South African Office Sector as an Investment Opportunity

SOUTH AFRICAN OFFICE SECTOR AS AN INVESTMENT OPPORTUNITY TABLE OF CONTENTS DECLARATION CHAPTER 1: THE RESEARCH BACKGROUND 1.1Introduction 1.2The research problem statement 1.3The research questions CHAPTER 2: BRIEF REVIEW OF THE RELATED LITERATURE 2.1Real Estate Investment as a Wealth Creation Tool 2.2Real Estate Investment Framework CHAPTER 3: ANALYSIS OF THE SOUTH AFRICAN COMMERCIAL OFFICE SECTOR 3.1Position of South African Listed Property Sector 3.1.12012 Performance 3.1.22013 Performance 3.1.3First Quarter of 2014 Performance 3.2Status of South African Commercial Property Market 3.2.12012 Performance 3.2.22013 Performance 3.3Condition of South African Office Sector 3.3.1Nominal Gross Market Rental Growth across All Grades of Regional Offices 3.3.2Nominal Growth of Regional A-Grade Office Gross Market Rentals 3.3.3Regional Pioneer-Grade Office Gross Market Rentals 3.3.4Regional A+-Grade Office Gross Market Rentals 3.3.5Regional A+-Grade Covered Reserved Parking Gross Market Rentals 3.3.6Rental Escalation Rates on New Leases across All Grades of Regional Offices 3.3.7Typical Gross Outgoings for All Grades of Regional Prime Offices 3.3.8Escalation Rates on Outgoings across All Grades of Regional Offices 3.3.9Capitalisation Rates for A-Grade Multi-Tenanted Regional Offices 3.3.10Typical Rent Free Periods across All Grades of Regional Offices 3.3.11Regional Vacancies CHAPTER 4: SUMMARY, CONCLUSIONS AND RECOMMENDATIONS 4.1Summary and conclusions 4.2Recommendations references

CHAPTER 1: THE RESEARCH BACKGROUND

1.1Introduction

South Africa’s four traditional asset classes are equities, property, bonds and cash. As diversification essential to investment strategy, most investors opt to include either listed or unlisted property within their portfolios. According to Jones Lang LaSalle (2014: 5), around R15.8 billion of the R29 billion worth of sale transactions in 2013, an approximate 54.00%, occurred within the South African office sector. The value of transactions in the office sector improved from R7.6 billion in 2012 to R15.8 billion in 2013, an increase of around 109.00%. Approximately 60.00% of all sale transactions in 2013 occurred in the decentralised office nodes of Gauteng alone. The significant increase in the value of transactions was attributed to the aggressive acquisition of quality office properties by listed property funds. The most prominent transaction in 2013 was Growthpoint’s purchase of The Towers in Alice Lane, Sandton Central Business District (CBD) from Tiber on a 7.40% yield for R563.6 million. Investors’ review of the abovementioned data may leave many with the perception that the office sector might currently be the best performing property sector in South Africa. In order to determine the accuracy of such a perception, most investors will conduct a thorough analysis of South Africa’s listed property sector, professionally managed investment property portfolios and office sector on a nodal basis.

1.2The research problem statement

Insufficient research by investors negatively impacts their broader understanding of the South African office sector’s current performance.

1.3The research questions

• How has the South African listed property sector been performing in comparison to other asset classes over the short term?
• How has the South African office sector been performing in relation to the national retail – and industrial sectors since 2012?
• How are the various nodes of the South African office sector currently performing?

CHAPTER 2: BRIEF REVIEW OF THE RELATED LITERATURE

2.1What is outsourcing?

Outsourcing may be defined as a contractually managed relationship between a vendor and an enterprise whereby the vendor undertakes responsibility for a business function of the enterprise, which may have been performed by in house staff (White and James, 1996, p. XIV; Barett, 1995, p. 124). It can more concisely be described as the contracting of functional specialists to manage business units that lay outside the framework of the organizations principal activities (Dominguez, 2006, p. 5). Quelin and Duhamel describe outsourcing as the operation of shifting a function previously governed internally to an external supplier through a long-term contract, and involving the transfer of staff to the vendor for the firm. According to their definition, five features typify strategic outsourcing:

• A close link between outsourcing processes and the key success factors of a firm in an industry.
• The transfer of ownership of a business function previously internalised, often including

a transfer of personnel and physical assets to the service provider.

• A global contract, longer and denser than a classical subcontracting agreement.
• A long-term commitment between the client and the service provider.
• A contractual definition of service levels and of each partnerA­s obligations.

