Stubborn office owners press yields to record lows

OWNERS of Melbourne CBD office buildings held onto their properties in the 2006-07 financial year, on the back of rising rents and capital values, and a lack of alternative investment options. The gridlocked environment has resulted in record low yields being achieved for what limited major office buildings have become available.

Analysts say average A-grade office yields now circle a record low 6 per cent, a drop of 0.25 to 0.75 percentage points from the same time last year.

The two biggest office sales for the financial year included 90 Collins Street for $139 million and 222 Exhibition Street for $162.5 million. Both sold on yields of 5.8 per cent.

"Investor demand across all classes of CBD office property is at its strongest point since the 1980s," said Knight Frank research manager Richard Jenkins. "Investors have begun to appreciate the high level of rental growth that will result from the rapidly tightening CBD leasing market. It has already happened in other cities such as Brisbane and Perth, and we are now witnessing strong growth in Melbourne too after a period of being undervalued."

Knight Frank says incentive levels - the rental discount landlords give tenants to occupy their buildings - have fallen to between 5 and 12 per cent today, compared with 10 and 18 per cent a year ago.

This is bad news for tenants, who now pay average rent of $300 a square metre for A-grade office space, compared with about $260 a square metre at the same time last year.

Meanwhile, for the 2006-07 financial year there were just 25 suburban office sales of greater than $2 million, compared with 44 sales for the previous year. Their value, however, rose 1 per cent from $323.3 million in 2005-06, to $326.7 million in 2006-07.

"The tight levels of investment turnover does not reflect lack of investor sentiment, rather it represents the tight market," Mr Jenkins said. "Limited opportunities in the CBD and fringe have resulted in more institutions exploring the suburban office market."

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