In Asia, the co-working market has been growing at a faster pace than in Europe and the US. In Singapore, it has been a key driver for the office rental market. Office owners who can embrace this growing trend will likely stand out from others.

Pearly Yap, Portfolio Manager, Equity Income

28 Oct 2018


With the increase in digital connectivity, many jobs no longer require people to work in traditional offices. In addition, businesses increasingly require global market reach, but without the financial burden of offices in multiple locations. This has given rise to the co-working phenomenon, in which independent professionals, such as freelancers and project-based workers, function in a shared communal setting, known as co-working spaces. Companies that embrace flexible working arrangements have also started placing their remote employees in such environments.

The attraction of co-working spaces

Co-working spaces can start from a single hot/dedicated desk in a shared, open-plan environment to private offices and even one or more floors.

Co-working operators typically rent large office spaces from property owners at a lower (wholesale) rent. The operator then redesigns the space, and sub-lets it to individual tenants who require a ‘plug-and-play’ compact workspace for a few days or months, while charging them higher (retail) rents. In this regard, the co-working operators enjoy the rental spread.

For tenants, co-working spaces are flexible and allow them to customise as needed. It can also help save upfront capital outlays typically required to establish a traditional office. This makes offices in the Central Business Districts (CBD) affordable to many freelancers, smaller start-ups or self-employed entrepreneurs.

For property owners, co-working presents a new demand for office space. Co-operators not only source new tenants for them, but also underwrite the credit or rental risks of managing temporary leases. As such, landlords typically accept lower rents.

This is known as second-degree price discrimination where an office owner uses a lower rent to capitalise on a flexible workforce to capture more rental income. See Figure1.

Fig. 1: Uncovering marginal rental income through co-working operators1

This contractual arrangement enhances an office building’s value by bringing marginal rental income (as represented by box B in Figure 1) to the office owner from the co-working market – a new market segment that did not fit under the concept of a traditional lease. We see this trend as a new phenomenon that is structural rather than cyclical.

Co-working trend in Asia

In Asia, the flexible workspace market has taken off strongly in recent years.

Figure 2 shows that, between 2014 and 2017, the stock of flexible floor space recorded a robust growth rate of 35.7% per annum across Asia Pacific – much higher than in the US (25.7%) and Europe (21.6%)2.

Fig. 2: Robust growth of flexible floor space stock in Asia Pacific2

Fig2-Co-working-space-Asian-office-market

In 2018, demand for flexible workspace accounted for 15% of total leasing volume in Asia Pacific in the first half of the year, up from 5% in early 2017. The average lease size by flexible space operators was about 30,000 sq. ft 3.

The expansion of Asian flexible office space is not just the result of a low base and stronger office demand driven by stronger economic growth4 and business expansion. It also stems from favourable government policies that encourage knowledge-based start-ups and entrepreneurialism in a bid to offset the slowing growth in traditional industries, such as manufacturing.

Case in point: Singapore

In Singapore, for example, the co-working market grew by 53.9% year-on-year to 700,000 sq. ft in 20175 .

Beyond a workspace for freelancers and smaller start-ups, multi-national corporations are also attracted to co-working spaces given their more flexible settings. In 2017, for example, Australian developer Lendlease Group moved 100 of its 550 Singapore-based staff to The Work Project at OUE Downtown6 .

According to real estate consultancy firm CBRE Research, Singapore’s co-working market size will likely grow by more than 80% to 1.2 million sq. ft. by the end of 2018.

Recovery in office rents

The co-working model is boosting Singapore’s office rental market, which is recovering from the pull-back in 2017 caused by a high volume of new supply. The latest data further supports our view that Singapore’s office market is indeed recovering. In the third quarter of 2018, CBD office rents rose 2.3% quarterly, reaching S$9.93 per-square-foot (psf.) per month – the sixth consecutive quarter of rental growth7. Anecdotal evidence also points to sharply higher spot rents of >S$11psf per month in Grade A prime offices.

