2021 was the year of the recovery of office real estate after the Covid-19 lockdowns: the largest volume of new supply in the last 10 years, recovery of rental rates, high rate of gross absorption. In 2022, it was expected that rental rates would increase, companies would move to higher-class offices, and a new offer would be launched on the market. But a full-scale invasion by the Russian Federation, fierce battles for Kyiv at the beginning of spring canceled all plans, the market stopped, and then had to adapt to new realities.

Property Times, together with experts, summed up the extremely difficult 2022 in the office real estate segment.

Stages of development

The beginning of 2022 was encouraging for office and coworking market operators. Conventionally, the year can be divided into several stages. The first stage is January-February, before the start of a full-scale invasion. At the beginning of the year, the market was at the stage of growth.

Yuliya Lytvynenko, director of IWG plc in Ukraine, gives the following description of this period: “The market is active, there is a lot of demand and supply. Active development of new facilities, investments in long-term projects. Rising rental rates.”

The second stage lasted from the end of February to June. It can be described briefly in one word – shock. “There were no active actions on the part of both the tenants and the landlords regarding the rental relations. The market froze,” comments Levon Papoyan, a partner at SnP Partners.

According to Yulia Lytvynenko, this is the stage of the greatest turbulence. “The rapid increase in vacancy (from 10 to 60%) despite the provision of rental holidays and discounts. New projects have been put on hold until the situation in the country stabilizes. A 50% drop in rental rates. Reduction of the cost part by 64%. At the same time, our Lviv location was completely filled to 100%,” this is how the expert characterizes this period.

According to CBRE Ukraine, until the end of June 2022, leasing activity was very limited, represented by individual extensions of lease agreements or their revisions. In June-July, there was an awareness of the reality. “During this period, rare lease agreements take place. The vast majority of tenants are still studying changes in the market, as well as trying to determine short-term office rental plans for the near term,” says Levon Papoyan.

The third stage is approximately June (July)-October. “The rate of vacancy growth is slowing down: the release of office space continues, but not so rapidly. Development is on the way. “Rental rates have stabilized at the level of -50-60% compared to pre-war,” comments Yuliya Lytvynenko. In the second half of 2022, rental activity remained restrained and was due to the extension, rearrangement and reduction of existing office space, CBRE Ukraine experts note. During the 3rd quarter, market activity revived, but after the October attacks on the capital and the power system, the market returned to a wait-and-see position.

And the fourth stage, which began around October and lasted until the end of the year, was characterized by a certain revival. “It is difficult to call what was happening at this stage a ‘boom’. The market came to life, there was a fairly large number of requests for renting offices in safe areas far from critical and military infrastructure, – Levon Papoyan comments. – After the start of massive rocket attacks in October, requests for uninterrupted energy supply were also added to the demands. The number of vacant office premises with completed renovation has significantly decreased, and the vacancy rate in professional co-working spaces has also significantly decreased.”

According to CBRE Ukraine, as of December 2022, the annual volume of rental activity was about 40,000 square meters, which is more than four times less than in 2021 (about 185,000 square meters).

Relocation: from Kyiv and to Kyiv

The process of business relocation began even before the full-scale invasion began. Some companies took care in advance of moving offices to the western regions of Ukraine, and in some places even abroad. But, as noted in CBRE Ukraine, at the same time there were tenants who hoped in the first weeks of aggression that Kyiv would remain a safe place and the war would end in the coming days or weeks. “Already in the first 3-4 months of the war, the trend of return migration to Kyiv after relocation to the west of the country began to form embassies, as well as representative offices of the European Union. Also, some businesses that were interested in ensuring safe and uninterrupted operations for themselves weighed all the risks and relocated to safer areas from the frontline areas in the first months of the full-scale invasion,” – CBRE Ukraine commented.

“After a significant outflow of personnel in March-April 2022 from the eastern regions and Kyiv to the center of the country and western Ukraine, IT specialists will gradually (September-December 2022) return to the big cities: Kyiv, Kharkiv, Dnipro, Odesa”, – Kostyantyn Oliynyk, head of the Department of Strategic Consulting of the UTG company, shares his observations.

Review of contracts, win-win conditions, flexibility

The Ukrainian office real estate market did not live up to the worst expectations predicted for it at the beginning of the war, and quickly adapted to new realities, although it remained limited due to military aggression, noted CBRE Ukraine. Not the last role in this was played by the ability to negotiate, which the market participants managed to polish even during the times of covid lockdowns. “After the covid times, the majority of tenants and landlords have formed approaches to dialogue in force majeure circumstances. Many arrangements have often been copied since then. In particular, the provision of rental holidays, the provision of a discount for a certain period of time,” – says Levon Papoyan .

