Justin Thom
Galetti Corporate Real Estate
Director
The country’s office sector continues to rebound, reaching vacancy rates of just 14.2% in Q2 ’24 (SAPOA Office Report). This improvement marks the eighth consecutive quarter of reduced vacancy rates, underpinning encouraging rental growth revision in South Africa.
Justin Thom, Director at Galetti Corporate Real Estate, believes much of the sector’s renewed strength can be attributed to reinvention. “Major landlords are working hard to improve spaces and change how we look at space in general.”
He adds that subdued demand during the COVID-19 pandemic helped restore the connection between landlords and tenants. “Perhaps two of the biggest game changers of the pandemic would have to be the enhanced flexibility and collaboration between landlords, brokers and tenants.”
Due to reduced demand and financial strain on businesses and landlords alike, subletting has emerged as a lifeline in the commercial property sector, a trend that Thom believes will continue to gain ground.
“While interest rate cuts and an improved GDP are paving the way to recovery, some tenants tend to take a more cautious approach.”
Subleasing Unpacked
In subletting, Thom explains that the original tenant becomes the sublessor or a sublandlord of the sublet space.
“Some tenants, who can no longer afford or may not need a large floorplan, are turning to sublease to help cover the monthly bills associated with leasing commercial properties. And in the spirit of collaboration, landlords are open to this because they want to keep their anchor tenants, cover their overheads and fill up the space.”
In addition, deploying a subleasing strategy minimises risk. “Spreading a lease repayment across several companies may be a sound strategy in a tough economic climate.”
Thom adds that subleasing provides smaller companies who might not have otherwise had access to prime office space with the opportunity to position themselves in some of the country’s most sought-after locations and spaces.
“Smaller companies and agencies can now work among some of the country’s largest tech, financial and legal companies, as some examples,” he says. “It also allows them to lease real estate in central business hubs like Rosebank, Sandton, Waterfall, Umhlanga and Cape Town CBD, areas where they may not have otherwise had access to.”
In addition, prominent office REITs like Redefine are finding innovative ways of deriving income from alternative subleasing platforms. “As much as 95% of Redefine’s portfolio comprises P- and A-grade office spaces. In recent years, the company has also generated alternative income from its non-GLA (Gross Lettable Area) assets—a strategy that has proven to be highly successful.”
In an interview with John Jack, CEO of Galetti Corporate Real Estate, Dylan Koning, National Alternative Income Manager for Redefine, spoke to the success of this strategy. “We don’t have restrictions on where we can operate,” he explains. “Common non-GLA areas in our retail portfolio include rooftops, parking areas, parking lots, basements, undeveloped land, etc.”
“Other income generators include media, kiosk space, venue hire, promotional spaces and rooftop leases to Mobile Network Operators (MNOs),” adds Koning. “If there is an opportunity, I can guarantee you that 99% of the time, that opportunity is already in play.”
This has paid off, with Redefine highlighting a net operating income level increase of 4.1% in its office portfolio. “This result has, in fact, outperformed their industrial portfolio – one of the country’s most stable asset classes,” comments Thom.
The Legalities of Subleasing
Thom notes that while subleasing may be a viable option, it can become complex.
“The sublessee’s obligations are to the tenant, and not the landlord, which leaves the landlord with little control in the case of damaged property and late payments.”
However, he adds that most tenant contracts support and protect the landlord’s interests regarding subleasing. “The tenant has to bring the sublease agreement to the landlord for approval before signing, and the landlord has the right to refuse the sublease request on reasonable grounds, such as if there is a lack of affordability.”
In a case where the sublessee defaults on payments, Thom says that it is still the tenant’s responsibility to make the payment to the landlord on time.
Thom adds that hot desks or co-working spaces must be handled by the landlord directly, and not via the tenant. “This is a more complex matter requiring detailed consultation before conclusion.”
Will Landlords Embrace Short-Term Leases?
“There is another school of thought centred around short-term leases to stimulate demand,” says Thom. “As it stands, most commercial leases span periods of anywhere from three to 10 years. However, this is a major stumbling block for tenants looking for flexibility in the current climate – particularly SMMEs.”
“This may work in the B-Grade stable, for instance, where the tenants are still finding their feet, rather than A-Grade or P-Grade, where offices are designed around the tenant for the most part. This could be looked at as a small business incubator as such.”
Thom concludes that regardless, the collaboration will pave the way to accelerated recovery by the sector. “Against all odds, the commercial property sector continues to fight back and as the environment improves, so does the sector’s outlook. Regardless of what trend emerges next, there is longevity in the commercial property.”