THE office vacancy rate presents a serious problem for SA's property market, which cannot expect to escape the international fallout from the conflict in Iraq, says Old Mutual Properties MD Ian Watt.

The uncertainty arising from protracted efforts to establish a postwar governing authority and the threat of further conflict are likely to squeeze global demand and economic growth on the back of lower corporate profit and business and consumer confidence levels. In SA, says Watt, this is likely to affect the industrial and retail sectors, and the office market in particular, worsening the vacancy rate and knocking returns for investors.

The gravity of the problem is reflected in the latest Sapix-IPD property index figures, which show a 23,7% vacancy rate for total office floor space and office total returns of 5,1% last year almost half their long-term average, says Watt.

"This is an extremely serious problem that is going to take several years to resolve. The current state of the market cannot be construed as being part of the property cycle. It is largely the result of a frenzy of decentralisation, aided in part by reckless rezoning and an ill-disciplined and highly speculative approach to investment. This has been compounded by mergers and downsizing, and rationalisation of office space by major companies."

The office market is in much worse condition than is reflected by SA Property Owners' Association (Sapoa) figures, he says. Sapoa put Johannesburg city centre vacancies at 24,4% in December, Pretoria's at 17,4%, Durban's at 20% and Cape Town's at 15%.

"Talk of equilibrium returning in the short term is premature in the extreme. The Sapoa figures ignore space that has been vacated but is still under lease. In the UK this has proven to be at least as much again as the existing vacancies. The Sapoa vacancy report also does not indicate looming vacancies tenants who have signed elsewhere but still occupy existing space," says Watt.

"The malaise is countrywide, but particularly apparent in the Sandton and Johannesburg nodes. Overdevelopment, downsizing in financial services and upheaval in the technology arena have all contributed to a vacancy factor of above 17% in Sandton which compares to the 26% vacancy factor in Johannesburg's central business district."

Watt reckons that vacancies in Sandton may be double the 17% level a possibility "underscored by the sublease opportunities that abound" in the area. This is the pattern emerging in other international markets; the space may be leased, but is it occupied, and how efficiently?

A further complicating factor is that, internationally, office use is undergoing fundamental change. "Business structures are changing. So is the way business is done. We live in a mobile era with technology at its heart. Technology and restructuring have had a huge impact on office use."

Where jobs are being created, they are being created through vehicles removed from office space in call centres, which increasingly use industrialised buildings, as well as in the informal sector.

"The downward spiral (in the office market) has to be stopped. Then consolidation can take place. Buildings that are leased become overrented, with rents too high relative to the market, a factor that will happen, if it hasn't already happened, because of lease escalations and the desperate need for cash flow from buildings that are vacant."

Watt says he does not see rental levels at the 1999-2000 levels for at least another three to four years. "We also need to factor in the impact of inflation.

"Where we might see activity is because the existing supply is unsuitable for tenants' needs, leading back to building obsolescence being of some concern. Who wants to own a building that cannot be let? This will also lead to the need for longer lease terms for major office users 10 years plus as investors look to mitigate the risk."