Outsourcing is a process whereby an organisation transfers a function, previously governed internally, to an external third party via a service level agreement. It generally involves an organisation contractually conferring its staff and management responsibility to an autonomous vendor (Quelin and Duhamel, 2003: 652; Barrett, 1998: 124). Brown and Wilson (2005: 20) define outsourcing as the ‘act of obtaining services from an external source’.

2.2What can be outsourced?

Outsourcing it not limited to services but also embraces business processes. An organisation can outsource any function it considers non-core and supportive of its main business. According to Unnico (2001) services being outsourced by organisations include: Table 1: Services being outsourced

Custodial Architecture Trash Security Grounds Food Plant Facilities Management Space Mailroom Records Moves

Reprographics Energy Audio Visual Cleanroom Commissioning Logistics Shipping Integrated Facilities Management Subcontractor Management Storeroom Routine Maintenance Production

Brown and Wilson (2005: 22-23) states that the most prevalent commercial functions being outsourced by organisations are information technology, administration, distribution and logistics, finance, human resources, manufacturing, contact centres / call centres, sales / marketing, real estate / facilities management and transportation. The most predominant elements of business outsourcing encompass: Table 2: Element of corporate outsourcing

Human Resource Services Knowledge and Decision Services Operations Support Services Marketing Services

Customer Interaction Services Back Office Transaction Processing Information Technology and Software Operations Finance and Accounting Services

2.3Why outsource?

The business environment as we know it changes continuously. The main drivers of such change are the revolution of technology, globalisation and financial pressure. In order for organisations to survive and prosper, it is imperative for them to focus on their core business functions. Core business functions are however reliant on non-core business functions and it is therefore essential for organisations to have a clear strategy to their support operations (Lee and Harris, 2001: 25-29). According to Brown and Wilson (2005: 45-47) the main drivers for outsourcing are:

• Fast tracking of re-engineering benefits;
• Access to world-class competencies;
• Cash injection from selling off assets to third party;
• Redeployment of internal resources;
• Need to re-evaluate problematic functions;
• Release and availability of capital;
• Enhanced company focus;
• Risk minimisation;
• Access to external resources; and
• Reduced operating costs.

2.4Risks of outsourcing

In order for an organisation to decide whether to outsource a business support service or process, it need to study the risks involved with outsourcing. According to According to Hinks and Hanson** (2001: 48-49) the disadvantages of outsourcing are:

• Inefficient service provision;
• Non-realisation of projected cost savings linked to outsourcing;
• Excessive costs relating to the re-absorption of outsourced functions;
• Vulnerability relative to an organisation’s core business;
• Risk of unexpected collapse of service provider;
• Fixed term contracted service providers not upgrading technology and training;
• Service provider experiencing process – or information technology failure;
• Overreliance on service provider’s support service;
• Dishonest behaviour by service provider;
• Security and confidentiality breaches by service provider;
• Sabotage by service provider;
• Breakdown of relationship between an organisation and a service provider;
• Disconnection between non-core function managed by service provider and core business managed by organisation;
• Organisation’s competitiveness may be affected negatively should a service provider struggle financially and be unable to invest in technological advances;
• Negative impact on company culture, operations and business objectives;
• Incompatibility as a result of an organisation and a service provider’s contrasting business objectives, work practices and business ethics;
• Reduced strategic input;
• Value loss due to fragmentation;
• Strategic dislocation and communication opacity between an organisation and a services provider; and
• Loss of key staff, expertise and knowledge.

2.5Benefits of outsourcing

It is imperative for an organisation to analyse the benefits of outsourcing, and to weigh them up against the risks associated with contracting-out, before marking a decision of whether to outsource or not. According to Hinks and Hanson** (2001: 48-49) the advantages of outsourcing are:

• ‘Reduced / variable overheads;
• Transfer of overheads from fixed to variable status;
• Removal of non-core operations allows management and investment to focus on the primary business activity (the core process);
• Savings in office space and equipment provisions;
• Possible staff cost reductions;
• Removal of uncertainty about future costs of maintaining effective and competitive business support;
• Reduced risk of costly errors arising from ignorance of the non-core practices;
• Investment risk transfer;
• Excellence of service can be achieved immediately;
• The service provider will be dedicated to that activity (no learning curve of division of interests);
• Access to market competitiveness and technological currency in the service provision;
• A downsizing of property commitments through outsourcing;
• Opportunity to get the company service provision out of a rut;
• The simulation of new solutions to problems from the appropriate mixing of different approaches;
• Scope for downsizing;
• Increases options for organisational re-structuring through property and human resource management flexibility;
• Access to specialist knowledge;
• Wider career scope for staff;
• Good in a fast-developing and / or highly technological area;
• Increased efficiency;
• Decreased headcount;
• Decreased cost of service;
• Access to world-class support; and
• Transfer of worry and risk’.