“The main partnership today is both on the part of the tenant and the landlord, focused on preserving business and jobs. Therefore, in negotiations, we aim to find win-win conditions for each of the parties, – emphasizes Olena Zabuzhko, commercial director of BFC Gulliver. – In the pre-war period, companies invested in office projects – they considered spacious premises in the shell&core format (without renovation) and leased them on a long-term basis for three years or more. Because of the unpredictable situation in the country today, companies have more flexible expectations. Currently, there is a trend and demand for small office premises with renovation and furniture – in the “move-in-work” format, and contracts are signed for a shorter term.”

“We tried as much as possible to meet our residents: we reviewed the terms of the contract, offered other locations, provided additional opportunities and tried to find a common solution,” – says Yulia Lytvynenko. Flexibility has helped operators of the office and co-working space market to survive the most difficult times.

Those who did not learn to negotiate lost.

“In the Ukrainian industry, the culture of co-working spaces is still at the stage of formation, accordingly, the relations between operators and landlords are still not fully established, and two-way communication does not take place with everyone, especially regarding more flexible terms of cooperation. Those landlords who were and are the least flexible, who demanded to pay 100% of operating costs or rent, have already emptied or are gradually losing occupancy, – comments Ilya Koenigshtein, founder and CEO of the Ukrainian chain of office spaces Creative States. – Flexible ones – they do not have outflow. So, for example, the administration of BC Gulliver allowed us to connect Creative State of Gulliver to its generator. We also reached an agreement with the partners of the Creative State of Dnipro location: a bomb shelter – Creative States Shelter – was set up on the parking lot, without additional payment. At the Arsenal, there is complete synergy with the partners of A Development: they provided us with a powerful generator and together we very decently equipped a shelter for residents with all the necessary conditions not only for work, but also simply for a safe stay there and a feeling of ‘normality’”.

In general, during the year, tenants responded to the war with two main approaches: large international companies did not reduce leased office space and took a wait-and-see position by paying full or partial rent, while smaller and local companies, where possible, reduced office space or moved to smaller, more budget business centers, mainly on short-term lease terms, CBRE Ukraine notes. “However, moving to new buildings was not widespread and accounted for only 35% of the total deal structure, as one of the biggest obstacles holding back business owners from moving is the direct costs of moving, especially related to renting offices in shell&core”, – analysts explain.

Rental rates

Since the start of the full-scale invasion, rental rates have dropped significantly. Market participants call different figures – the subsidence was from 10 to 50%, depending on the stage and individual agreements. “Since the beginning of the war, we have reduced the payment – in the summer it was generally half the price,” – comments Ilya Koenigshtein. – Today it is still 5-7% lower than the pre-war level. In addition, flexible discounts were made for residents during the war. They immediately offered the function of ‘freezing’ offices, when places and offices, with all things and equipment in them, remained fixed to residents until their return to Creative States.”

“We analyze the indicators every month and build an individual approach taking into account the cost component of the tenants, such as, for example, changes in tariffs for communal services,” – says Olena Zabuzhko. – It is worth noting that, as of today, there is no traditional slice of the rental rate as such. Firstly, this is due to the fact that each management company has its own cost component, responding to urgent market demands. Someone bought more diesel generators, someone invests in the latest security systems, someone arranges high-quality shelters. Secondly, the priority task of landlords now is to compensate for the maintenance of the object and to retain partners. After all, this forms the level of rates for the current time, and this approach will be maintained until the situation in the country stabilizes.”

“Since the beginning of the war, rental rates have decreased and have never returned to pre-war levels. We must respond to the market situation, especially to economic changes and exchange rates. Since we have contracts in foreign currency, we understand that this affects our residents, especially those who work for the domestic market, – shares Yuliya Lytvynenko. – The rates have decreased by 50-60%. We are aware that some co-working spaces offer pre-war prices, but unfortunately we cannot confirm the readiness of the market for pre-war prices. And for once we do not see a basis for increasing the rent of our locations.”

According to data provided by CBRE Ukraine, prime rental rates decreased by an average of 16% – from $25 to $21 per square meter/month since the beginning of the year. Rental rates in Class A ranged from $18 to $26 (-7% at the lower end), and in Class B from $7 to $17 (-22% at the lower end and -15% at the upper end of the year).

“However, in this case, the asking rental rates are not indicative, as the actual or effective terms of the deals are often significantly lower than stated and, in fact, may be 20-50% lower. As a result, there is a significant gap between the stated and actual terms of the agreements, as landlords continued to provide significant discounts on rental rates in order to maintain occupancy and revenue streams, or to attract new or retain existing tenants,” – the analysts note.

