Further east, the many ‘To Let’ signs in Aberdeen are another, more prosaic, reminder of the hydrocarbon slump. They plaster the windows of the modern office blocks around the station and the granite walls of the West End above a harbour packed with laid-up ships.
With oil prices at a fraction of the levels Scotland’s oil and gas industry had come to rely on, Aberdeen is hurting. The city has always been exposed to this cyclical business, but could the latest downturn be the sign of a more structural decline? And, in a strange twist of fate, could the blossoming oil-rig decommissioning sector offer Aberdeen’s office market an unlikely lifeline?
Low for longer
With oil as low as $30 (£21) a barrel, few operators will be making a profit; $50 a barrel is seen as a minimum. Already one of the world’s most expensive regions in which to drill, $27bn worth of prospecting business for new oil fields will be shelved in the North Sea if oil prices don’t rally strongly soon. Investment this year could fall by 90% compared with 2015, according to industry group Oil & Gas UK. North Sea job losses could reach a total of 23,000, and Aberdeen is expected to suffer a disproportionate share of them.
The knock-on effect on the city has been stark. A long-standing dearth of office space has become a glut, with 1.83m sq ft available in 2015, according to figures from Knight Frank. “That’s an unprecedented level of availability - four years’ average take-up,” says Simpson Buglass, head of Savills Aberdeen. “There won’t be much pre-letting going on for a while; that’s safe to say. No one has ever seen anything like this before.”
The level of available grade-A space rose seven-fold to 526,000 sq ft last year. The take-up of office space fell 61%, and more than half of that was out-of-town pre-lets agreed before oil prices fell.
Available space has now reached 2.2m sq ft, according to Bruce Murdoch, partner at surveyor Graham + Sibbald. “And that’s only part of the picture,” he adds. “There’s a general under-occupation of space. In the business parks, the headcount has been reduced. People are rattling around in buildings with too much space.”
While headline prices per square foot have been largely static at around £32, deals now come with substantial soft incentives including help with initial rent, capital and fit-out contributions - something almost unheard of in Aberdeen in prior years. “Whereas landlords would have done 10- to 15-year deals with no incentives in the past, that is now changing,” says Buglass. “We’ve seen Aberdeen become more aligned with other cities in terms of incentives. The balance has swung in favour of the tenant.”
Investment activity, unsurprisingly, has been thin on the ground. According to Knight Frank, Aberdeen office investment last year fell 82% on 2014 (a record year) and was 46% lower than the 10-year average. Only four transactions of more than £10m completed compared with 14 the previous year.
And more bad news is on the horizon. Oil prices may have bottomed out, but global gas prices are still falling and in March the first shale gas shipments from the US arrived in Europe - a reminder of the ongoing competitive pressures North Sea operators face.
The fall in oil prices has had a knock-on effect on Aberdeen city centre
A recent article in the Financial Times quoted gloomy oil executives off the record as fearing this slump could be the “beginning of the end” for the North Sea industry.
It’s not a mood reflected among Aberdeen’s property players, however. At worst, the attitude is one of resignation that a long boom is over. At best, there is a feeling of relief that things are a bit less busy for a change and that opportunity is in the air for those with the right investment horizons.
Aberdeen and the North Sea have been written off before and have bounced back. The same will happen again, says David Stewart, partner at law firm Morton Fraser. “Outside London, Aberdeen is the most volatile market in the country, but if you’re able to take a longer-term perspective, it offers an interesting market. Closed-ended funds that need an exit in the next three to five years may suffer, but not those prepared to buy and hold beyond this.”
Deals are still being done and good opportunities exist for those willing to look past the next couple of years, he says. A good example is the £45m deal his firm worked on with Rockspring to acquire Annan House in 2015 from oil explorer EnQuest via a sale and leaseback.
The deal was structured to reduce the originally intended rent, introduce a rent deposit and guarantee income by enabling EnQuest to sub-let to contractors on long-term deals, with protection to allow the landlord to call on the sub-tenants to step up if the EnQuest lease fails.
