Office Predictions 2021: Is the fate of the office market at the risk of over pessimism?

Since the start of the pandemic, the Work from Home (WFH) movement has gained widespread adoption and by today, it has become another common practice in the work culture. The introduction of vaccines is unlikely to turn the faces of senior management in offering employees the flexibility of working away from the office. From market feedback, we find that millennials also generally prefer to WFH. Then the drive to reduce CO2 emissions has been motivational in getting people to reduce work and non-essential trips. In short, we must accept that previous working arrangements have been upended and this can remain until global management ethos reverse direction.

The office market does not appear to be able to handle this WFH comfortably with observers side-stepping any commitments on how this will affect demand. One reason could be that they are still unsure what will transpire in 2021 when the pandemic is still raging on and whether even with vaccinations, resistance in cross border travel will be return to pre-pandemic levels. However, the WFH movement appears to be independent of what may come on the virology front and it is therefore apt that we address this today.

Let’s take a look at what the WFH movement has done to the office space landscape. To begin, we look at the pre-pandemic arrangement where an office desk is assigned to a worker who leaves their home to come in each working day. Figure 1 illustrates this when a desk in the set O (office) is assigned a worker in the working home group set (WH).

In a WFH world, this relationship changes with an expanded group of workers who now need not come to the office. Please refer to Figure 2.

What WFH has done is that those who need to return to the office full time are the residue of workers whose job functions cannot be performed from home. Looking at this in another way, if companies can draw up a checklist on whether a role is executable from home, then there exists a ‘job function’ that maps certain jobs to WFH and the remainder are those who will need to work from the office full time.

We believe that most companies would be studying into the possibility of having more jobs transferred to WFH. Our reasoning is this.

• In the initial stage of a Covid world, global economic activity will be low and until companies adapt to the new environment, which takes time, their focus will be on minimising costs on all fronts. Therefore, besides reducing spatial costs, many will also be looking for solutions on manpower costs.
• After Covid, global warming will be taking an increasing centrestage in the conversations and executables in almost all affairs surrounding the individual, corporate and government. Because WFH reduces commuter trips, it is the most effective solution to reducing CO2 emissions.
• Technology is the enabler that glues points 1 and 2 together to make WFH a possibility.

Unfortunately, technology is a double-edged sword. On the positive side, it improves productivity, reduces work trips (and thus reducing carbon emission) while maintaining or raising economic activity. However, if business conditions are dour, technology can show its negative side by reducing economic multipliers. Technology therefore may not necessarily be a friend for everyone. Who the winners and losers are isn’t yet clear because the market, as it is, still stumbles for answers on how various economic sectors would organise themselves in a COVID-world.

Up to this stage of our discussion, things do not appear too sanguine for the office sector if tenants choose to reduce their office footprint. But before we go on, we must ask whether WFH is a permanent feature of the office market, that is, will it still be the normal practice in the longer term? This means breaking down the time horizon into the short term and long term.

Short term

For the next one year, we believe that WFH will still be the mainstay of working life. Given strict border restrictions, multinational companies using Singapore to serve the region will be hobbled in terms of cross border staff movements. With increased friction to travel, business conditions for many (but not all) companies will be affected. The need to reduce office space is the expected outcome of any measures by these affected companies to reduce cost. WFH is therefore a consequence of such reduction in space.

But an overall reduction in office space may not be the case if certain conditions are met. What are these conditions? In brief, we believe they are:

• Companies continue to use Singapore as a hub, but this time, it will be as a virtual rather than physical hub;
• Singapore’s hub status expands to one that is global rather than regional hub. This is required because at a virtual level, a regional scale does not bring enough economic benefits. For instance, as a virtual hub, the number of staff required will be smaller and thus the field of coverage has to be wider;
• Companies stick to the parallel processing system in decision making. This means that major decisions for the region and even global ones will still be made out of Singapore;
• Companies remain undecided as to whether they wish to shrink their space usage or kick the can down the road till there is better visibility on how their industry will function in a Covid world;
• Companies would still want their employees to come back to the office for various reasons e.g. the need to effectively monitor their staff, having a collaborative work culture etc.

What has been discussed above is about the market reacting to the threat of Covid-19. In the short term, as countries and cities lockdown to counter the ranging pandemic, they see hope in the rolling out of vaccination programs. With the negative being countered by the positive, multinational companies could just defer their plans to shrink in any massive scale.

Long term

What happens in the long run? The answer is likely going to grow out of the answer to another question. That is, how will the office market behave if herd immunity develops? We now need to take a detour from the office market to the topic of herd immunity. The following two sections have been lifted off the John Hopkins Bloomberg School of Public Health.

1. What is herd immunity?

When most of the population is immune to an infectious disease, this provides indirect protection—or herd immunity (also called herd protection)—to those who are not immune to the disease.

