2009 - A time for Property Reassessment?
The ongoing financial crisis internationally now gives us an opportune time to reassess the current property boom being experienced in Papua New Guinea and especially Port Moresby. At the time of writing, it is clear that both commercial and residential stock remains in short supply and there is no immediate sign of rental pressures subsiding. The economic crisis overseas however sends a strong cautionary note to us that what has driven the extremely good conditions at home, namely high commodity prices may no longer be able to sustain the current buoyant conditions. The construction boom has been generated by a number of factors of which the most dominate has been the need to replenish old stock. Deloitte Tower was commissioned ten years ago and since that time we have not seen any major commercial development. Also in that time Gross Domestic Product has expanded greatly and the economy has taken on a more competitive and diversified base. Clearly construction of both commercial and residential has lagged behind the positive changes undergone within the economy over the last decade.
The construction boom has also been driven by a raft of other factors including political stability brought on by the Political Integrities legislation, and financial sector reforms, all undertaken by the Morauta government. This has provided the environment of greater stability and certainty that gives rise to investment confidence. The other driving factor has been the flurry of activity surrounding the potential start of the Exxon Mobil gas project. There has been a lot time and money invested in the preliminary work, to make this project becoming a reality and the danger in a slowing world economy is that projects of this magnitude maybe sidelined or delayed.
In the exuberance that naturally comes with a burgeoning PNG economy over the last few years, we often forget how fragile this reality can dissipate if there is a change in some of the key drivers. Already we are seeing a raft of data, often anecdotal that the economy while on a different and far more positive growth projectory is never the less not as decoupled from what is going on internationally as first expected. Signs are emerging of
• Lower commodity prices translating into lower government receipts,
• Less certainty as to the timing of the gas project
• Lower occupancy rates in major hotels and
• A slight softening in property prices at the upper end.
Similarly inflationary pressures are evident and the likelihood of higher interest rates is also becoming more of a certainty over the next six months. The dream run of a 6% growth rate in Papua New Guinea is still within reach, however signs are emerging that the economy’s bubble is slowly deflating.
So what implications does this have for property in Papua New Guinea? Over the last few years we have behaved in someway as a fixated gambler, betting the house on one card – in this case the gas project. If it comes off in the time frame expected, the enormity of the project will drive a number of ancillary industries that will require commercial, warehouse and residential property and this should keep property markets fairly buoyant. However what if the one card bet does not play out in the anticipated time frame? – Unfortunately the outcome could be far more sobering. Let me preface what is being argued by the fact that the author has no knowledge as to whether the gas project will be on time, delayed or even shelved.
Currently under construction (estimates) in Port Moresby there are
Hotels and Serviced apartments
• A minimum of 92 rooms being added as serviced apartments (now in a market where hotels are finding occupancy rates falling)
• An additional 140 hotel rooms by Steamships Limited.
• An additional 290 hotel rooms will be added on the completion of Vision City by RH.
• A minimum of 100 hotel rooms at four mile
• An additional 60 hotel rooms by Airways Hotel Limited
• Additional hotel room’s ear marked for the Holiday Inn.
Commercial
There is currently approximately 18,300 square metres under construction in Port Moresby central business area of which NASFUND is building 11,000 square metres over three sites, of which will be the first offered to the market. Of the 11,000 square meters, over 4,000 have been pre let.
Additionally on the drawing board there is a further 43,000 square metres in the Town, Gordons, Waigani drive area. To give you an idea of size, we are looking at the equivalent of another four Deloitte Towers over the coming three to five years coming on stream, if all projects commence as planned.
Apartments
Apartment (non-serviced) estimates are close to another 140 coming on stream in the next few years.
Clearly we have an enormous construction boom at present which is contributing to the strong performance of the PNG economy but built on a premise that the economy will absorb this new construction. Without the gas project, the medium term prognosis is that the economy will not absorb this anticipated supply. With firming interest rates some of these projects will be put on hold or shelved. Effectively we will also see higher vacancy rates and a corresponding cap on rents.
The implications from a worst case scenario are:
1. Those companies that began commercial construction early will be the winners. It’s now a case of “first in best dressed”. Their projects will be leased before a serious downturn in property should occur and be able to lock in some good rents. We will also see tenants migrating from older buildings to newer construction. Old commercial stock in town even with attempts to renovate will fail to keep tenants as preferences shift to newer, cleaner and better air-conditioned offices. Similarly, traffic congestion in Port Moresby town has become a serious issue and there will be a tendency of tenants to shift to Harbour City to escape this difficulty.
