We visited three co-working spaces recently, namely Colony @ Kl Eco City, CO3 @ Puchong, and Common Ground @ Menara Ken TTDI, as well as a meet up with PARAMON’s management on another occasion. Off late, there has been a surge of co-working space operators in the market, some of which reported of seeing demand for ‘quality’ offices spaces, but requires a lot of ‘incentives’ to draw tenants in. Based on our understanding, there are some 60-70 co working spaces and close to 40 coworking space operators in Klang Valley (and counting!). This business model has gained popularity due to a few factors discussed below.

Our study rounds with the co-working spaces indicate that the oversupply of offices spaces could be largely driven by: (i) the preference for offices away from KL City Centre due to traffic congestions and higher costs; we note that the areas which straddle KL and PJ have seen relatively better demand of offices spaces compared to other areas in Klang Valley, (ii)“old” buildings which have not been refurbished or managed well or with very generic designs – based on our channel checks, office spaces require a high amount of customisations for a company/business to commit to buying the building; this tends to be absent when developers build and sell on a ‘strata’ basis, (iii) technological requirements / infrastructure, (iv) lack of facilities / services, (v) connectivity issues as many office buildings are not close enough to transit stations (e.g. MRT, LRT).

Meanwhile, the increasing popularity of co-working spaces are driven by the following factors:

1. Start-ups / small businesses / young entrepreneurs are very cost sensitive and may not be able to afford big spaces or the full set of office equipment required by their businesses, which is what the co-working spaces can offer.

2. Attracting young talents – SMEs have difficulty attracting young talent if the office environment looks run-down/old, or does not have sufficient connectivity points. By renting these spaces, albeit at a higher rental cost, these businesses can attract and retain young talents.

3. Temporary place of business for those who are in the midst of transiting to new spaces, digital nomads or those running freelancing or consultancy based businesses, requiring professional meeting places with their clients.

What makes an office space a ‘co-working space’?. Physically, the interior design of a co-working space entails a very open concept of mostly open hot desk and small office rooms, while common areas such as the pantry and meeting rooms are shared by everyone within the space. Co-working spaces unlike the traditional office space are mostly inhibited by a diverse group of digital nomads, freelancers, and independent professionals that work in a shared, communal setting. Due to the flexibility required by these businesses, members have the option to rent only what they require vs. an entire private office space, which can be costly in terms of fit-outs and maintenance, especially for shorter term projects. As such, co-working spaces operate on memberships with a far shorter tenure (i.e. daily fees or monthly fees) vs. regular office space of >5 years), while membership costs also differ based on facilities required (ex: shared desk or office rooms).

The business models. Based on our study visit to these co-working spaces, we gathered that the business model of coworking spaces is conducive under the current environment given the glut in both office spaces and shop-lots. These co-working space operators can offer landlords / developers a solution to monetize these spaces while leveraging on the balance sheet strength of the landlords / developers. In general, the current co-working spaces tend to be c.20k-50k sf NLA, ranging between RM150-200psf in investment CAPEX (including technological infrastructure) which typically has some 4-7 years lifespan. The co-working space operator enters into a 20-30%: 70-80% contract for CAPEX and profit sharing, while locking in a long-term lease (3-15 years) to secure a very competitive underlying rental rate from the landlord. Based on checks and research, the implied rental rate from these co-working spaces is easily multiple-times (3-4x) fold of a normal office rental rate, due to the higher turnaround rates which result in at least 50-70% occupancy rates within the first year; but we note that operating cost is also higher for these co-working spaces given the facilities/services involved. In terms of payback period, these co-working operators are confident of achieving within a 2-3 years period, assuming occupancy remains above 70-80% on average.

Colony @ KL Eco City

About Colony. This start-up started about more than a year ago and currently has two co-working spaces, Colony @ Jln Kia Peng, KLCC and Colony @ KL Eco City is backed by Oak Drive Ventures, Cornerstone Partners and family offices. Its cofounder and executive director, Timothy Tiah, is also working on its third co-working space in KL Sentral. Their first space, namely Colony @ Jln Kia Peng (18k sf) has achieved 70% occupancy rate thus far, which is quite commendable for the first year of operations. It was reported by The Edge that this company sold 10% stake to Cornerstone Partners with the company being valued at USD15-20m; Cornerstone Partners owns hotel assets around Asia (e.g. DoubleTree Resort by Hilton @ Penang, the Kimpton @ Taipei, Taiwan and citizenM @ KL).