“Investors should be looking at the bigger picture and trying to protect against the downside. The Annan House deal shows how that can be done,” says Stewart.
Overseas investors are already on the hunt for opportunities in Aberdeen, notably Russian and Indian ones, says Stewart. Last year, the Middle Eastern-backed Capital Trust Group and Singaporean Beauchamp Investments bought Peregrine House in Westhill and 6 Queen’s Road/31-33 Union Grove in the West End.
It is landlords of secondary offices that will be hurting the most. Many premises in the city had been occupied well beyond their original economic life and are now without tenants, says Dan Smith, director in the Savills commercial team. “Aberdeen had a pretty poor quality of stock. This significant overhang of secondary stock is likely to come off the office market and be redeveloped as residential or student accommodation.”
Beyond the owners of this secondary stock, everyone is looking for signs of a turnaround in the office sector. It is one that they see as both inevitable and likely to be sudden when the oil and gas sector’s animal spirits return, quickly mopping up the oversupply.
Part of their reason for optimism is the widely held view that it is too early to write off hydrocarbon extraction from the UK continental shelf, with a third of its reserves still to go. The industry is driving down costs fast, targeting a 50% reduction in drilling costs to ensure the region remains globally competitive. Plans to reach a $15-a-barrel average unit operating cost are making progress having already fallen from around $30 in 2014 to an expected $17 by the end of 2016, according to UK Oil & Gas.
“I get the impression we have bottomed out already,” says Buglass. “The oil players are going to come out of this meaner, tougher and more efficient. We are going to come out of this as a far more lean industry generally.”
Another potential lifeline for local oil and gas service companies is the decommissioning of old North Sea platforms and infrastructure, a business worth £900m alone last year and forecast to be worth £15bn by 2023. More than 20 fields were shut down last year and 100 more are expected to cease production by 2020. Over the next decade, 79 platforms from the UK Continental Shelf will be removed out of about 470 that will need to be decommissioned over the next 30 to 40 years.
Decommissioning represents a huge task for the industry and should provide significant work to the sector in Scotland, says Buglass, who sees a significant multi-decade opportunity.
“There will need to be teams of deconstruction engineers who will work out how to disassemble these incredible complex structures,” he explains. “The earliest structures, many of which will become the first to be decommissioned, have had so many alterations done over the years and were done before digital record-keeping.
“They don’t know what’s out there or how to take them apart until they start having a close look. It’s more complicated than cutting the legs with a giant pair of bolt cutters and towing the rigs off to a breaker’s yard. It’s a monumental task and it will involve monitoring, planning, executing and tidying up with far more people involved than you would imagine - engineers, environmental scientists and all sorts of specialists.”
Well of expertise
As a result Buglass thinks there will definitely be a benefit to Aberdeen. “There’s no doubt we have the expertise,” he says. “I know that some of my existing clients who are producing and exploring also have decommissioning teams already in place. With the passage of time more engineers will be involved. At some point there will be a crossover where there will be more decommissioning work than active work.”
In time this could also become an export business too, adds Buglass. “Ours will be the first oil and gas sector to have decommissioned its structures responsibly. We’re going to be a well of expertise that will be exported around the world. The timescales are many decades. It’s a very big undertaking involving a lot of money. Migration towards decommissioning means the decommissioning teams will be here.”
Quantifying the scale of the opportunity for Aberdeen is tricky, however, says Harry Stott, a commercial property agent for CKG Galbraith. “Some of the office-bound elements of that will be in Aberdeen but much of it will be in closer proximity to where the work is happening.”
The beneficiaries of the physical dismantling process as well as some of the take-up of office space are likely to be the yards equipped to handle large structures, including Nigg, Peterhead, Kishorn, Dundee and ports on the Firth of Forth, adds Stott.
Savills’ Smith says there are definitely opportunities to be had. “Assets can be picked up at a good price and when prices correct the buyers will have hugely profitable assets.”