Getting bullish on central kitchens and offices

THE July 6, 2018, cooling measures will put a dampener on residential collective sales, which have been driving big-ticket property transactions since the second quarter of last year.

Given the volume of money in the global system in search of investible assets, investor attention may turn towards the industrial and commercial sectors, where regulations on the purchase and sale of properties are not as onerous as those applied to the residential sector.

One sub-segment of the industrial space market that is thriving and still related to the government's productivity push involves the food industries, particularly central kitchens.

What is a central kitchen?

A central kitchen (CK) is a focal point where food is prepared, semi or fully cooked before delivery to outlets of a dedicated food & beverage entity or a multitude of F&B customers. The central kitchen is located either in an outlet of an F&B establishment or in an industrial property.

The focus here is on the central kitchens within industrial properties which we believe is the next hot industrial sub-sector.

Are central kitchens then widely adopted? In a survey conducted by the Singapore Productivity Centre of 50 large food services companies here, the majority (68 per cent) responded that their central kitchens are already standalone facilities. In other words, the market for central kitchens is already an established one.

With retail rents stuck in high gear and a crunch on foreign labour hires still in force, F&B establishments have been and will continue to optimise their space requirements in malls. This translates to greater demand for central kitchens.

Also, there has been a burgeoning of F&B set-ups in recent years and retail mall landlords, realising the challenging times faced by traditional retailers, are embarking on further asset enhancement initiatives (AEIs) for their existing malls to improve the mechanical systems and floor area layout to take on higher F&B content.

The statistics on the cumulative net business formation numbers for F&B trades shows it has been growing strongly since 2013.

The cumulative number of F&B businesses formed since 2013 increased about 25 per cent between June 2017 and June 2018. Since January 2013, the F&B sector has been witnessing much stronger growth in net new business formation than the manufacturing sector.

Although many F&B outlets lack the scale to set up a central kitchen, the increasing formation of F&B businesses plus increasing allocation of space, both from existing and new malls, to F&B operators, will have a positive correlative effect on the demand for central kitchens.

Rentals of central kitchen space depend on location. In established food zones - such as in the MacPherson and Pandan Loop areas - rental rates range from S$2.70 per square foot (psf) to S$3.50 psf a month, while rents in the north (Woodlands, Senoko) are in the S$2.50-plus range.

Prices depend on the tenure of the land as well as location. Freehold central kitchens located in the central part of Singapore, for example, the MacPherson area, can see prices above S$1,250 psf while those in Mandai, being on 30-year leases, range from S$370 psf to nearly S$500 psf.

For new food factories on sites with 60-year leasehold tenure, we expect prices to be around S$950 psf - if located in the established food zones in Jurong, for example, in Pandan Loop.

In summary, quite a few factors are driving the demand for central kitchens. These are:

Office space bright spot

Offices are another sector that will continue to fuel investment sales activity in the Singapore property market.

Savills forecasts that nearly 800,000 sq ft of Grade A CBD office space will be completed in Singapore this year - emanating mainly from Frasers Tower in Cecil Street. The supply of Grade A office space this year is a drastic climbdown from the 2.25 million sq ft for 2017.

Therefore, although demand this year may be lower than last year, the deceleration rate in new completion plus the unexpected "saviour" for secondary market-office space (that is, space vacated in older office buildings by tenants relocating to newer developments) that came in the form of co-working space operators, gave landlords the confidence to raise asking rents.

Recall that during the 2016 to early-2018 period, tenants were committing to new buildings that were being completed either in 2017 or 2018. Their move was driven by the early-bird sign-on rents in these new projects as well as the incentive to move because their existing space and fit-out was already well-depreciated. Then, the move was what we call a flight-to-new buildings.

So, as landlords of existing CBD Grade A office space consistently push the envelope for higher renewal rents, the push factor on their tenants increases and this gives landlords of buildings completing in 2020 and beyond greater confidence to stick to their asking rents. These asking rents of buildings in the pipeline were punched into their Excel spreadsheets a few years ago and are by no means low.

However, if landlords of existing stock use this supply lull to reset renewal rents to a level that is very much higher than the desktop-processed rents for new buildings completing in 2020 and beyond, it will end up as a win-win situation for both.

This means that Grade A offices at the fringe of the CBD, due to their relatively lower rents, will stand to benefit tremendously from the base effect when rents of similar buildings in the core CBD start to all enter double-digit rental levels.

On a practical note, once Paya Lebar Quarter begins to be substantially filled up, finding Grade A space in the S$7.50- S$9 psf monthly rental range will be something of a tall order.

Currently, institutional investors still cannot bring themselves to look at the Singapore office market beyond the traditional supply-demand nexus at the macro level.

The complexity of the market means that many of these sophisticated investors may fail to see how entry rents and therefore yields can be improved further from current levels. But the office market dynamics in the era of startups and new occupational concepts such as co-working space, defies linear thinking.

Instead of looking at the cost of tenancy for an occupier, a more appropriate observation would be - the reason that office rents are high is because tenants are finding Singapore an attractive place to do business, and this shall still be the case in the foreseeable future. In our view, office investments should therefore continue to show steady momentum.

Alan Cheong is senior director of research and consultancy at Savills.

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