It’s Time To Rethink Office Valuation Models

• As occupancy lags within the traditional office sector and property owners increasingly incorporate flex in their portfolios, the narrative around the value of a flexible space offering needs to keep pace.  
• For many landlords, the challenge is understanding how to monetise the types of spaces occupiers demand (amenities, flexible spaces and collaboration spaces); there is a disconnect between the value these bring and the valuations of the spaces. 
• A valuation model more akin to the hotel industry could help bring office valuations in line with the realities of the market. 

Is the valuation market keeping pace with the evolving office market? The short answer is no. But the longer answer is a lot more interesting. Fortunately, on a panel I chaired earlier this year at the Flexible Space Association conference, I was joined by several experts who could add weight to the conversation and discuss what needs to change from a lending, valuation and property owner perspective.  

The flex market continues to build momentum, with our latest data showing that in the U.K. occupancy rates are at the highest ever level, with overall occupancy at 83% and nearly half (42%) of spaces reporting 90% occupancy. At the same time, the latest data from CoStar estimates U.K. conventional office vacancy has jumped 65% in the last three years.  

Valuation and financing has historically been driven by traditional securitized long-term leases. This model enabled valuers to understand long-term cashflow and price property accordingly. But property owners, who are increasingly responding to demand, are pivoting portfolios to provide customers with greater flexibility and workspace that provides a combination of amenities with collaboration and desk space.   

One of the core challenges for valuing office stock accurately is access to data. Asset owners and valuers need a whole raft of metrics to truly understand how flex is operating — including occupancy, desk rates, profit and loss performance, and the strength of the covenant. Introducing greater data transparency will enable assets to be underwritten more accurately. Operators have a vital role to play here in providing anonymized data and helping the wider industry to make flex a truly mainstream proposition in the property ecosystem.  

As occupancy lags within the traditional office sector and property owners increasingly incorporate flex in their portfolios — 55% of landlords expect to increase investment into flex over the next five years — the narrative around the value of a flexible space offering needs to keep pace.  

In the early days of the flex space market there were one or two issues, including weak special purpose vehicles and opaque performance information — neither of which breed confidence or create a happy landlord and operator relationship. The evolution of flex in recent years has put some distance between previous perceptions and the current reality of high-quality reputable operators and premium offerings.  

Landlords, including big real estate investment trusts (REITs), are upping the amount of flex in their portfolios to raise revenue potential and monetize vacant space. There is an increasing awareness amongst landlords that the best assets are diverse assets. They will be more resilient and adaptable, featuring floors that still provide typical long-lease office space and others that have flexible workspace that can be added on as, and when, demand requires it.  

For many landlords, the challenge is understanding how to monetise the types of spaces occupiers demand — amenities, flexible spaces and collaboration spaces. Likewise there is a disconnect between the value these bring and the valuations of the spaces.  

What model should the industry be adopting to value flex offerings? One more akin to the hotel industry could help bring office valuations in line with the realities of the market. Fluctuating occupancy in the hotel industry is well-understood and assets are priced accordingly. Granular detail on the performance of an asset will be essential to accurate pricing, with data sharing and aggregation between operators and asset owners central to this. The quicker the industry can move towards the transparency and maturity of the hotel industry, the better.   

This article was written by John Duckworth, Executive Director at The Instant Group.