Kostyantyn Oliynyk, head of the UTG Strategic Consulting Department: “Yes, if in January 2022 the rent for 1 square meter per month cost in class “A” = $28.1, in class “B” = $17.9, in class “C” = $11.9 (excluding VAT, OPEX, KP and BOMA coefficients), then at the beginning of January 2023, it is possible to state a decrease in rates by at least 30% (especially taking into account changes in the exchange rate of the national currency against the US dollar).” As noted by Levon Papoyan, the rental rates achievable during negotiations are divided into two categories:

– military rate for 1 year/for the period of martial law: 40-50% of the agreed post-war rate;

– post-war rate.

“Taking into account the additional negative factors of October/November (attacks by the occupiers on the energy infrastructure of Ukraine, the unpredictability of scheduled/emergency power outages, the increase in the cost of energy carriers, the increase in the price of utility bills, and with them the OPEX (including due to the increase in vacancy and the distribution of operating payments to a smaller number of operators ), the cost of office maintenance / heating), it can be assumed that the burden on tenants will continue to increase, and rental rates will continue to decrease in the near future,” – predicts Kostyantyn Oliinyk.

New offer

Systematic and emergency power outages have provoked the emergence of improvised “co-working spaces” sometimes in the most unexpected places. “Look at the latest news and the concentration of the word “co-working” in the headlines – parking lots, churches, restaurants, even pre-trial detention centers, in their imagination, offer Kyivites today places where they can come to work. Of course, it cannot be compared with such systematic and large-scale players, but in the imagination of people, it greatly shakes the concept of co-working, – comments Ilya Koenigstein. – If you have Starlink and a generator, this is not a reason to call yourself a co-working space, because the main basis is, in fact, the community and understanding its needs and interests. Therefore, the situation today is quite spontaneous: there are systemic and strong operators that have survived, and chaotic offers of places with light and Internet.”

In general, the annual volume of the new offer was about half of what was planned for the end of 2021 (about 215,000 square meters), according to CBRE Ukraine. Instead, 4th quarter of 2022 became the most “productive” in terms of the introduction of new office facilities, when about 97,000 square meters entered the market and as a result the total volume of office real estate was about 2.21 million square meters (+5% y/y). A new offer in 2022 was presented by the Gradient BC (62,000 square meters), on 4, St. Korolenkivska, Unit.City B6 (14,000 square meters) and Unit.City B15 (9,000 square meters) campuses on 3, St. Dorohozhytska, and the reconstruction of the shopping center with the Lake Plaza business center on 12A, St. Heroes of the Azov Regiment (former M. Malinovsky).

Adaptability

Permanent blackouts and communication interruptions have become a driving force for the office market. Employees who have switched to remote work since the first covid lockdowns had to return to offices to be able to work fully during the power outage. Offices and co-working spaces were able to quickly adapt to new conditions and offer their residents uninterrupted Internet and provide electricity even during emergency shutdowns. In addition, business centers that had underground parking were able to satisfy the demand for a security component.

As noted in CBRE Ukraine, co-working spaces have become a really good way out for many people who have faced blackouts or blackouts. At the same time, the circumstances forced a change in the approach to visiting offices and for employees. So, in order to have stable access to the Internet, light and heating, employees began to visit offices, and now they were able to wait out air raids in equipped bomb shelters at the base of the BC.

“Critical conditions for attracting new tenants and reducing the risk of losing current ones are: the presence of a diesel generator and a stable Internet connection, an equipped bomb shelter, or a shelter in the building itself or in the immediate vicinity,” – says Levon Papoyan. “Despite the fact that office real estate is traditionally considered a less adaptive segment, current circumstances force us to quickly transform in order to provide the options necessary for work today, – comments Olena Zabuzhko. – With the beginning of a full-scale invasion, the first step was to quickly equip security zones in case of air alarms. Moreover, now, in addition to security, additional service requirements are imposed on shelters in the business center. Yes, today the storage in the office complex is a real underground co-working space with full-fledged workplaces, connected to backup power and provided with stable access to wi-fi. The next challenge was the threat of a possible “blackout”, which still persists. Therefore, the main task of landlords today is to ensure the full functioning of the facility due to backup power, stable Internet, technical water and additional services for residents, which makes the building autonomous. Thus, today offices are a safe location, where all the conditions for smooth and effective work are created for the company’s employees.”

“We have more than 12 locations, each of them has its own characteristics. Currently, our Spaces locations in Kyiv and Lviv are equipped with generators and connected to several Internet providers for uninterrupted operation. Also, most of the Regus locations are equipped with generators and uninterruptible power supplies,” – Yuliya Lytvynenko shares her experience.

“Our locations are fully equipped with all the necessary conditions, with uninterrupted power supply, stable connection and equipped shelters, – comments Ilya Koenigshtein. – Today, the occupancy of locations has almost reached pre-war levels: in the capital, Creative State of Arsenal – 90%, Creative State of Arsenal 2 – 100%, Creative State of Gulliver – 80%. In Dnipro, the results are also good – in the Creative State of Dnipro, we reached 85%.” Together with the office segment, co-working spaces equipped with uninterrupted power supply and the Internet began to perform the function of “points of unbreakability”, providing customers with a safe and comfortable shelter. Also, they have become a place where you can safely wait out an air raid not alone, but together with others, in a place equipped for this purpose, notes CBRE Ukraine.

