impacting an operator’s ability to acquire space with an increase in landlord owner operators, the growth of managed office space and smaller landlords now creating fitted suites in the sub-5,000 sq ft size bracket and taking direct exposure rather than leasing to a third party operator. Workthere understands that GPE plans to grow their managed offering to over 1 million sq ft by 2028 as well as Landsec announcing they will triple the size of their brand Myo across New Street Square, The Forge and One New Change totalling an additional 139,000 sq ft across London. It is clear that there is currently a real opportunity in the flexible office market across the UK supported by strong occupier demand and occupancy levels. The challenge for those operators wanting to be acquisitive will be securing the right space on the right terms to be viable.
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