Cities across the Philippines are getting a facelift, with gleaming new buildings springing up all around Metro Manila and beyond. With the country riding high on a wave of investment rating upgrades this growth, as far as the real estate and construction sector is concerned, has only just begun. But while this vote of confidence in the Philippines’ economy has been critical to the growth of the real estate sector, serious doubts remain concerning its long-term momentum.

DEMAND DRIVERS: In the second quarter of 2013 the service sector — including real estate —grew by 7.4%. Demand is driven by a number of factors, resulting in well-distributed growth across the sector. In the corporate segment, global business process outsourcing (BPO) firms looking for cost-effective locations for expansion continued to drive the Philippines office market. According to Joey Radovan, vice-chairman at CBRE Global Corporate Services, BPO companies will occupy 80% to 90% of office space supply. He expects more multinational corporations to set up BPO operations in the country. In addition, foreign insurance and financial firms are already on the move to set up shop.

In the residential segment, remittances from overseas Filipino workers (OFW) sustained the mid-market housing segment, while high-net-worth individuals, foreign investors and expatriates kept up the demand for luxury housing. Demand for retail real estate was also buoyant, with upbeat consumer sentiments driving demand for global brands. Hospitality is another growth segment, which is drawing in foreign participation. “We’ve seen a lot of foreign firms entering the market, but mostly in the hospitality sector. That’s where the major involvement of foreign investors is at present,” Augusto Manalo, president of the Philippines Constructors Association, told OBG.

LOW LEASE RATES: The Philippines has among the lowest lease rates in Asia. At $26 per sq foot by the end of 2012, lease rates in the Makati Central Business District (CBD) were the most cost-effective in Asia, when compared to $179 in Beijing, $128 in New Delhi CBD, $111 in Mumbai, $102 in Singapore and $50 in Jakarta. At the time of writing, expected take-up of office space in the country was 45000 sq metres. Furthermore, as foreign businesses enter the country, greater numbers of expatriates are in the market for luxury residences near business centres. This is pushing demand for residential condominiums in CBDs.

Meanwhile, the country’s youthful population is anticipated to be a key demand driver in lower segments, as newly employed professionals move out of their family homes and seek their own independent living space, making this an attractive market for real estate.

MEETING DEMAND: According to the National Statistics Office (NSO), the total number of homes built across the Philippines in 2012 reached 211,010 units – 17% more than the year before. But there still remains a shortage of 6.5m housing units and a very large number of Filipinos still live in shanties and informal settlements across Metro Manila. There is therefore a latent demand for quality public housing. Yet developers have been focused more on building high-end luxury apartments than low-cost housing, although the latter has begun to receive attention of late. In 2013 the number of construction licences issued to developers fell across all categories except social housing, which grew by 4.2%, from 21,375 units in 2012 to 22,270 units. This was largely attributed to the government’s efforts to end a public housing backlog by 2030 by providing incentives to developers and crafting accessible financing options to low-income segments of the population.

HIGH-END HOUSING: Fort Bonifacio and Makati CBD have become prime areas for condominium development in recent years. These areas are prime business districts that attract high-income and expatriate populations – the primary drivers of luxury housing in the country. Premium condominiums in the Makati CBD continued to attract demand in the second quarter of 2013, while the Bonifacio Global City (BGC) market is expected to witness a supply infusion of nearly 3000 units by the second half of 2013. According to Colliers International Philippines Research, upcoming housing supply in the Makati CBD and BGC region is expected to account for almost 60% of fresh supply by 2017.

In the five key cities Colliers tracked, more than 2370 high-rise residential units were completed in the third quarter of 2013 while another 4880 units were set for completion by the end of the year; the majority of these are located in Makati CBD and Fort Bonifacio. In a nod to government efforts to align supply with low-income demand, eight out of 10 were studio and one-bedroom units typically priced at mid-level and affordable markets, while the remainder were luxury apartments .

SUPPLY & DEMAND: Demand for luxury housing is expected to be driven by high-net-worth individuals, foreign investors and expatriates, while OFW remittances and the middle income population will fuel the mid-end and affordable housing segments. Developers, meanwhile, are widely expected to become more cautious about bringing in fresh housing supply without considering the demand and supply dynamics of the market. Indeed, despite their bullishness, housing developers preferred to clear existing inventories before launching fresh projects, especially in the high-end segment. Licences to sell high-rise residential apartments fell 36% in 2013 – one of the sharpest declines witnessed in recent years.

The decrease indicates a more hesitant approach taken by developers following a record number of licences issued for high-rise residential projects in 2012. Colliers forecasts an average of 5880 residential units will be completed each year until 2016, leading to a total supply of over 78,000 units in the CBDs covered by its research. Premium high-rise residential units will comprise 15% of the 17,345 units to be completed over the next three years. Of the 2600 premium residential units, more than half will be delivered in Fort Bonifacio with sizes ranging from 53 to 479 sq metres.