This recovery has been driven by Singapore’s stronger-than-expected economic growth for 2017 of 3.6% in gross domestic product (GDP), followed by a 4.3% yearly growth in Q1 of 20188. The improvement in economic fundamentals has seen higher employment growth and company formation in the key occupiers for office space rental (see Fig.3).

Fig. 3: Key indicators of office-occupying sectors in Singapore9

Fig3-Co-working-space-Asian-office-market

Strong demand for co-working spaces, coupled with tightening supply, is expected to support office rents in Singapore down the road. The average new completions for the coming five years (2018-2022) is estimated at 1.2 million sq. ft. This is less than the average completion in the last 10 years (2008-2017) of 1.85 million sq. ft. The office market is expected to face tighter supply in 2019 and 2021. See Figure 4.

Fig. 4: Grade A core CBD office demand, supply and rent forecast5

Fig3-Co-working-space-Asian-office-market

Officer owners have the advantage

While co-working operators play an important role in the rental market, they have low barriers to entry and only 48% of co-working centres in Asia are profitable10. Office owners can easily launch their own co-working brands, take over the operator role and capture the rental spread.

In addition, office stock in many Asian markets is controlled by a relatively small number of owners, compared to the United States where commercial holdings are much more dispersed. Hence a single office owner’s decision not to lease space to a co-working space operator has a far greater impact, as it leaves operators with limited choices.

Office owners, therefore, rather than operators, are in a better position to take advantage of the co-working trend.

Office owners who already offer co-working spaces, however, cannot afford to become complacent and should continually adapt to meet shifting workspace requirements. This could include integrating technology components into their premises, such as adding smart sensors and building management systems, hence providing a better user experience for the tenants.

Optimal balance of co-working space

While Asian Real Estate Investment Trusts (REITs) present an avenue for investors to ride on the co-working trend, investors still need to be selective in identifying the property owners that can create value from this trend.

Over-exposure to flexible space, for example, may bring down the value of a prime office. At the same time, ignoring the short-lease flexible market may not optimise rental income.

According to a survey conducted by CBRE, half of property investors believe that allocation under 20% of a building to flexible space –  both serviced offices and co-working spaces – can enhance the property value, while allocating more than 80% of a building to flexible space would hurt the property’s value10.

Office owners also need to choose the right co-working operator to work with, by evaluating their ability to service an existing asset’s or neighbourhood’s tenant mix.

Only by getting the optimal mix of traditional and co-working base in their portfolios as well as having the right partner(s) can office owners successfully benefit from the co-working phenomenon in Asia. 


Pearly Yap

Portfolio Manager

Equity Income

How to invest in Eastspring's fund(s)

Source:
1Investopedia and Eastspring Investments. For illustrative purposes only. *Rental income = rent x units let. DD to the demand curve facing the office owner.
2Spotting the Opportunities: Flexible Space in Asia Pacific, JLL Research, July 2018. CAGR refers to compound average growth rate. Based on a sample of 11 key Asia Pacific markets.
3Exploiting the Agile Revolution: Prospects for Landlords and Investors | CBRE Research, October 2018.
4Regional Economic Outlook: Asia Pacific, International Monetary Fund, April 2018. Asia contributed 62.1% to the global growth, based on 2017 estimates.
52018 Asia Pacific Real Estate Market Outlook | Singapore, 2018 CBRE Research.
6https://www.straitstimes.com/business/lendlease-tries-its-hand-at-co-working The Strait Times, March 2017.
7https://sbr.com.sg/node/109689 Singapore Business Review, 30 September 2018.
8Ministry of Trade and Industry (MTI), April 2018.
9Companies formed (net of cessation): Department of Statistics Singapore, citing data from Accounting and Corporate Regulatory Authority, data as at 31 August 2018 (year-to-date), data extracted on 24 October 2018. Office-occupying company sectors refer to the industries of finance & insurance, information & communications, and professional, scientific and technical services. Employment: Department of Statistics Singapore, citing data from Ministry of Man Power, all mid-year figures (June), data as at 30 June 2018; office-occupying sectors refer to the industries of finance & insurance, information & communications, and businesses services.
10Exploiting the Agile Revolution: Prospects for Landlords and Investors | CBRE Research, October 2018.

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