For example, if 80% of a population is immune to a virus, four out of every five people who encounter someone with the disease won’t get sick (and won’t spread the disease any further). This way, the spread of infectious diseases is kept under control. Depending on how contagious an infection is, usually 50% to 90% of a population needs immunity to achieve herd immunity.

2. What will it take to achieve herd immunity with SARS-CoV-2?

As with any other infection, there are two ways to achieve herd immunity: A large proportion of the population either gets infected or gets a protective vaccine.

• In the worst case (for example, if we do not perform physical distancing or enact other measures to slow the spread of SARS-CoV-2), the virus can infect this many people in a matter of a few months. This would overwhelm our hospitals and lead to high death rates.
• In the best case, we maintain current levels of infection—or even reduce these levels—until a vaccine becomes available. This will take concerted effort on the part of the entire population, with some level of continued physical distancing for an extended period, likely a year or longer, before a highly effective vaccine can be developed, tested, and mass produced.
• The most likely case is somewhere in the middle, where infection rates rise and fall over time; we may relax social distancing measures when numbers of infections fall, and then may need to re-implement these measures as numbers increase again. Prolonged effort will be required to prevent major outbreaks until a vaccine is developed. Even then, SARS-CoV-2 could still infect children before they can be vaccinated or adults after their immunity wanes. But it is unlikely in the long term to have the explosive spread that we are seeing right now because much of the population will be immune in the future.

Returning to our work, we have constructed Table 2 which lists the number of people in each of the named countries by various levels of infection.

Graph 1 shows the cumulative infected population numbers versus time. The data is taken from the period 22 January 2020 to 13 January 2021. The forecast is made using a polynomial function of either degree 2 or 3.

Using 80% as the percentage infected required to achieve herd immunity (herd immunity is attained through infection and/or vaccination), we have laid out the approximate timeline required for these countries to reach that level. Please refer to Table 3. Why we use 80% is because: 80% of Singapore's population needs to be vaccinated to achieve herd immunity against Covid-19: Chief health scientist – Straits Times 17 December 2020.

We have left Singapore out because with Phase 3 in force, office space use is almost back to normal despite us not having achieved 80% herd immunity. We have also left out China and Japan because our ability to contain the spread of the virus is more likely to positively influence their attitude towards us. Because Singapore is an open economy, we need to focus more on our major trading partners which are having rapid rates of infection. As seen from Table 3, purely from human to human infections alone, an 80% herd immunity would be attained by early 2022 for the US, UK, Germany, France and Malaysia. It is only for countries like India, Indonesia and the Philippines that will take a significantly longer time to achieve that level. Infection rates in Australia are plateuing and are therefore containable through vaccination. We believe that these timelines represent the worse case (not worst) scenario because with an aggressive vaccination program, the timelines will be much shorter. That is, both transmission and vaccination are bringing the population to the 80% herd immunity level faster. This timeline has significant bearing on two fields impacting the office market. One is in investment analysis and the other is in valuation. We will discuss these two in brief.

Investment and Asset Management

Once herd immunity is in play, we question if WFH will still be the norm. If it isn’t, then a return to the office workspace may mean it will be business as usual (pre-pandemic asset management and investment guidelines) for landlords and investors. From feedback from large tech companies here, their underlying wish is still to have staff work in a communal environment where they can collaborate better. While we read or hear of tech companies setting timelines for their staff to WFH, the fact of the matter is that they actually prefer the old norm. Stepping out a little further, we believe that most companies will ultimately want their staff to return to the offices and this pressure will increase when business conditions improve.

In short, this WFH movement may just be a “fad” born out of necessity. When the pandemic blows over, the office rental and investment market will return with even greater force as both landlords and investors play catch up for the opportunity cost loss during the pandemic.

Valuers

Valuers may simply have to hopscotch over 2020 and 2021 and treat these two years as an anomaly. For those using the Discounted Cash Flow approach, the impact would not be that great because cash flow is affected only for these two years. The valuer may simply extend their 10-year cash flow forecast horizon by the period of the pandemic when rents and occupancies fell. The extension may allow the valuer to claw back some of the values “lost” upfront due to the pandemic.

Conclusion

What we have been discussing is not an optimistic scenario. Rather, it may be closer to the likely scenario. We believe that in a year’s time, we may find that the office market may not have been too badly affected by the pandemic that it undergoes structural decline. Using simple forecasts of infection rates and the fact that more vaccines are being rolled out, we have a reasonably good handle of the end game of this pandemic. It is only a matter of time that the market realizes that they see light at the end of the tunnel and begin in earnest to return to normality. Then from herd immunity, we may get herd behaviour amongst players in the office ecosystem. In short, for the office market, the opportunity cost arising from the risk of continuing pessimism is becoming increasingly greater by the day compared to the potential gains to be reaped from the risk of optimism!