Kingdom of Saudi Arabia

CHANGING COMPOSITION
Compound Sector Overview
 Like many industries
and property sectors, the
Ian Albert
Regional Director | Middle East and North Africa
compounds sector in KSA
ian.albert@colliers.com has not been immune to the
current economic downturn;
a direct consequence of the
drop in oil prices, which
has affected many facets of
the economy, particularly
Imad Damrah
Managing Director | Saudi Arabia larger firms in oil & gas and
imad.damrah@colliers.com construction related industries.

With subsequent cost cutting and

Fouad Abou Rafeh
Associate Director | Saudi Arabia
fouad.abourafeh@colliers.com
significant reductions in management
level expatriates, the compound sub-
sector of the real estate market has
witnessed a fall in both rental levels
and occupancies, a situation hardly
conceivable until 2014 or 2015.
Colliers proposes that the structure of
the sector is changing and will need
to adapt in the medium to long term to
remain successful.

Bilal Siddiqui In this paper, we will explore the

Manager | Saudi Arabia
bilal.siddiqui@colliers.com
Faisal El Shami
Senior Analyst | Saudi Arabia
faisal.elshami@colliers.com
drivers of the compound sector,
performance comparison of KSA’s
three major markets (Riyadh, Jeddah
and Dammam/Al Khobar) and
conclude with the structural changes
expected to take place along with their
implications on existing assets.

2 Changing Composition | Compound Sector Overview | 2017 | Kingdom of Saudi Arabia

Demand Drivers
Target Segment
Labor
The compound concept was introduced to
KSA with the arrival of foreigners in Eastern Blue collar workers who were provided basic
Province, primarily from North America, accommodation.
for Aramco. Over time, they evolved into
enclaves for foreign employees, which were
either in the form of smaller compounds Semi-skilled
with tenants of a single organization or
larger compounds with tenants belonging Unmarried white collar workers (technicians,
to multiple organizations. This was engineers, nurses, etc.) who were provided
supported by the Government, which obliged better accommodation with limited
organizations with more than 50 foreign amenities/services.
employees to provide housing for their
workforce. Typically, foreign employees were
segregated in three groups and compounds Skilled executives
associated with them had the following
characteristics1: Mostly married white collar workers in
management positions. They were provided
with a higher standard of housing often with
landscaped common areas, support services,
and finer facilities such as swimming pools
and gymnasiums.
1
Glasze & Alkhayyal, 2002

Changing Composition | Compound Sector Overview | 2017 | Kingdom of Saudi Arabia 3

 This report focuses on the compound market traces within the third
segment. With the arrival of expatriates in the later part of the 20th
century, the private sector started developing residential compounds to
cater to this demand. For most companies, outsourcing executive housing
needs to the private sector was a better alternative than building their
own and brought the benefits of economies of scale for developers.

Until the late 1990’s, a majority of compounds were exclusively targeting

Western expatriates. However, with the emergence of further supply and
the decline of Western executives in the early 2000’s, many compounds
expanded their target segment to include executives of non-Western
nationalities. Today, most compounds cater to an array of nationalities,
while placing greater focus on those of Western origins.

High
Western Non Income
Western Expatriates

Demand drivers for compounds can be summarized into two broad

categories:

MACRO DRIVERS that provide incentives for developers to initiate

compound developments:

> Expat Population – the small percentage of highly paid expat

executives is the principal target segment for compounds, ideally
creating demand for a “home away from home” concept

> Land Availability – “right size land within attractive locations” refers to
sites with proximity to schools and work places rather than central city
locations

> Land Price – a key determinant to a compound’s financial viability,

this is especially important as a significant part of the site is used in
nonrevenue generating components (such as landscaping and facilities)

MICRO DRIVERS that provide incentives for tenants (organisations and

individuals alike) to select a compound residence:

> Community – compounds as a mode of accommodation are primarily

driven by the community lifestyle they foster for households of similar
backgrounds. This single aspect enables them to charge premiums
over standard residential developments which typically do not
encourage social interaction

> Facilities and Amenities – an important aspect of community lifestyle

that promotes social interaction and acts as a major differentiator
between standard residential developments and compounds

> Security – an essential element that provides ease of mind for tenants,
who frequently travel for business. Acknowledging that their families
are in a safe and secure environment, where they can interact with
people of similar backgrounds, is one of the central rationales behind
why compounds are preferred over standard developments