Colony @ KL Eco City. We visited Colony @ KL Eco City, which has been operational for more than a month now and as the name suggests, it has a colonial design theme with an injection of European and Asian flairs with very chic decorations. Overall CAPEX is RM4-4.5m. Prior to opening, it was reported that they had secured at least 50% tenancy commitments. The space spans 20k sf over 5 floors (Level 16-20) of which 2 floors are occupied by an anchor tenant (Level 16-17), which is a regional food importer/distributor. The other three levels consists of: (i) 17 private offices (Level 18), (ii) reserved desks (Level 19) which is also where the concierge and the F&B café are located, (iii) event space (Level 20) which can accommodate at least 80 – 150 pax, which also has some hot-desking areas.

Targeting the high-end market. Positioned as a luxury service office, top-notch interior and services are the cornerstones of their business model. They have taken a hospitality approach where responsiveness and consistency of procedures when dealing with clients is paramount while offering a personal touch to ensure their guests are remembered. Facilities such as nap rooms, massage room, telephone booths, kids room with in-build nursing room for those busy parents, complimentary lockers for reserved desks users, down to access of a very good cup of coffee and a good selection of meals/snacks throughout the day. According to the co-founder, this high-end co-working space segment has little competition at the moment, allowing them to charge a premium 20-30% above market rates. We note that the main tenants of Colony are largely professionals (e.g. lawyers, consultants) and small businesses and the feel we gathered from our tour around the space is that it is very much catered for a more sophisticated crowd which is typically of an older age group. Its main anchor tenant (occupying Level 16-17) has benefited from the space as they are able to attract young talents for expansion reasons. Colony will remain in this high-end market as the mass-market co-working space segment is highly competitive at the moment. However, they are cognisant that number of outlets growth may be slower than that of the mass market as key locations and the right ‘landlord-tenant’ cost dynamics must be achieved.

The future. Colony intends to maintain their positioning in the high-end co-working space market. Locations will continue to be in prime locations with connectivity stations given their target market. Colony is looking to open the next space in KL Sentral by year-end. It is expected to accommodate over 200 guests in private offices and fixed desks, and Colony will be committing RM4.5m investment to this place (Source: EdgeProp).

CO3 @ Puchong

About CO3. CO3 Social Office was founded in March 2017 and is a collaboration between co-founders Sin Chew Media, and a few Malaysian entrepreneurs which include its CEO, Yong Chen Hui. CO3 Social Office as its name suggests, emphasises on connectivity, collaboration, and community by organising social events and activities to spur connectivity within the CO3 community. The CO3 brand also preaches the mantra of work-life balance, with a range of initiatives and efforts to create the ‘World’s Most Liveable Work Space’ by focusing on seven key aspects; (i) CO3 EAT – quality dining at CO3 in-house café and Honor Grocer that works on a trust system, (ii) CO3 PLAY – monthly social events, (iii) CO3 EXPLORE – activities and exploration trips to tick off their Bucket List such as diving expeditions, (iv) CO3 CONNECT – virtual platform and physical access (CO3 PASSPORT) to connect and access CO3’s Global Network to meet and learn from new individuals, (v) CO3 GO – car sharing platform, (vi) CO3 SLEEP – accommodation for terms ranging from days to weeks, and (vii) CO3 STYLE – access a collection of apparels and wearables for lifestyle travel without the cost of buying. CO3 in Puchong is the Group’s maiden foray into the co-working space market and it has ambitious plans to expand to more locations, both locally and internationally.

CO3 Social Office in Puchong is located on the second and third floor of an office shop lot in Puchong, directly facing IOI City Mall. Despite its fairly unassuming outwardly appearance, the interiors are bursting with vibrancy. We derived a youthful vibe catered to foster creativity and teamwork within the work space. Total CAPEX is estimated at RM5.8-6.4m for the entire 32k sf of space which comprises of: (i) existing space (22.4k sf) that is currently fully taken up, while (ii) new wing (10k sf) was recently completed in July 2018 is already 50% occupied. The space consists mostly of a large open area suitable for hot desk clients as well as smaller closed-door offices for teams, and meeting rooms for group discussions.

