Research

Office Market Overview

Q4 2022

Germany’s office rental market shows no signs of weakness in 2022

January 20, 2023

Germany’s office rental market shows no signs of weakness in 2022

The current situation is causing a downturn in sentiment. This describes the past year in terms of economic trends and Germany’s office rental market. 2022 ended with an office take-up of 3.5 million sqm in the country’s seven major real estate strongholds, exceeding the same period last year by 6.5%. Few had expected such a robust growth in the market in the face of numerous challenges. The market has become more differentiated than ever before and a decoupling of prime office rents and vacancy rates was observed in the major cities. Today, it is no longer a paradox that both are rising in parallel. Whilst fierce competition for ultra-modern and ESG-compliant space is driving up rents in prime locations, it is proving increasingly difficult to find occupiers for peripheral locations with lower quality space, which is leading to a rise in availability. Both must be kept in mind when evaluating the market.

All the indicators that regularly survey the mood of consumers and companies show a rather gloomy picture at the end of the year. Nonetheless and to the surprise of most experts, some facts have turned out much better than expected. These include economic growth, which has not declined in the last two quarters but still registered a slight increase. Among the other positive surprises are the developments on the labour market: here, despite the energy crisis, high inflation and supply bottlenecks, the number of people in employment in Germany rose last year to a record level. Employment increased by 589,000 or 1.3% to around 45.6 million. Not since 1990 have so many people been in gainful employment.

This was due to the influx of foreign workers and an increase in the labour force participation of the domestic population. Almost the entire increase in employment, around 548,000 people, can be attributed to the service sector which, in purely arithmetical terms, created a need for additional office space (whether in the office, at home or in a co-working space) of around eight million sqm, if we assume 15 sqm per person. For the German economy and therefore also for the office market, attention is focused in particular on the following factors for 2023:

  • Slightly negative economic growth is expected in the first two quarters of 2023. The strength of this decline, or whether a recession can be avoided altogether, will depend on developments in the USA and especially in China. Here, it will depend on whether the current Covid wave can be brought under control. Otherwise, there could be renewed supply chain disruptions, supply bottlenecks, and new impetus for inflation as a result.
  • Energy supplies and savings, both in households and industry, remain a key issue, especially in terms of Winter 2023/24.
  • Companies in Germany are under immense cost pressure. Alongside energy costs, these include investment in sustainability goals and investment in employees and jobs.

In the office rental markets in Germany, cost pressure from companies is leading to a decline in expansive-driven demand, and an increased focus on lease extensions in an effort to avoid cost-intensive relocations. Some companies are also likely to seek to sublet any of their own space that is surplus to requirements.

Demand is robust, but the picture is mixed

These trends are not yet reflected in the current figures for the end of 2022. Although the office space take-up of 3.5 million sqm exceeds the previous year’s result, there are variations evident within the Big 7 office markets: whilst take-up in Stuttgart more than doubled to 305,000 sqm compared to 2021, the rental volume in Berlin fell by 12% to 765,000 sqm. In the capital in particular, companies from the technology sector, which were partly responsible for the boom in demand in recent years, have been less active. But across all cities the following considerations are generally applicable to users’ search criteria:

  • The property must be well connected to public transport;
  • The surrounding area must have good infrastructure and amenities;
  • The office space must have a very good fit-out specification; and
  • Sustainability requirements must be met.

These aspects are increasing significantly in importance. They include not only energy consumption and carbon emissions, but also social components such as a feel-good atmosphere, and flexible working hours and workplace models. Offices have to be attractive to be used.

All this can be attributed to the ‘Flight to Quality’ trend. In 2022, Grade A space accounted for around 70% of new lettings; with a rental take-up of 3.5 million sqm in the Big 7, that is still almost 2.5 million sqm of top-quality space that has found an occupier.

For 2023, JLL anticipates a decline in demand of around 10% over the year as a whole due to the imminent economic downturn. However, the market must be seen in the context of the different sectors. Office rentals are traditionally dominated by the service sector. Business service companies alone have accounted for more than 17% of rental take-up on average over the past ten years. The situation is different for industrial companies which also require office space, often on a larger scale, and which are in second place over the long term, with an average share of almost 13% of take-up. However, the extent to which the current crises surrounding supply chains, inflation and energy are having an impact on the overall corporate cost balance is evident from the noticeable slump in their share of take-up to 8% in 2022. This year, especially in manufacturing, we will see a dichotomy emerge between energy-intensive sectors such as the chemicals and steel production companies, and less energy-intensive segments such pharmaceuticals. This is likely to be reflected in the number of employees and therefore in the demand for office space.

