Moscow Research Forum’s experts – for they were the ones to revise and expand the previously adopted criteria of office classification – admit that they have put in nine months to elaborate the new system. As a result, they have come up with the set of standards prime office properties claiming the right to be rated as class A, B+ or B- are to meet.

The previous classification was abandoned in less than three years after it had been adopted in 2003. Throughout those years it was harshly criticized and served only as very rough guidelines for office tenants and developers. The document did not impose any rigid requirements for office properties, so everyone could assess the degree of conformity of any given building to the established parameters at own discretion, which actually was the case. The new standards, too, have certain flaws but real estate analysts pledge to revise and update the classification criteria regularly, adjusting them to market requirements.

Before the end of this year property brokers forecast a record-high take-up of office space, estimated at 1.2 million square meters by C&W/S&R. Over the first three quarters of 2006 nearly 1 million sqm of office space were either sold or let. In the general structure of demand the demand for preliminary tenancies increased, mostly generated by international companies launching their offices in Moscow.

Addressing the Expo Real 2006 commercial real estate and investment forum in Munich, Moscow Mayor Yuri Luzhkov noted that some 10,000 foreign firms are registered in the Russian capital today, which, he admitted, forces [us] to step up construction of office centers.

Fastidious Foreigners

The cost of prime office, retail and wholesale space in Moscow is to increase 6-fold this year and exceed $2 billion, compared to $300 million registered in 2005, JLL reports. But foreign companies are thrifty and demand top quality for their money.

“Unlike apartments, which are quite often acquired for speculative purposes and are not regarded as a product, office buildings are bought or let as a result of a highly assiduous work,” says Andrei Barinsky, Forum Properties CEO. “Would-be clients carry out an in-depth examination of the project promised to them by the developers.” Barinsky believes that “if the classification system helps them thereby it will be a boon but standards should be uncompromising and only projects of exceptional quality should be rated as class A.”

That is exactly what the Big Four consultants are set to achieve. “The total stock of space remains the same,” says Olga Baturina, head of office and industrial real estate analysis at JLL. “But henceforth they will fall into three grades: class A, which is to be seen as the top quality standard, class B+ and B-.”

“The elaboration of criteria for classes B+ and B- proceeds in comparison with class A; the classification itself has become more structured,” notes Regina Lochmele, head of office and industrial real estate analysis at Colliers International. “The Moscow market is far ahead of Eastern European markets, on the basis of which the first variant of classification criteria for the Russian capital was drawn up.”

Sober Evaluation

The previous classification contained a list of twenty criteria for assessment of office space. For a building to be rated as a class A property it had to meet at least 16 requirements. But as property analysts never found time to expound on which of the standards were compulsory, by default the central location of an office project within the Garden Ring was accepted as the key requirement for class A-premium space.

“At times the significance of location was so high that properties could still be rated as class A even if they fell short of other standards,” Andrei Petrov, head of office real estate at Knight Frank, recalls. Knight Frank joined the Moscow Research Forum only in November, so it had not taken part in the work on office classification criteria. “In other cases an office could claim the class A status if it was conveniently located, met engineering equipment standards or was promoting a qualitatively new format, as for example the business park Krylstakiye Hills,” he says.

“In line with the previously adopted criteria the list of buildings that meet class A office standards is not that long after all; it comprises some 190 properties plus another 50 projects under construction or in pre-design stages. Those are Moscow’s largest business centers,” says Petrov. “We assume that at least 50% of projects rated as class A today will be downgraded to class B,” Baturina forecasts.

“Developers need classification criteria so that they could determine the class of their projects soberly and reasonably,” says Baturina. As the market grows more competitive, she continues, office buildings differ not only in terms of rents and tenant mix but also by developers’ approach towards realization of their projects.

“Not long ago our building Ermitazh (Hermitage) Plaza, one of the best class A properties in Moscow took part in a tender on par with another building, though formally rated as class A, but in my opinion, of an absolutely different “breed”. It is hard to compete for tenants with rental rates if your building is twice as expensive,” Barinsky complains. “Many clients seek class A office tenancies but few have a clear understanding what that means. It would be a good idea if property brokers set the rules of the game in that field.”

“Until recently the market witnessed a somewhat outdate approach towards office space classification,” says Alesia Panova, head of marketing at Promsvyaznedvizhimost realty. “For example one of the criteria a business center had to meet to be rated as a class A project was the central location thereof, within the Garden Ring, and good accessibility by car and by foot. The media however, reported on construction of class A office projects, say, on Leningradskoye Shosse (northern Moscow). Certain business centers are positioned as class A but have insufficient parking capacity. Visitors are forced to waste their time looking for a vacant space for their car or have to leave it parked on the roadside. But class A implies top quality, i.e. a business center with maximum of amenities.”

Of Equal Importance

The new classification comprises 26 criteria for evaluation of office space. To be rated as class A, B+ or B- an office center is to meet all compulsory requirements, deviation is allowed only from one compulsory requirement and four optional.

Alexandra Kryzhanovskaya, office real estate analyst at C&W/S&R, has reported that all standards are divided into six groups and numbered although the number of a criterion does not imply that requirements are presented in descending order of importance.

Property analysts attach utmost importance to the requirements set for engineering systems of office building. The central building management system, power supply and HVAC systems are compulsory for class A office centers. The only optional requirement is the maximum time spent waiting for an elevator to arrive must not exceed 30 seconds.