4 Changing Composition | Compound Sector Overview | 2017 | Kingdom of Saudi Arabia

 Population2 & Compound
Target Segment Estimation
(2016)
Population
1.8 M Dammam/
Al Khobar
Expatriate Population:
Population 0.8 million,

6.3 M
44% of Total Population
Target Segment:
c. 34,700,
4,5% of Expatriate Population

Population
Riyadh
4.2 M
Expatriate Population:
2.7 million,
42% of Total Population
Target Segment:
Jeddah c. 39,300,
1,5% of Expatriate Population
Expatriate Population:
2.2 million,
52% of Total Population
Target Segment:
c. 34,100,
1.6% of Expatriate Population
2
General Authority for Statistics

Macro Drivers Expat Population

Micro Drivers
Security Facilities Community

Land
Availability Land
Price

Changing Composition | Compound Sector Overview | 2017 | Kingdom of Saudi Arabia 5

 OPEX Compounds are complex real estate assets requiring operational expertise
Operating expenditures (OPEX) vary in compounds of a skilled property manager. These managers have a broad list of
and are a factor of developer experience and responsibilities such as overseeing a large support team (i.e. security,
property grade. The range of OPEX can be between cleaners, admin staff, etc.), ongoing maintenance, and tenant services.
15% and 25% of total revenues, and includes the Compounds follow a more complicated operational model than typical
following major expenses: residential developments, which is reminiscent of a simplified version of
> Management & Administration hotel operations.
> Compound Staff & Security
> Maintenance
> Landscaping
> Insurance
> Provisions for Renovation

HIGH

Operational Complexity

MEDIUM

LOW

RESIDENTIAL COMPOUND HOTEL

> Limited provision of
facilities and amenities
> Security is dependent
upon the public sector
> Property management
restricted to principal
activities only where
one manager oversees
multiple properties
> Examples include; rent
collection and common
area cleaning (mostly
remunerated by tenants)
> Sizeable provision of
facilities and amenities,
which are in many cases
comparable to hotels
> Security under the
supervision of the property
> Sophisticated property
management which handles
maintenance, common
tenant services, cleaning,
etc. Each compound is
typically managed by a
single manager, with minor
admin support
> First rate facilities and
amenities
> Security under the
supervision of the property
> Complex property
management with
responsibilities ranging
from bookings, sales,
marketing, cleaning,
concierge, etc. Handled by
a general manager with
the support of a team of
specialist managers for
each department

6 Changing Composition | Compound Sector Overview | 2017 | Kingdom of Saudi Arabia

Compound Sector Performance
Colliers’ Grading Matrix
Colliers developed a grading criteria matrix to classify residential compound
supply into different tiers: “Premium Grade”, “Grade A”, and “Grade B”.
The grading matrix is based on the following elements:

COMMUNITY SERVICES SECURITY DIFFERENTIATION

Size, Community Facilities, Amenities & Security & Safety Innovation, Quality
& Lifestyle Services Offered Measures & Location

The following performance indicators depict price premiums of The average market lease rate
compound tiers across all units. The performance indicator is the
result of categorizing and analyzing the performance of more than across all classified compounds
120 compounds across Riyadh, Dammam/Al Khobar and Jeddah: is SAR 981/sqm based on GLA

20% Premium Grade

15% Grade A
16%
10% Grade B
5% 6%
Base Line:
981 [SAR/sqm]
Avg Market
Lease Rate -5%
-10%
-15%
-20% -22%

Changing Composition | Compound Sector Overview | 2017 | Kingdom of Saudi Arabia 7

 Performance Indicator

APARTMENTS VILLAS

Unit mix Average Apartment Unit mix

Unit Price Premium %
Over Villa Units

Riyadh
44% 20% 56% Compound developers
receive the highest
possible lease rate
(SAR/Sqm) from
apartment units rather

Jeddah than from villas due

35% 16% 65% to the size factor. In

addition, due to multiple
apartment units sharing
the same land area,

Dammam/ these units tend to

absorb more land cost
Al Khobar than villas and are more
41% 40% 59% affordable for the tenant.
1,300