Vacancy rates and space available for subletting continue to rise, albeit moderately

In the past year, rising demand was matched by an overall increase in supply in space available at short notice (vacancies) and completed new-build space. As a result, the vacancy rate across the Big 7 increased by just under 9% year-on-year to 4.7 million sqm, with the vacancy rate rising accordingly from 4.5 to 4.9%. The trend of only moderately increasing vacancy rates observed since the beginning of the year continued in the final quarter of 2022. JLL expects the volume of vacancies to rise more sharply, especially for poorer quality office space: With occupiers focusing on prime space, when a move is completed, the space released rarely meets the requirements of new tenants and becomes vacant. Such space can only be placed on the market with corresponding rent reductions or after a comprehensive refurbishment. This situation ultimately means that the volume of vacancy is no longer the sole indicator for rental trends. With companies adopting new workplace models, more space is expected to be released than additionally rented. JLL therefore expects the vacancy rate to increase by 60 basis points over the year, to reach 5.5%. As a consequence, some companies are breaking new ground. In times of crisis, subletting to reduce space and costs is always an option. Currently we have recorded a volume of 735,000 sqm on offer on the market in this form. It makes up just under 16% of total vacancies, which is only a slight increase of 2 percentage points compared to 2021. Although the volume of space available for subletting is likely to increase during 2023, we do not anticipate a sharp rise in this indicator. If space is not currently needed, many companies see it as a strategic reserve, either to implement new workplace concepts or to continue offering attractive office workplaces to new employees. Alongside general economic trends, much will depend on the extent to which new or refurbished space is completed on time and ready for occupancy. Survey data from the construction industry published by the European Commission signals some improvement here. Only around 30% of the developers surveyed report materials and supply bottlenecks that hinder their construction activities, compared to over 50% in May 2022.

Slight easing in building prices – project pipeline stabilizes

Building prices also improved towards the end of the year. The Federal Statistical Office’s Building Price Index rose by just 2.8% for office buildings at the end of the third quarter, down from 6.8% in the second quarter and 4.7% in the first quarter of 2022. However, the situation will remain volatile in 2023, as global material and commodity prices continue to normalise in the absence of further military escalations and, above all, new lockdowns or disruptions to manufacturing in China. A further 500,000 sqm of office space was completed in the final quarter of 2022, bringing the year’s new construction volume to 1.76 million sqm, around 10% more than in 2021. Over 70% of this space was already let at the time of completion. Over the past three months, the completion of almost 200,000 sqm more, planned for 2022, has been delayed until 2023. As things stand, around 1.8 million sqm of space is currently in the pipeline for this year, most of which is already under construction. Currently occupied or pre-let space makes up 55% of this, but this share is likely to rise further over the course of the year.

Prime rents rise year-on-year at their highest rate since 1992

The current growth in prime rents could hardly have been expected with the momentum which has now been registered. In the fourth quarter, JLL’s Prime Rental Price Index rose at its highest rate since 1992, reaching over 257 points, an increase of 13% compared to the previous year.

Across the Big 7, the prime rent has moved upwards, in some cases significantly, by between just under 5% in Munich (to €44.00/sqm) and more than 33% in Düsseldorf (to €38.00/sqm). Rental increases were to be expected, but not to this extent. The prime rent in Stuttgart also continued to rise and, with an increase of 29% to €33.00/sqm, achieved a similar rise to that of North-Rhein-Westphalia’s state capital. This was due not only to individual and small deals, but also to the letting of thousands of square meters in some cases. Düsseldorf and Stuttgart are representative of a trend that can be observed in all major cities: the early securing of high-quality space in the best locations, especially by service companies in fierce competition for skilled workers and talent. Combined with increased building and fit-out costs, such lettings lead to correspondingly high-priced deals.

JLL expects demand to remain strong and persistently high for prime properties in the best locations in 2023. Companies, especially in business services, are willing to increase their investments in space. There are also signs of a slight easing in the service charge burden (especially in terms of electricity and gas charges) and JLL expects prime rents to continue to rise as a result.

Contact us

Our Office Market contacts:

Office Leasing:
Stephan Leimbach, Head of Office Leasing Germany

Office Investment:
Jan Eckert, Head of Capital Markets DACH & Office Investment Germany

Research:
Helge Scheunemann, Head of Research Germany

 

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