The commercial real estate landscape in Australia is undergoing a transformation, influenced by corporate hesitations and strategic landlord investments. As we approach 2025, landlords and occupiers must navigate a complex environment shaped by rising fitout costs, evolving tenant expectations, and a cautious corporate approach to real estate decisions.

Workplace Fitout Costs on the Rise

The demand for high-quality amenities in office spaces is escalating, leading to a significant increase in workplace fitout costs. According to the Australian Bureau of Statistics (ABS), construction costs have been rising steadily, with a notable impact on commercial fitouts. In 2023, the average fitout cost ranged from $1,200 to $4,500 per square meter, depending on the level of amenity and customization required.

Tenants seeking spaces under 500 square meters are increasingly opting for well-fitted spec suites to expedite their move-in process. The emphasis is on immediate availability and high-quality finishes, which landlords are leveraging to attract and retain tenants. New tenants are not just looking for a physical space but are prioritizing the overall experience and services an asset can provide, including wellness facilities, concierge services, and lifestyle amenities.

Landlord Investments to Enhance Asset Quality

Understanding the shifting demands, landlords are investing heavily in their assets to meet and exceed tenant expectations. The inclusion of amenities such as End of Trip facilities is now considered a baseline offering. Premium and A-grade assets are going a step further by integrating agile workspaces and touchdown areas outside the traditional tenancy footprint. Major property groups like Investa, Dexus, and ISPT have introduced flexible spaces within their buildings to cater to the evolving needs of occupiers.

These strategic investments are crucial for landlords aiming to drive tenant outcomes, whether securing new leases or renewing existing ones. The focus is on creating an ecosystem that supports tenant businesses and enhances employee satisfaction, which, in turn, fosters long-term occupancy and stable returns.

Corporate Occupiers Exercising Caution

Corporate occupiers are taking a measured approach to real estate decisions amid ongoing uncertainties about the return to office trends. Many are hesitant to overcommit to space, leading to a trend of downsizing rather than expansion. This cautious stance is influenced by factors such as hybrid work models and the need for flexibility in lease agreements.

A notable example is Amazon's announcement in early 2023 to reevaluate its office space requirements in Australia, reflecting a broader corporate sentiment. This hesitation is prompting landlords to explore innovative solutions, such as subdividing floors into smaller suites to minimize the loss of Net Lettable Area (NLA) and appeal to a broader range of tenants.

Construction Costs Stabilizing but Labor Remains Expensive

While material costs, including steel and other building materials, have shown signs of stabilization, labour costs remain elevated due to ongoing infrastructure demands and labour shortages. The ABS reported that construction labour costs increased by 2.5% in the second quarter of 2023 compared to the previous year. This persistent rise is attributed to a competitive labour market and significant infrastructure projects that continue to absorb skilled workers.

Subcontractor pricing remains tight for commercial work and workplace fitouts, with many builders aggressively bidding to secure projects and maintain cashflow and operations. This environment creates both challenges and opportunities for landlords and occupiers looking to undertake construction or refurbishment projects.

Industrial Assets in High Demand

The industrial property sector across the eastern seaboard continues to thrive, with a robust development pipeline. Speculative builds are commencing in various markets, driven by strong demand for logistics and warehousing space. Older stock with smaller Gross Lettable Areas (GLA) is also in demand, prompting refurbishment efforts to modernize facilities.

Despite the general strength in industrial development, large-scale manufacturing investments remain subdued. Many industries are cautious about investing in new equipment and fitouts until there is greater economic certainty. While the industrial sector is buoyant, there's a noticeable pause from manufacturers awaiting more favourable conditions.

Residential and Build-to-Rent Gaining Traction

In metropolitan hubs, residential and Build-to-Rent (BTR) developments are beginning to also regain traction. Planning changes in New South Wales, particularly the introduction of Transport Oriented Development legislation in May 2024, have spurred initial project kick-offs that will help the residential pipeline over the coming years with fast tracked government approvals. However, medium-rise residential developments face challenges due to build cost implications affecting return on investment.

The BTR sector is gaining popularity as an alternative asset class, although it's still in the early stages of the cycle. High materials and labour costs present financial hurdles, but the long-term outlook remains positive as demand for rental housing continues to grow in urban areas.

Looking Ahead to 2025

As we approach 2025, the interplay between corporate hesitation and proactive landlord investments will significantly shape the commercial real estate landscape. Landlords who invest in quality assets and amenities are more likely to attract and retain tenants in a market where occupiers are cautious about space commitments.

For occupiers, the focus will be on flexibility and value. The rising costs of workplace fitouts necessitate a strategic approach to space utilization, balancing the need for high-quality amenities with cost considerations.

In conclusion, patience and strategic investment are key for both landlords and occupiers navigating the evolving real estate market. By staying attuned to market trends and tenant needs, stakeholders can position themselves for success in 2025 and beyond.

By Mark Blinco – Knight Frank National Head of Project Management.