1,256
2015 vs 2016 Performance

1,178

1,148

1,023

-3.4%
1,000

941

962
903
897

879
827

-8.4% -8.7%

-12.3%
-15.1%

-18.1%

Riyadh Khobar Jeddah Riyadh Khobar Jeddah

2015 2016 % Change 2015 2016 % Change

> The 2016 listed prices for villas and apartments in the above
analysis have been discounted by 10% for Riyadh, 5% for
Dammam/Al Khobar and 5% for Jeddah. Through our research,
Colliers was able to ascertain average discounts in the market,
which can be attributed to current economic conditions,
decreased occupancies (approximately 75% for compounds in
Riyadh, 90% in Jeddah and 92% in Dammam/Al Khobar), and the
shifting bargaining power from owners/developers to tenants.
> In addition to the typical annual payment term, new flexible
payment terms in the form of periodic payments (semi-
annually, quarterly, etc.) have emerged in many compounds
(especially in Jeddah).
> Tenant profiling is becoming more flexible, which implies efforts
by compounds in expanding the current target segment to
maintain occupancy levels.
> The emergence of residential complexes (a new breed of
residential compounds) have been gaining popularity amongst
tenants. These complexes are in line with Grade B compounds
and predominantly offer apartment units, limited facilities &
amenities and typically have small land areas. The operational
mechanism of these assets is similar to compounds, but are
not as complex due to their smaller size and limited service
provisions.

8 Changing Composition | Compound Sector Overview | 2017 | Kingdom of Saudi Arabia

Compound Economic Indicators
To arrive at a target land price, the following variables were assumed costs were standardized to allow for comparison. This exercise
based on average market data of Riyadh, Jeddah and Dammam/ intends to provide an indication of land prices for compounds aiming
Al Khobar. Assumptions such as land area, density and construction to generate a project IRR ranging between 8%-12%.

Target Construction
Land Area Villa Lease Apartment Lease
City Density  Unit Mix Cost (SAR/
(Sqm) (SAR/Sqm) (SAR/Sqm)
(Du/Ha) Sqm)
Riyadh 56% Villas - 44% Apartments 897 1,256
3,500
Jeddah 50,000 50 65% Villas - 45% Apartments 879 941 for Residential
BUA
Dammam/Khobar 59% Villas - 41% Apartments 827 1,000

Target Land Prices Dammam/

Al Khobar
[SAR/sqm] SA
R/sq
m

Riyadh m
R /sq
SA
0
150
2 100
Jeddah qm
R/s
0 SA
250
0
40
200
0 8 00
0
160
0
150

0
100
450
500

450

> Compound Market Conditions

Riyadh has higher target land prices > Inflation and OPEX
due to higher lease rates, which allows
> Area Program, Design & Associated Product Mix
developers to target feasible projects
> Facilities Amenities & Differentiation Factors
with higher land costs. The analysis is
> Construction Cost & Quality of Development
indicative and highly subjective to the
> Leasing Strategy & Marketability
following factors:
> Project Timing & Initiation

Changing Composition | Compound Sector Overview | 2017 | Kingdom of Saudi Arabia 9

Structural Changes & Their Implications
The changes in key market demand profiles encourages and
sometimes forces innovation and deviation from the original
compound goal consequently targeting other segments. The ex-
hibit below indicates that compounds could start targeting other
segments through a revised operational model. For example,
compounds may target Saudi nationals who are looking for a
semi-gated community by offering units for sale. Implications
on each compound tier, based on these factors, are as follows:

Potential Segments
These qualities are generally associated with
high income segments, student housing, staff
accommodation, etc.
The Key for Residential Offering
Emphasis on facilities & amenities and security
under the umbrella of a community lifestyle

The Type of Real Estate Asset

They are residential assets. The residential
segment has one of the highest demand levels

The Most Basic Property of Compounds

Quintessentially, compounds are real estate assets

Premium Grade Grade A Grade B

> New Developments (in the pipeline > New Developments (in the pipeline > New Developments (in the pipeline
and those with less than 10 years of and those with less than 10 years and those with less than 10 years of
operation): of operation): operation):

