A few days ago, this Times article came out, causing quite a stir. All sorts of speculation was flung about. Are co-working providers now soliciting investment from buy-to-let landlords? Is this going to fuel a bubble? Will hapless investors who think they are securing their pension end up with their dreams dashed as did those who bought into the US subprime market in the late 2000s if (when?) the co-working bubble bursts?
In reality, things aren’t quite so dramatic. Let’s start with the article. Galliard Group, one of London’s largest privately owned developers, launched Evolve: a property business that will build affordable workspace schemes and from which investors can buy stamp duty and business rate exempt individual units for their own use or for rental purposes. This seems like a reasonable proposition; it’s also an indicator of the evolving office market and investments landscape.
According to Alex Colpaert, Head of EMEA Offices Research at JLL, the overall “flex space” (flexible office) market grew by 28% in Europe alone in 2018 and is expected to continue at this rate of growth for the next five years. To quantify this, over 7 million square meters of stock will be added in Europe by 2023, pushing the total European market size to 10 million square meters. These growth figures are huge but start from a relatively small base. Today, flex space is only 2% of the total European office market and slightly higher in more mature cities like London (5%) and Amsterdam (7%). Expectations are for market shares in central business districts to exceed 15% in the next five years, driven by increased worker mobility and the different expectations of under 35s for their office environment. Within this flexible model, 90% of operations still run under traditional long leases to landlords. More and more investors are moving into this space, and consolidation activity can be expected as profitability in the sector more often than not comes with scale.
Charlie Green, CEO of The Office Group, believes that a shift in power from landlords to occupiers is driving growth in flex space. The advent of technology in business has made everything faster, and it is now hard for many occupiers to forecast their long term space needs. Moreover, thanks to technology, occupiers now have access to information they never had before. They are starting to require facilities and services which will allow them to attract top talent and help create the right corporate culture for their business.
There exist a variety of solutions to cater to different needs but, according to Green, controlling the entire building sits at the heart of delivering a successful product. Therefore, though selling individual spaces to buy-to-let investors could bring them good returns, it comes with a risk to the investor. If you don’t control the entire environment, you can’t deliver the full service, which is a danger for small landlords in the very competitive landscape of flexible offices. One solution might be for the scheme’s developer to manage all common areas and facilities.
Alex Edds, Director of Innovation at JLL, agrees. He thinks that in a good location with a solid and proven operator managing the space, this model could generate good returns – provided the necessary trading infrastructure can be built. “However,” he told me, “my fear is there will be a growth in second-tier markets and fringe locations, built on the hype of this trend, which will be a far higher risk when the market is in decline.”
I decided to take this train of thought a step further. Given the above, should individual investors buy desk (or shares) in co-working spaces? Edds reckons it may be an inevitable evolution of the market, similar to the crowdfunding phenomenon in residential property. Serial entrepreneur and founder of Eurasia PropTech Initiative Mete Varas agrees, as it is a model that has successfully been offered in the hospitality industry for some time and he expects it to trickle into the office industry. Tokenization of real estate and crowdsourcing will allow investors with limited resources to access markets such as this that have traditionally been the prerogative of big-ticket investors.
PropTech consultant Antony Slumbers thinks buy to let landlords should not replace their traditional investments with a model such as this. “Co-working is about delivering a service,” he says, “not selling a product. You are not investing in a bond. It cannot be successfully delivered unless by a completely committed, long term operator. Investing in co-working is to invest in a particular operator.”
One of the inherent risks of co-working lies in the tech like valuations that many of the players now boast. Edds and Slumbers both agree that, apart from a few operators, the vast majority of providers are too small and don’t have the tech or the brand to justify these multiples. This being said, traditional valuation models are also not suitable for co-working, so a new valuation paradigm will need to emerge.
What does this all mean for buy-to-let landlords looking to diversify away from the beleaguered residential sector? Buy to let is most often seen as a secure pension investment. Co-working, with tech-like valuations that are often unsustainable in a market where, according to Deskmag, 30 to 40% of operators aren’t profitable, would be a very different kind of play. Though the Galliard case is a conservative one that to a degree does reflect these investors’ risk profiles, any shift into a crowdfunding type model should clearly be seen for what it is – a riskier, more speculative game.