One of the highlights was the CO3’s very own Tokenomy which allows members to obtain CO3 C-Points forming the CO3 economy. The C-Points is the only form of exchange for everything within CO3, allowing members to buy, sell and even accumulate C-Points at market rate.

Targeting young businesses. CO3 comes equipped with state of the art hardware, which includes; (i) an Editing Hub fitted with an Apple iMac Pro, (ii) a Recording Studio, and (iii) a Tech Hub featuring the Samsung Ultra-Wide Curved monitor, which is conducive for those in the arts. There are also Sleeping Pods available for short naps during the day, as well as plans to develop CO3 SLEEP, which provides accommodation for longer terms, from one night to day or weeks stays, with 21 Smart Pods within 2,000sf of space. For playtime, there is the Sony Game Zone (Sony Playstation, VR), Nintendo Switch Zone, pool, foosball, and an impossible-to-miss giant slide that connects the play space to the workspace. Based on our understanding, 30% of tenants are from tech companies, while the other 30% are from creative industries as well as solopreneurs and freelancers. CO3 appears to attract a very young market, while most of their on-site managers are below 25 years of age.

Future. Upcoming locations include Kuala Lumpur and Johor locally, as well as Thailand and Vietnam as international prospects in the longer run. The upcoming Kuala Lumpur facility is expected to be a similar-sized outfit (c.30k sf) which will likely be completed by 1Q19. The Johor project is on a far larger scale and is a collaboration with Medini Iskandar Malaysia Sdn Bhd (MIM) to inhabit 200,000 sf of co-working space that can accommodate up to 4,000 members at Medini 9, in Medini Iskandar Malaysia. Thus far, CO3 and MIM have signed the term sheet and are still pending a more definitive agreement. CO3 and MIM are finalising the terms in the Joint Venture Agreement, estimated to be completed by Nov 2018. (Source: The Edge & Company)

Common Ground @ Menara Ken TTDI

About Common Ground. Said to be Malaysia’s co-working industry leader, Common Ground was launched last year and already has 8 locations within Malaysia under its belt and 3 in Philippines, while the Group is expecting one more location in Thailand by end 2018. The first centre opened in March 2017 in Damansara Heights (Wisma UOA Damansara II) and the Group has successfully scaled up in the limited time. Common Ground is founded by a group of entrepreneurs which include director of business development at Catcha Group, Erman Akinci, former CEO of Guocoland’s Tower REIT, Juhn Teo, The Group’s Roen Cian Nagapan and Cisco Security Systems’ executive director Rabin Nijhar. Each outlet depends on a joint venture (JV) with the landlord, therefore the interior design for each location is different. Four out of eight of Malaysia’s Common Ground centres fulfil the MSC Cybercentre status which benefits include: (i) financial incentives via tax exemptions, (ii) government incentives (i.e.Bill of Guarantee), (iii) world-class infrastructure of high-speed broadband and fibre optics, (iv) access to local and international talents, and (v) assistance from MDEC. Channel checks suggest that their locations have c.70-90% occupancy. (Source: Digital News Asia)

Common Ground @ Menara Ken TTDI is fitted out with light shaded interiors, exuding a very clean and fresh vibe. Occupancy at this location is strong, at 91% (29k sf space ) at present, of which c.40% of its 396 seats are taken up by two anchor tenants which tend to have c. 1-year tenancy periods. The remaining space comprises mostly of open desk areas, meeting rooms, small offices and calling booths, while common areas include a coffee area and pantry. CAPEX for the entire space is estimated at c.RM4.0-4.5m, with 30-40% of capex allocated for IT infrastructure.

Targeting the regional digital nomad. We noted that Common Ground at Menara Ken TTDI’s tenant profile is mixed across various industries, with a combination of advertising, influencer, and marketing firms to name a few. Similar to other co-working spaces, it does target the freelancers, star-ups, small teams that benefit from an open working environment, and small–mediumsized companies or satellite teams seeking a space of their own. However, we believe what Common Ground members stand to gain vs. other co-working spaces is its multiple local and regional locations as

Common Ground has been swift to scale up. Notably, members at Common Ground TTDI are allowed to use hot desk at any other Common Ground location, including outlets in Philippines, at any time for no additional fees. Common Ground also prides itself with strategic partnerships with corporate partners such as AisAsia’s MyCorporate, GoGet, Honestbee, F45, Fitness First and Petronas to provide existing members with added benefits. The recent tie up with AirAsia’s MyCorporate, for example, enables work flexibility via business travel across markets for all Common Ground members by means of complimentary flight changes, quick check-in, attractive corporate rates on AirAsia flights and access to the Premium Red lounge. (Source: The Star)

Future. Common Ground is currently the leader in expanding rapidly within Malaysia and Asia Pacific. Its target is to have 15 venues in Malaysia by end of 2019 (from 8 in 2018). It also recently signed a JV with Petronas at Ampang, of which 60% is taken up by Petronas.

