GUIDING LINES: Editor’s Note. The Price/Prestige Correlation

Such a steep increase in that market segment is indeed a landmark event. The growth in the supply of office space inevitably results in a stabilization of rental rates and even a reduction.

Top quality offices built according to international standards are still considered a new type of “work space” in Moscow. That segment of the office market is the most expensive and profitable.

From the 1990s when its development began and up until late 2004, developers have built 3.5 million square meters of class A office space. By the end of 1999 the market had only 1 million square meters of prime office space. By the end of this year 600,000 to 800,000 square meters are expected to be commissioned, according to forecasts by market analysts.

Those rates of construction will be maintained for several more years. The fact that the volume of construction within the next couple of years will exceed that of the past 14 years only serves to highlight the positive dynamics of development. But, rumor has it that rental rates in Moscow are likely to stabilize unexpectedly in this segment – possibly within as little as two years from now. That will happen when several major projects enter the market simultaneously.

Developers plan to commission even higher volumes of office space than have been announced officially, as many have still not made their plans public.

This year alone major projects like the 50,000-square-meter business park Krylatskiye Kholmy, where 90% of the space has already been snapped up by future tenants, the 53,000-square-meter Dukat Place–3, which has also been filled with tenants already, and Pollars, with 56,000 square meters, are all due to be completed.

All the major office developments are likely to enter the market simultaneously in 2006. As a possible consequence, growth will stop and rental rates may drop slightly, especially if offices are simultaneously offered for lease at the Moskva-City Moscow International Business Center and at the ZiL industrial park, with each of those projects expected to commission approximately 1 million square meters. For the time being, the weighted average rental rate amounts to $575 per square meter per year (excluding VAT and maintenance costs) for class A offices, and $435 for class B offices.

The class A office segment has already entered a stage of temporary price stabilization. Over the next six months the rental rates are not likely to change as the market pre-empts the commissioning of new office centers. Aware of those plans, potential tenants are not rushing to occupy existing properties.

But it is also quite possible that the expected upsurge in the supply of office space will not actually take place. If the established practice is anything to go by, all the developments will be commissioned in phases because their construction is quite time-consuming.

To begin with, development projects in Moscow take years to implement. Secondly, companies involved in the construction of class A and B offices are still few and far between on the market. The leaders are Capital Group, Mosenka, ST-Group, Sistema-Gals, Hines, Forum Properties, and Enka.

Besides, not all properties are offered for lease – some are built to order or for sale. Furthermore, properties in central Moscow – class A offices, for the most part – will still attract tenants and prices will remain high given the decreasing amount of construction possible in the area.

It should also be borne in mind that the behavior of prices also depends on macroeconomic factors, such as inflation, growing land rentals, fluctuations of major world currencies, etc.

Even if rentals stop growing in 2006-2007, then it will only be for a short while. Experts say that the market will not be saturated until the overall supply of prime office space reaches 15-20 million square meters. Forecasts vary as to when this is likely to happen.

At an annual rate of development at 700,000 to 800,000 square meters, that could happen in 14, or even 20 years, or maybe much sooner. Some even say that the sector will be saturated within five years from now.

The market demand is volatile. Demand for prime properties will depend on foreign tenants and their willingness to take root in Moscow, as well as on the number of domestic firms who can afford top class offices.

So far these two groups of consumers can be compared in terms of volume. In the first quarter of this year foreigners accounted for 40% of tenancy agreements.

Incidentally, the world’s leading rating agencies Moody’s, Standard & Poor’s and Fitch Rating recently upgraded Russia’s business rating, raising hopes for the arrival of new foreign investors. And for that their employees will need soft chairs, massive tables and light, spacious rooms.