OFFICE SPACE: Global BPO firms continue to drive the Philippines office market. Of the 560,000 sq metres of new office space targeted to be delivered in 2013, 70% was completed by the third quarter, with the majority located in Fort Bonifacio. In that quarter alone, Fort Bonifacio saw five office buildings go up with a total net usable area of approximately 105,000 sq metres, primarily catering to BPO operations. Among the buildings completed were 8 Campus Place Tower 3 at 6970 sq metres, SM Aura Office Tower (35,460 sq metres), and Globe Telecom Building (28,000 sq metres). The lone office building completed outside of Fort Bonifacio was Plaza E (13,460 sq metres) located in Alabang.

BPO players base their decisions regarding office location on a mix of cost, talent and availability of suitably designed offices. Despite all the new developments in prime districts, relocating to non-CBD areas is a rising trend being encouraged by the government (see BPO chapter). In a bid to replicate the National Capital Region’s economic success elsewhere in the country, the Philippine Economic Zone Authority board issued a resolution encouraging investors to develop commercial office spaces beyond Cebu City and Metro Manila. Following its implementation, new IT parks and office facilities developed in Metro Manila and Cebu City will no longer be entitled to the 5% tax incentive that companies had previously enjoyed.

NEW PLACE TO WORK: Metro Manila and Cebu City have seen firms shifting to alternative office districts, such as the BGC, Ortigas and Quezon City. As of the second quarter of 2013, around 150,389 sq metres of brand new office space is expected to become available by the year-end in BGC, while nearly 63,259 sq metres will be added to the office stock at Quezon City in the coming months. In Alabang, an additional 34,783 sq metres of new office space is expected to come into supply as soon as Filinvest One Building and Plaz@ E become ready for occupancy .

Despite the shift to other cities, Metro Manila is still expecting to see approximately 560,000 sq metres of new office supply by the end of 2013; half of which was delivered in the first half of the year. The current commercial stock at the Makati CBD, however, is unlikely to see any significant new supply, apart from select buildings expected to reach completion by mid-2014. Available office space here is expected to remain 2.83m sq metres. Demand for both Grade A and B buildings in the primary office district is expected to remain strong for the rest of the year, keeping overall vacancy levels at about 3% by end-2013.

RETAIL & MIXED USE: Strong domestic consumption fuelled by a bullish economy is prompting developers to invest in retail projects. Average occupancy rates in Philippine malls remain high, at 99.2%. Developers have therefore recognised that retail areas are an important part of their integrated mixed-use developments.

Out of the completed projects in the third quarter of 2013, three were key retail areas of integrated mixed-use developments. These were SM Aura Taguig, at 133,800 sq metres, Aurora LRT City Centre, with 5700 sq metres, and Shangri-la Plaza East Wing, which is part of the One Shangrila Place Ortigas residential project, with 39,800 sq metres of gross leasable area. In Metro Manila alone, over 548,000 sq metres of retail space is currently in the pipeline and targeted to be delivered within the next three years.

Mixed-use developments are becoming increasing popular ways to structure urban space. In 2013 Ayala Land, the country’s biggest private sector conglomerate, broke ground on its $714m One Bonifacio High Street project, which, when completed in 2017, will host the Philippine Stock Exchange, a Shangri-La hotel and retail outlets. The project also has a 63-story residential tower that offers 298 suites with price tags ranging from $500,000 to $1.9m, which sold out within 96 hours of its opening to prospective buyers.

POTENTIAL HURDLES: Amidst optimism in the sector, however, there are concerns that increasing property prices could create a bubble and drive up inflation. In 2013 the IMF warned the Philippines government of a “domestic asset price bubble”. The fund’s data showed that the year-on-year increases in Philippine property prices since 2011 were higher than those for both Indonesia and Singapore. It noted with alarm that nominal prices of high-end residential properties rose 8% annually, with rents increasing more than 15%.

The IMF pointed out that local banks’ exposure to real estate has expanded rapidly, but that their reports to Bangko Sentral ng Pilipinas, the central bank, did not reflect the scale of this exposure. The central bank responded to this assessment by saying it would consider introducing new regulations to cool the property market if it showed signs of overheating. To some degree, this demand-side pressure could be eased as new office and residence projects – especially those in New Wave Cities – are completed and more space becomes available across the country.

OUTLOOK: The outlook for the real estate sector in the Philippines looks positive as demand for quality housing, office and retail space is expected to remain high in step with economic growth. Top property developers say vacancies in premium residential and office space in prime business districts are likely to remain scarce in the years ahead. But office and residential rental rates in Makati, Rockwell and BGC could see some moderation as new projects come on-stream.

Looking ahead, actual growth may fall short of expectations if the government struggles to roll out large-scale developments in a timely manner or acquiring land for new projects becomes difficult. Indeed, these factors came into play in 2013 when real estate developer Megaworld withheld payment of some P874m ($21.1bn) to the Bases Conversion Development Authority after it took longer than expected to clear informal settlers from a 34.5-ha site in Fort Bonifacio that the company had won the right to develop three years ago.