2018 Predictions for Commercial Office and Retail Markets

Making predictions, for the coming year ahead, is an integral part of real estate consultancy, and, while eagerly anticipated by stakeholders, it is notoriously challenging to predict how real estate sectors might react to multiple layers of demand drivers.

February 19, 2019


Making predictions, for the coming year ahead, is an integral part of real estate consultancy, and, while eagerly anticipated by stakeholders, it is notoriously challenging to predict how real estate sectors might react to multiple layers of demand drivers, including, in Sri Lanka, inconsistent government policies, and external influences, such as restrictions imposed upon the Finance Ministry by the IMF and World Bank.

In this issue of Compass, JLL casts an eye over prospects for the commercial sector in 2018, including commercial office space and retail markets. Revisiting, briefly, the residential sector, covered in last month’s article, it is apparent that challenges lie ahead, especially with over supply issues looming and the recent re-imposition of 15% VAT on condominium sales, denting sentiment further. By comparison, the commercial office sector continues to gather pace, buoyed by strong demand, especially in the international grade A space, which, currently, suffers from chronic under supply in Colombo 1, 2 and 3. The retail market looks less sustainable in the medium to longer term, with substantial mall space being developed, and, while those malls nearing delivery will clearly benefit from first mover advantage, it is difficult to fully understand which brands might occupy space in those malls which are further down the track, in terms of delivery.

A closer look at Office Markets

The existing stock of office space in the grade ‘A’ sector in Colombo is little over 1.5 million ft². When considered in the context of the anticipated total demand for Grade ‘A’ in 2018, at around 5 million ft², it quickly becomes apparent that there is a shortage of some 200%. (Source: JLL Data) The existing space calculation comprises both CBD and SBD areas, but excludes existing IT Parks and the International Financial Centre at Port City which is still a distant glint in the eye of the joint venture entity. The typical vacancy level in these existing Grade A spaces has traditionally hovered around the 5% level, and in a few new buildings 100% occupancy has been achieved, this despite annual rental appreciations and an extremely favorable landlord environment. Absorption of most Grade ‘B’ has also seen an uptick, as occupiers run out of class A options and are forced to compromise with alternatives.

Retail Markets

The current retail scene in Colombo lacks appeal, brand variety and focus, which augers well for Colombo City Centre, Colombo’s first truly ‘destination’ grade mall, with international standard anchors, food court and multi brand offerings, which will open its doors later this year, and, also, for Shangri La mall, which will follow in 2019. Prospects for this sector, therefore, look encouraging for 2018/19, but, beyond that, there are darker clouds on the horizon, with potential oversupply issues and a lack of new brands entering the market. The longer term success of this sector is heavily dependent upon government policy, especially with import tariff rates and infrastructure spending, on roads and public transport, as traffic congestion is a major impediment to retail growth. If Colombo wishes to challenge the dominance of retail tourist destinations, such as Dubai, Singapore and Hong Kong, much will have to be done, utilizing the public private partnership model to make the necessary inroads.

On a positive note, the current retail outlets, in both the CBD and SBD areas, enjoy 99% occupancy levels, an indication that demand exists, but, currently, there is not enough retail space in target areas. As shown in the table below, demand for space still outstrips supply, but the gap will narrow after 2019, with other malls coming on stream in central and secondary business districts and residential zones.

Business activity is being encouraged, by, amongst other things, the 2018 budget which has proposed an investment LKR 3 Billion over the next 5 years to support the IT sector. While demand for space in Colombo can be anticipated from the IT and related sectors, it should be remembered that IT companies typically prefer out of town locations and lower cost options to fit with their business model.

Other positive indicators include the recently signed bilateral trade agreements (FTA’s) with Singapore and Indonesia. These welcome initiatives can only boost investor confidence and encourage future FDI into the country, which is vital in maintaining robust demand for commercial office space.

Infrastructure improvements, such as the “Central Expressway “also known as ‘Sri Dalada Highway’ under construction in three phases to Sri Lanka’s first ‘smart city’, Kandy, will drastically improve connectivity between the two principal commercial centres in the country. In turn, it is hoped that this will increase tourism activity, further infrastructure developments, logistics activity, and generate more general business, which will bring in more demand for office space in both cities.

Questions remain over the longer term prospects for the retail sector, although all indicators are very positive for 2018. As new international class malls feed into the sector anchored by hypermarkets, department stores, food courts, cinema complexes and large scale international brands, the challenge will be to maintain momentum, drive footfall and keep outlets fresh in the eyes of consumers. In essence, it will all hinge on the ability to differentiate and to innovate, adding value to the customer experience and fending off the online threat to traditional retail stores, which, in turn, poses a growing challenge to landlords.