> There is limited room for growth
in this segment, especially within
the short to medium term. Due to
high construction costs and strong
competition, higher investment risks
(as opposed to previous years) is
expected
> Performance for an asset is highly
dependent on quality leadership
and differentiation factors – both of
which are costly to offer
> Hence, exit strategies should
be thoroughly considered for
developments in the pipeline
> Older Developments (more than 10
years of operation):
> Existing assets would compete with
Grade A and could likely succeed
due to better quality
> Limited opportunities for success,
hence newer investments have
low potential
> Likely to compete with both
premium and grade B compounds,
with limited success
> Grade B compounds offer
better pricing, while Premium
compounds offer better quality
> Older Developments (more than 10
years of operation):
> Many assets could target a
different segment or operational
model
> Some might find selling the
compound (if applicable) a
better alternative due to price
appreciation of their land
> Expansion to target a larger variety
of expats through price leadership
> In achieving this objective, unit size
efficiency and facilities offered play
a critical role. Furthermore, cost
structures would likely require a
revisit to reduce expenses, where
possible
> Older Developments (more than 10
years of operation):
> Depending on the objectives of each
compound, existing assets might be
better suited for exiting (potentially
through sale of land) or through
price competition

10 Changing Composition | Compound Sector Overview | 2017 | Kingdom of Saudi Arabia

Developers & Investors:  xpatriate population
E
is 46% of total
As market dynamics shift and undergo changes, some market
population
practices are already adapting to cope with the changes. This Riyadh
includes more flexible payment terms, innovative product  verage target
A
Jeddah segment
offering, targeting niche markets, or expanding the current target
segment. Dammam/Al Khobar is 1.9% of total expat
Reassessing the compound segment may provide insight to
City Averages population
potential opportunities and innovation in the compound target Small increase in
segment. It is worth noting that a small percentage increase of the current target
the target segment from the total expat population can double segment (2% for high
the market and increase demand. income expats) will
However, determining the full implications of an expanded target double the market for
segment is premature. The target segment can expand due to compounds
mainly monetary incentives such as the introduction of lower
priced units in residential complexes or lowering of lease rates Newer Developments:
in older properties. The latter can make residential compound
Exit strategies should be thoroughly considered for the recently
units accessible to certain segments that aspire to live in
introduced and forthcoming developments.
compounds but cannot afford it at current prices.
The bargaining power of customers and price sensitivity should
Government initiatives and changes in regulation can also have
be taken into consideration by offering differentiation factors
a strong impact on the market. For instance, the recent advent
(quality and/or price).
of Home Owners Association (Ettihad Al Mullak) may make the
sale of individual units viable for properties.
Older Developments:
The rising quality of standard residential units and the offering
Developers and investors would likely consider opportunity costs
of residential complexes may result in substitutes for the
associated with the running of their property and the sale of
existing supply.
their land, as a majority of the older developments are situated in
Currently, the introduction of premium grade and grade A locations that have witnessed an appreciation in value over the
compounds are not recommended, however, exceptions could past years.
be considered depending on their differentiation factors and exit
Compound developments older than 10-15 years, specifically
strategies.
those attributed with poor performance, can change their
Real Estate Investment Trusts (REITs) may provide opportunities strategy and be repositioned to become stable income
for investors and developers. However, a sustainable income generating assets. This can include increasing the density of the
source would be a basic requirement, where high occupancies development in popular product types (such as apartments).
should take priority over higher rental rates.

Changing Composition | Compound Sector Overview | 2017 | Kingdom of Saudi Arabia 11

operating from For further information,
please contact:

68 countries on Ian Albert

Regional Director

6 continents
Middle East and North Africa
MAIN +971 4 453 7400
ian.albert@colliers.com

Imad Damrah

$2.6 billion
Managing Director
Saudi Arabia
MAIN +966 11 273 7775
in annual revenue
imad.damrah@colliers.com

2 billion Fouad Abou Rafeh

Associate Director | Valuation & Advisory Services
square feet under management Saudi Arabia
MAIN +966 11 273 7775
over 15,000 fouad.abourafeh@colliers.com

professionals and staff Bilal Siddiqui

Manager | Valuation & Advisory Services
Saudi Arabia
MAIN +966 11 273 7775
bilal.siddiqui@colliers.com

Faisal El Shami
Senior Analyst | Valuation & Advisory Services
Saudi Arabia
MAIN +966 11 273 7775
faisal.elshami@colliers.com

Colliers International | Saudi Arabia

Riyadh | Jeddah
+966 11 273 7775 | +966 12 610 5900

About Colliers International

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