View On Developers

We see the co-working spaces as a solution provider for developers who are unable to sell their office spaces. However, we also note that these co-working spaces are extremely savvy and know that they have more bargaining power over landlords/developers. Thus, we gather that many of them are extremely particular about locations (connectivity especially) and whether they can secure a ‘competitive’ long-term lease from the landlord. While most developers prefer to sell their products, these co-working spaces may offer them an intermediary solution to ensure the asset generates returns even if it cannot be sold. However, the long-term implications for developers are evident – developers will have to re-think traditional office spaces as the demand landscape has changed thanks to technology. Most of the developers under our coverage have some exposure to offices but do not form the main proponent of their launches. Maintain NEUTRAL on Property Developers.

View On REITs

The oversupply of office spaces and low rental rates in the Klang Valley has made it conducive for co-working spaces to thrive in recent years, with most being spoilt for choice. Additionally, as most co-working space providers depend on an asset light business model which prefers joint ventures with the asset owner for capex and profitability, we reckon that they may also require extremely low rental rates.

We view co-working spaces as a collaborator to MREITs, especially those with struggling assets. As such, we believe that coworking providers could potentially offer a synergistic solution, particularly for MREITs’ office assets that are struggling with occupancy and rental rates, whereby housing a co-working space provider may serve somewhat as an “anchor tenant” role if it is sizeable enough. This in turn could help increase the vibrancy and pull in higher footfall traffic to such assets.

At this juncture, we do not view co-working spaces and MREITs to be in competition at the moment. Firstly, co-working space providers are not asset owners and thus would rely on asset owners/MREITs for space.

In terms of struggling MREITs assets, we do not expect direct competition at the moment as asset owners/MREITs would prefer to rent to a co-working space provider instead of behaving like one due to: (i) the infancy of the co-working business model which makes running it tedious and not cost effective; it would require ongoing operations and maintenance to constantly engage at attracting new members each month, and (ii) the short lease terms for co-working spaces (c. on a monthly basis and up to 1 year for anchor members), which is not preferable to the MREIT business model of longer term leases (c.5-15years for office assets) to satisfy their recurring income profile and maintain consistent dividend pay-outs. However, we opine that once the co-working space business model matures and should demand increase, lease tenures should increase in tandem, which would make it more appealing for MREITs to operate a co-working space concept.

In terms of more stable MREITs assets similar to those under our coverage, we also do not believe co-working spaces providers pose a risk of direct competition at the moment as these assets are commanding fairly stable occupancy and rental rates compared to the general market, and as such are less likely to consider accepting low rental rates from co-working spaces. This makes it more likely for co-working spaces to favour developers that are unable to sell their office spaces, or MREITs with struggling assets. Moreover, stable MREITs ‘assets under our coverage generally cater to the larger established corporations which still prefer to rent traditional office spaces due to lower rental cost.

Additionally, we believe co-working spaces could also make sense for MREITs’ malls that are struggling, by encouraging higher footfall traffic and increased mall stores’ sales from co-working space members that would shop and look for F&B options.

All in, we reckon prime office assets or well-connected assets are less susceptible to house a co-working provider due to the higher rental rates. We deem this business model as a collaborator and not a disrupter or competition to MREITs and office assets as it provides asset owners with an alternative option to increase occupancy, assuming both parties reach common ground on suitable rental rates. Based on our channel checks, most MREITs under our coverage do not house co-working space providers, yet. Nevertheless, we believe a growing demand for attractive co-working space concepts may prompt MREITs to relook at their product offering the next time they embark on major refurbishment or Greenfield project. Maintain NEUTRAL on MREITS.

Source: Kenanga Research - 23 Oct 2018

Source: Kenanga Research - 23 Oct 2018