“The new system provides more structured criteria for lighting, depth, loss factors, but says no word about fire safety systems,” Panova says. “The description of building management systems for class B+ and B- offices offers no specific information and is worded simply as “duly organized building management”. Just as ambiguous are requirements concerning the fit-out of public areas. For class A “top quality materials” are required, while class B+ and B- offices must be decorated with what is simply described as “quality materials”. However ambiguous, that criterion is compulsory for offices of all categories.”

In the opinion of Vladimir Aristarkhov, general director at Promsvyaznedvizhimost, what matters most is location and quality of engineering equipment in place. “Location is a constant while engineering devices grow obsolete fairly quickly and are upgraded permanently,” he says. “It is a must for a prime office. That is why older buildings lose out to newer developments where more advanced technologies are used.”

Sergei Lazarev, KFS Group’s president, says that even though his company takes heed of standards adopted on the market it proceeds from own expertise. “We know that large halls, conference rooms with simultaneous interpretation booths must be available in class A offices. But we also know that in our building we can do without them. For, by all other parameters our properties do not differ from class A properties,” he says.

Nikolai Rasskazov, CEO at Profico Business Center, recalls that when he signed a deal with real estate brokers on promotion of the project that was still under construction, the latter insisted on including a clause in the text of agreement stating that the future property would be rated as class A. “But classification criteria are changing. Today our respectable consultants say one thing, tomorrow they will revise their approach and we will fall short of the class A standard. That is why we have put down on paper that the company undertakes to build a prime office property meeting such and such criteria and listed those criteria,” Rasskazov says.

“One should not expect that once the new classification is adopted all buildings will meet the standards set for the class they claim,” warns Antonina Lairova, senior analyst at Prime City Properties. “Although, major developers who value their reputation will continue to provide market operators with comprehensive data on their projects, smaller companies and newcomers to the market will still be tempted to position their projects as being of a higher class.”

“I do not fear a negative response on the part of leading developers,” Baturina says. “But there may be lack of understanding on the part of certain companies, especially those who have already entered or plan to enter the market with a single project but with great ambitions.” Technologies are developing, the market grows and the projects that were regarded as top quality buildings in the days when they were launched may fail to meet requirements of today, she says.

Difference in Price

“The quality of construction in Moscow is gradually nearing international standards,” Petrov notes. “With time, projects grow obsolete and are downgraded. Buildings raised some 5 or 7 years ago must be downgraded, especially the office centers whose builders had saved on quality of construction… Class A offices under construction these days dictate an absolutely different, far better quality of properties, that is why spaces with less developed engineering infrastructure, of poorer quality and in less prestigious locations will be downshifted to class B,” he is convinced. Analogous developments are to take place in class B. According to Knight Frank estimates, some 20 to 25% of buildings, the overwhelming majority of which are now rated as class B, may be downgraded to class C.

“Newly built class A offices charge higher rents,” notes Irina Florova, head of research at CB Richard Ellis / Noble Gibbons. “The difference in rates makes up $200 to 300 per 1sqm.” Kryzhanovskaya says that by the end of 3Q 2006 class A office tenants were charged $737 per 1sqm per year, which is 18% higher than in early 2006. Average weighted rents for class B offices stood at $523 per 1sqm per year in early October.

The submarket Zamoskvorechye in 3Q of the year charged the highest rates in town for class A and B offices - $1,000 and $700-$800 per 1sqm respectively. “Zamoskvorechye leads in terms of size of rents for class B offices, along with Central Business District and Belorussky submarkets,” Kryzhanovskaya says. “Rents soar due to their prestigious locations.” Property consultants warn that new classification is not likely to affect rents. “Each tenant decides for himself what he needs,” Florova says. “Some are ready to give up quality for the sake of a prime location.”

Location is not the Key

In line with the new requirements a class A property must be not only “well located” and not neighbor upon facilities which may “have a negative impact on the property’s image” such as cemeteries or dumps. It should lie at a distance of no more than 10 to 15 minutes’ walk from a metro station or provide “an organized shuttle bus service” for employees (obviously, the service is to be organized by the landlord or tenants themselves).

Incidentally, one of the most serious novelties for class A buildings is the requirement of single ownership. If a business center is co-owned even only by two landlords it will be downgraded automatically. “We know a number of examples where well located, well built properties were losing their top ranking positions after they had been sold out in units to several companies,” Lairova notes. “In these circumstances it is practically impossible to maintain single building management; as a result the property is downgraded.”

It is also advisable though not compulsory to have a transparent ownership structure. “That requirement will be compulsory in about three years,” Kryzhanovskaya says. “But the fact that it has been introduced proves that our market has already reached a point of maturity and seeks to become more civilized. That will help investors, especially international companies, grasp the structure of supply.”

Depending on where they are building their offices developers give priority either to location or transport accessibility. “Location in not the key criterion, what is crucial is transport accessibility – i.e. proximity to a metro station and easy access by car,” Rasskazov is convinced. Profico Business Center, run by Rasskazov, is under construction in Krylatskoye, within 10 minutes’ walking distance from the metro station Molodyozhnaya.

Barinsky, on the contrary, believes that “there is no better location than downtown” and calls for differentiation of properties by location. “For example, freestanding class A offices may be located either only in CBD – the city center – or in Moskva City, while business parks in remote locations will fit in the class A category only by technical characteristics,” he says.

Market Know-how: Classification Games