2.6Outsourcing Decision Process

Chapter 2 brown and wilson

2.7Role of Facilities Management Service Provider

2.8Selection of Facilities Management Service Provider

Chapter 6 brown and Wilson Chapter 5 wiley from 5.9 onwards

CHAPTER 3: ANALYSIS OF

3.1Position of South African Listed Property Sector

3.1.12012 Performance

CHAPTER 4: SUMMARY, CONCLUSIONS AND RECOMMENDATIONS

4.1Summary and conclusions

It is evident from the research conducted, that even though the South African office sector’s total return improved from 11.90% in 2012 to 13.60% in 2013, the sector’s performance remains inferior to that of the industrial – and retail sectors. Cape Town CBD remains the best performing city centre in South Africa. The top regional decentralised office nodes are Century City in Cape Town, La Lucia Ridge in Durban, Sandton CBD in Johannesburg and Menlyn in Pretoria. The South African office sector might recover during the course of 2014, should gross domestic product growth and employment figures improve, pending the implementation of the National Development Plan by the South African Government.

4.2Recommendations

Investors should ensure that they undertake adequate research in order to establish the true performance of a sector. Inadequate research can result in poor investment decisions. It is evident from the research that even though the office sector achieved the highest total investment transactions value of all three sectors in 2013, it remains the bottom performer in terms of total return. REFERENCES Capgemini and RBC Asset Management, 2013. World Wealth Report 2013. [online] Capgemini and RBC Asset Management. Available at: https://www.capgemini.com/resource-file-access/resource/pdf/wwr_2013_0.pdf [Accessed 08 May 2014]. Catalyst Fund Managers, 2013. Listed Property Sector Monthly Overview January 2013. [online] Catalyst Fund Managers. Available at: https://www.catalyst.co.za/documents/fundDocs/monthlyReview/catalystDomestic/2013/monthlyReportJan2013.pdf [Accessed 08 May 2014]. Catalyst Fund Managers, 2014a. Listed Property Sector Monthly Overview January 2014. [online] Catalyst Fund Managers. Available at: https://www.catalyst.co.za/documents/fundDocs/monthlyReview/catalystDomestic/2014/monthlyreportJan2014.pdf [Accessed 08 May 2014]. Catalyst Fund Managers, 2014b. South African Listed Property Review April 2014. [online] Catalyst Fund Managers. Available at: https://www.catalyst.co.za/documents/fundDocs/monthlyReview/catalystDomestic/2014/Monthly%20Report%20Apr%202014.pdf [Accessed 08 May 2014]. Cloete, C.E., 2005. Property Investment in South Africa. 2nd ed. Pretoria: The South African Property Education Trust. IPD, 2013. South African property delivers improved performance in 2012. [press release], 25 March 2013, Available at: https://www.ipd.com/about/media_centre/2013/SAPOA%20%20IPD%20South%20Africa%20Annual%20Property%20Index.pdf [Accessed 08 May 2014]. IPD, 2014. South African property delivers stable yet impressive performance in 2013. [press release], 26 March 2013, Available at: https://www.ipd.com/about/media_centre/news_archive/2014/IPD%20South%20Africa%202014%20Annual%20Property%20Index%20PR.pdf [Accessed 08 May 2014]. Jones Lang LaSalle, 2014. Commercial Real Estate Transaction Review: South Africa. [online] Jones Lang LaSalle. Available at: https://www.joneslanglasalle.co.za/ResearchLevel1/JLL%20Commercial%20Real%20Estate%20Transaction%20Review%20South%20Africa%202014.pdf [Accessed 08 May 2014]. Phyrr, S.A.; Cooper, J.R.; Wofford, L.E.; Kaplin, S.D.; Lapides, P.D., 1989. Real Estate Investment: Strategy, Analysis, Decisions. New York: Wiley. Rode and Associates, 2014. Rode’s Report 2014:1. Bellville: Rode and Associates. SAPOA, 2014. Office Vacancy Survey Report Q1:2014. [online] SAPOA. Available at: https://www.cmsignition.co.za/download/files_1047/SAPOAOfficeVacancyReport_April2014.pdf [Accessed 08 May 2014].

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