Forecasts

Experts are restrained in their forecasts, because the development of the market will depend entirely on the situation at the front. Under favorable conditions, the market will begin to recover gradually, a return to pre-war/pre-quarantine indicators is expected no earlier than a year and a half after the victory.

Kostyantyn Oliynyk: “Business activity and demand for office real estate are closely related to the end of hostilities. We can optimistically assume that the market will return to pre-coronavirus indicators in a year and a half after the end of the war, especially against the background of the international public’s loyalty to Ukraine (possible entry into the EU), the appearance in the country of new European organizations, enterprises, brands, especially those that closed offices, factories, factories, shops and completely left the territory of Russia, which can lead to the rapid prosperity of Ukraine with the status of the main economic center of the post-Soviet space”.

CBRE Ukraine: “It is expected that the situation on the market will remain restrained, given the uncertainty regarding the duration and intensity of military operations and the macroeconomic environment. However, for the most part, most market players have already developed a clear strategy – to continue working in difficult conditions with a wait-and-see approach regarding future decisions. As such, demand for office space will remain depressed in the medium term due to employee safety risks, power outages and a stagnant economy, and new construction and even redevelopment will likely not be considered until the situation stabilizes. However, the situation may change at the first signals about the successful end of hostilities on the part of Ukraine.

If the construction of 57,000 square meters is completed in 2023 of the declared new office offer, we will observe a slight increase in vacancy. While rental rates for quality office space are likely to remain unchanged, special discounts and lease terms will still remain popular in the market.” Olena Zabuzhko: “It is impossible to predict how the situation with blackouts will develop, since the energy infrastructure of the country is under constant crosshairs of enemy fire. Therefore, facilities with full autonomy will be in high demand. We are talking about light, heating, water supplies and stable internet.

Companies that have chosen a hybrid work format will consider flexible spaces such as coworking spaces. Demand for the latter in current conditions has shown impressive results. In addition, this format is especially convenient for freelancers, representatives of small businesses and entrepreneurs who currently cannot afford to rent classic offices.” Many coworking spaces, in addition to basic services, offer today’s urgent options in the form of showers, laundry rooms or sleeping capsules.

It is important to note that prices for utility services have increased significantly. If no one paid attention to this expense before, today it can be three times more than the pre-war level. It is likely that the growth dynamics of this component will continue in 2023. So, the top trends for 2023:

active development of co-working spaces,

formation of functional centers (IFC, industrial parks, etc.),

safety and autonomy of the building,

increased service requirements,

decline of outdated business centers.

Ilya Koenigshtein: “I would like to believe that the industry will become more systematized and ordered. Standardized. But for this you have to fight. We are trying to systematize all the experience gained in 2022. Just as after the first wave of the pandemic in 2020, our standards were picked up by a significant number of players in the market, we can see how we are being followed. The model of co-working spaces works optimally precisely during crises. Although all the previous ones, of course, are nothing compared to what we are all going through today.

Moreover, we plan to scale all this experience by launching new locations in Kyiv and Warsaw, which we are currently working on. Let’s not run ahead, because first we want to develop a truly unique product for the European market and present it there as a Ukrainian project. Regarding the forecasts of the co-working space industry in Ukraine for 2023, these are undoubtedly the leading positions of flexible system operators. The final decline of the shell & core format, when companies with 100-200 employees come into the office, do their renovations, and spend a lot of time setting up relations with the landlord and waiting for his understanding. Small niche players will appear, but those that cannot guarantee residents quality, stability, and security will close.”

Levon Papoyan: “It is difficult to make forecasts in wartime. Any forecast may not be realized the very next day. Judging by the current situation, the market will slowly but surely fill up. Rental rates will not increase, rather, landlords will become less flexible in the negotiation process. Rapid growth will be observed after the victory of the Ukraine Armed Forces, both due to the fact that many companies will begin to return their personnel from other countries, and due to new business. And here the rates can increase significantly, because at a certain stage the demand can exceed the supply.”

Yulia Lytvynenko: “Unfortunately, the situation will remain difficult and difficult to predict. Many businesses and entrepreneurs are returning to offices because it is important for them to have a stable place to work with light and the Internet, but the further development of their behavior is very much related to the course of the war. We do not try to look into a magic bullet, but try to adapt to situations as quickly as possible. If previously the main priority was network development, now we are focused on business support and stable operation of existing locations. But the most important thing remains – we continue to work and continue to believe in victory. Entrepreneurs need quality workplaces, and we remain on their side in 2023.”