2. The effects of the Harbour City constructions in Port Moresby will be seen within 12 months when at least nine floors around town will be freed up as tenants move to the new premises. Clearly the freeing up of office space in Town expected early 2010 will signal the beginning of rent stabilisation.
3. Accommodation will behave similarly but within a longer time frame due to the current construction lag. While we anticipate that the high Kina/AUD exchange rates will most likely fall over the coming year, it is important to note that the high Kina value is already causing dislocation in the accommodation market for AID advisers and consultants.
4. Hotel and serviced accommodation outlook will significantly face downward price pressure due to oversupply in the medium term exacerbated by the fall in international business travel and need for short term corporate stays. Further as more apartments are constructed, many long term “hotel dwellers” will shift from hotel accommodation to apartment living. Already there is anecdotal evidence that demand for hotel accommodation in Port Moresby is weakening.
5. The current economic crisis internationally and the issues as raised will also be reflected in the thinking of lenders. Banks and other institutions in Papua New Guinea are already assessing these risks and obviously lending to some construction projects may not eventuate. Higher interest rates also may negate project returns.
The NASFUND property strategy has been as follows
Immediate Commercial Focus
NASFUND has concentrated on CBD land and commercial construction. The focus as discussed is driven by the fact that there has been no major commercial construction since Deloitte Tower in 1996. Most commercial space is aging and in need of an urgent upgrade. Add to the fact that there is a shortage of quality space and we have a rental market skewed well in favour of landlords. Top end rates for commercial leasing sit at around the K700- K850 per square metre including outgoings. Out goings represent around 25%-30% of a buildings total revenue, so all up costs can be close to the K900 -K1,000 per square metre when outgoings cost are passed through to the client. Middle quality buildings are around K500-K600 per square plus outgoings. In 2007, NASFUND estimated the shortage of commercial space at around 11,000 -14,000 square metres, equivalent of one Deloitte Tower. We have no reason to assume it is much higher than that at present. In this respect, NASFUND having conservatively estimated the size of commercial requirement has not over extended itself so as to cause any large immediate vacancy issue within its own portfolio. That combined with the fact that NASFUND committed well before other developers and chose premier sites for construction like at Harbour City, means that it is well ahead on the leasing curve.
NASFUND has also not fallen into the trap of constructing more large buildings like Deloitte Tower, as while they end up being cheaper on a square metre basis to build, they never the less do have some significant downsides within a PNG context. Those downsides include
1. Continual lift and air-conditioning problems that come with large buildings (including sourcing parts and expertise) and
2. Large buildings in a diversified portfolio reduce flexibility. That is it is easier to sell buildings in the K30-K50 million range than buildings worth in excess of K100 million. Simply put there are very few institutions able to afford buildings in that price range.
NASFUND Land Bank Strategy
Land holdings also feature strongly in the plan. NASFUND has effectively land banked parts of Port Moresby for future development. NASFUND’s view is that the economy is undergoing a fundamental shift in what we describe as the “Asianisation” of Papua New Guinea. More and more of the economic resources will be eyed by Asia and especially the Chinese to meet their long term insatiable appetite at home and this will include secondary spin off developments like hotels, accommodation and commercial space.
With the long term economic scenario we are facing, it is imperative that NASFUND took centre stage on securing a large footprint in the CBD of Port Moresby. Any major development will mean local participation and ensure equity benefits are also enjoyed by Papua New Guinea workers through their superannuation.
Land banking is important for the future as it presents a low cost foothold on future development. To that end NASFUND has secured a 50% interest in the undeveloped land adjacent to BSP head office, land on, the potential to redevelop the Burns Philp site and 4,000 square metre of prime residential land at the top of Lawes road.
While we do not want to throw a too negative picture on the coming three to five years, we all need to take a more realistic cautionary approach on what potential downsides exist if the economic crisis is prolonged and or the gas project delayed. I will leave the readers with these thoughts.
A senior retired head of Banking who had lived through a number of these cycles in Papua New Guinea said to me once – “just remember, the country like resource markets tends to go through booms and busts.- while it is exciting during the booms, the busts tend to bring you down to earth quickly.” I remember nearly ten years ago with a brand new building called Deloitte Tower and only one tenant. I remember the rent free periods of 12 months, free fit out costs and low rents just to induce tenants; and I also remember that it took five years to fill. - Sobering thinking if you get your timing wrong.
Rod Mitchell is the Chief Executive Officer (CEO) of National Superannuation Fund (NASFUND) of Papua New Guinea. This article was published with permission from Rod Mitchell. He can be contacted at
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