Has Denis O’Brien had a Morgan Kelly moment?

Could Denis O’Brien be right about the Dublin office market, when he warns that we are now in an over-building “bubble”? Has Denis had a Morgan Kelly moment when he has spotted something everyone else has missed?

Property experts say no. But it would be unwise to dismiss the warnings of O’Brien, himself an investor in commercial property and someone with an insider track on Irish business. There are cranes everywhere, as he says. The question is whether there will be tenants for all the buildings when they are finished.

Much will depend on whether the extraordinary run of growth now being experienced in the economy continues, as it is this which is underpinning demand. With 400,000 square metres of office space in the pipeline and due to hit the market over the next couple of years, we need the current mix of potential tenants – IT companies, financial firms, State enterprises and general commercial interest – to keep expanding.

‘Pipeline’

So what do we know about the market? Well last year demand was strong in Dublin. The market has recovered from the post-crash squeeze, which saw rents rise by 49 per cent in 2014 alone due to a chronic shortage. Since then supply has recovered.According to Marie Hunt, head of research at CBRE Ireland, take up of office space was 330,000 sq m in 2017 and the pipeline for 2018 is 240,000 sq m, with – crucially – 40 per cent of this already accounted for and a " strong pipeline in demand [for space] ." She said in a tweet that she did not agree with Mr O'Brien and that office supply is well-controlled in the current cycle.

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However she added: I agree, we need to keep an eye on it.” According to Hunt, if all the projects for which there were planing permission were to proceed, the picture could be different. “But at this juncture getting funding for speculative development is difficult, so supply appears well controlled.”

The reason for closely watching the market is that it is now in a mature phase, with a lot of capacity having come on stream since the market collapsed during the crash. Rents are still rising, but more slowly than in 2015 and 2016. And typically at some stage of the cycle, over-supply takes hold.

John McCartney, director of research at Savills, says there has been six office market cycles since the 1950s and each time oversupply eventually takes hold – as is the case in markets across the world – leading to rents falling and building slowing down.

However he does not feel we are there yet, in the current cycle. Vacancy rates are around 9 per cent, he says, and typically would be 12-15 per cent before rents topped out and then started to fall. He does not expect this to happen until “ after 2019” with the exact timing depending on the mix of supply and growth in the meantime.

At CBRE, Marie Hunt has forecast continued strong uptake of office space this year, the bulk of it resulting from expansion by existing occupiers, but also some benefit from the Brexit effect, with some financial companies relocating to Dublin.

Caution

Financial investors have been key players in the market, with JP Morgan’s purchase of a building in Dublin’s Docklands the biggest transaction of 2017. One reason for O’Brien’s caution, however, are signs that the flood of financial companies relocating from London to Dublin because of Brexit may be less than anticipated.

Dublin has won some projects – likely to deliver thousands of jobs, according to Taoiseach Leo Varadkar in Davos – but other locations are competing strongly and many big players in London are still taking a “ wait and see” approach.

In a mature market there are typically also winners and losers as growth slows and rent rises moderate . All the property experts point to the importance now of location, of the quality and flexibility of space, the area in which the office is located – often itself subject to development – and public transport links.

In a tight labour market these are all vital to attract the best staff. Some developments are moving out of suburban areas where rents are lower, but only where public transport is available.

There are likely to be winners and losers in the speculative developments current in construction or planning.And in the longer term O’Brien points to the trend towards flexible and remote working which means organisations will need less “head-office” space.

Projects

O’Brien also pointed to the financing structure of some projects as posing a risk, particularly where fund investors are providing part of the cash and looking for a locked in and high return. Property buyers here who bought into overseas developments during the boom will be all too aware of how such structures can collapse in on themselves if trouble hits.

Non-bank lenders are now a bigger part of the property story here - partly due to the slow crawl of the Irish banks back to health. On the flipside, there is also more equity in many projects, which can be a stabilising factor.

With a lot of supply due to high the office market, the bottom line question is whether demand will hold up over the next few years. Businesses are keen not to return to a situation of soaring rents, a point made by the Dublin Chamber of Commerce, who argue that new supply remains important to accomodate an expanding economy.

If the current rosy forecasts for the economy are proved correct it may well do so, for this year anyway. But the office market is somewhere near the top of its current cycle. And there is no doubt it is vulnerable to a few specific risks over the next few years , such as a pull-back by the US tech sector,a disappointing harvest of post-Brexit investment, or a general slow down in growth. Indeed an interesting question, given his forecast about the office market, is whether Denis O’Brien has gone a bit bearish on Ireland.