An empty office is worth the let building it will become, less the wait for the first rent and the cash spent before it arrives. Both halves can be computed.
Value a vacant office as the let building it will become, less everything that stands between today and the first rent: capitalise the market rent at the let yield, defer it for the void plus the rent-free period, then deduct the refurbishment, the holding costs and the letting fees. On an illustrative 5,000 m² building with a market rent of 1,500,000 a year at 6.50 per cent, that gives 14,139,639 net of purchaser's costs, 2,828 per m², 34.6 per cent below the 21,607,606 the same building is worth let.
Worked in full in Office Real Estate by Julian R. Sterling, with every figure reproduced in a free workbook.See the book on Amazon →
| Input | Value |
|---|---|
| Net internal area, m² | 5,000 |
| Estimated rental value (ERV), per m² a year | 300 |
| Yield for the building let on a new lease (illustrative) | 6.50% |
| Void until a letting, months, including the works | 18 |
| Rent-free period on a ten-year lease, months | 12 |
| Refurbishment, per m², paid on average after six months | 600 |
| Holding costs while empty: empty rates, service charge, insurance, per m² a year | 120 |
| Letting and legal fees, share of first year's rent | 15% |
| Discount rate for the deferral and the costs | 8.0% |
| Purchaser's costs | 6.8% |
The yield is the one at which the building would trade once let to a good tenant; the discount rate is higher because the buyer of an empty building carries the letting risk until then. Both are illustrative.
1. ERV = 5,000 × 300 = 1,500,000 a year
2. Value once let = 1,500,000 / 6.50% = 23,076,923
3. Income starts after void + rent-free = 18 + 12 = 30 months, 2.5 years. Deferral factor = 1 / 1.082.5 = 0.8250, so the let value is worth 19,037,877 today
4. Refurbishment = 5,000 × 600 = 3,000,000, present value 2,886,751
5. Holding costs = 5,000 × 120 × 18/12 = 900,000, present value 849,522
6. Letting fees = 15% × 1,500,000 = 225,000, paid at letting, present value 200,469
7. Gross value = 19,037,877 − 2,886,751 − 849,522 − 200,469 = 15,101,135
8. Net of purchaser's costs = 15,101,135 / 1.068 = 14,139,639, or 2,828 per m²
Excel: =(ERV/Yield/(1+r)^((Void+RF)/12)-Works/(1+r)^0.5-Hold*Void/12/(1+r)^(Void/24)-Fee*ERV/(1+r)^(Void/12))/(1+PC)
Let, on the same terms, the building is worth 21,607,606 net of purchaser's costs, 4,322 per m². Empty, it is worth 14,139,639. The gap is 7,467,967. Before purchaser's costs it is 7,975,789, in two halves of similar size: 4,039,046 is the cost of waiting two and a half years for the first rent, and 3,936,742 is the present value of the 4,125,000 spent before then on works, holding and fees. The buyer at 14,139,639 is buying a reversionary yield of 10.61 per cent on the price, which is the return for taking the letting risk, not a bargain.
The rent-free period belongs in the deferral. The tenant moves in after 18 months, but the landlord's income starts after 30. A valuation that defers the let value for the void alone, with the costs treated exactly as above, gives 15,565,697, an overstatement of 1,426,058 or 10.1 per cent. Alternatively, keep the rent-free as a separate deduction; what matters is that it appears once.
| Void, months | Value | Per m² | Below let value |
|---|---|---|---|
| 6 | 16,070,568 | 3,214 | 25.6% |
| 12 | 15,086,430 | 3,017 | 30.2% |
| 18 | 14,139,639 | 2,828 | 34.6% |
| 24 | 13,228,878 | 2,646 | 38.8% |
| 36 | 11,510,405 | 2,302 | 46.7% |
| Let yield | Let value, net | Vacant value, net | Discount |
|---|---|---|---|
| 5.50% | 25,536,261 | 17,380,680 | 31.9% |
| 6.50% | 21,607,606 | 14,139,639 | 34.6% |
| 7.50% | 18,726,592 | 11,762,875 | 37.2% |
Each extra six months of void costs roughly a million: 984,138 between 6 and 12 months, and still about 859,236 a half-year between 24 and 36 months, the later months discounted further but the holding costs still running. The discount widens as the yield rises, because the costs are fixed in money while the let value shrinks. A secondary office in a weak market, with a long void and a high yield, can lose half its let value to vacancy, and at some point the works cost more than the letting adds: that is the obsolescence threshold, where conversion or sale for another use starts to be the better answer.
The deferral rate is a choice. Deferring at the 6.50 per cent yield instead of 8.0 per cent gives 14,742,616, 602,977 more. Pick the rate that reflects the letting risk and state it; it moves the answer less than the void does.
Valuing the empty building on comparable sales of let buildings, discounted by a round percentage. A "30 per cent discount for vacancy" is right only for one combination of void, rent-free and works; on the table above it describes a 12-month void, not 18. The second mistake is to forget the holding costs. An empty office still pays service charge on the empty floors, insurance and, in many jurisdictions, empty property rates, here 900,000 over the void, and none of it is recovered from anyone.
The book takes the re-letting cycle into the yield as well as the value, through the capital-adjusted yield and the headline-to-net-effective conversion; the full cash flow is in the free workbook for this case.
It depends on the void, the rent-free, the works and the yield, not on a standard percentage. In the illustrative 5,000 m² case the empty building is 34.6 per cent below its let value with an 18-month void; with a 6-month void the gap is 25.6 per cent and with 36 months it is 46.7 per cent.
Yes. Income starts only when the rent-free ends, so defer the let value for the void plus the rent-free, or deduct the rent-free separately, but once. In the worked case income starts after 30 months; deferring for the 18-month void alone overstates the value by 1,426,058, or 10.1 per cent.
Service charge on the empty space, insurance, security and, where they apply, empty property rates or taxes, none of them recoverable. At an illustrative 120 per m² a year on 5,000 m² they total 900,000 over an 18-month void, about 849,522 in present value.
This article is one calculation from Office Real Estate. The book takes the same case from first principles to the decision, chapter by chapter, and every figure it prints is a live formula in the free companion workbooks.
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