Head in the clouds

Canary Wharf is booming at last but its future prosperity is under threat from rival developments in the City, says Nick Mathiason

Canary Wharf, the steel and glass office city in the Docklands, finally seems to have come of age. On Friday, in a moment of beautifully timed coincidence, the property group published its first results as a public company - and London Underground opened the long-awaited Tube station at Canary Wharf.

The company is still making a loss - pounds 42.8m in the year to June - but that's half the loss it made last year. And chief executive George Iacobsecu expects the group to go into profit next year. The existing space is nearly fully let, and future growth is anticipated from an increase in rental income. The promise of a 9 million sq ft development programme over the next 10 years, allied with growth in the London office rental market, has seen Canary Wharf's share price leap 16 per cent since April's 330p flotation.

Its success may pain the City of London, which regards Canary Wharf with a mixture of scorn and envy, but London's attempt to assert itself as Europe's financial capital would almost certainly have failed were it not for the extra 3.4 million sq ft of space in the original Canary Wharf development.

Morgan Stanley Dean Witter and Credit Suisse First Boston are the biggest City names already in the Wharf, while work on Citibank's 560,000 sq ft tower is nearing completion. Construction is now under way on a 1.1 million sq ft tower, the new worldwide headquarters for the banking giant HSBC. Citigroup, Citibank's parent, is taking half the space in a second tower, due for completion by the end of 2002.

Bear Stearns, Bank of New York, State Street Bank and Barclays Bank also have offices in the development. And the Financial Services Authority (FSA), the new financial super-regulator, chose the Wharf rather than the City for its headquarters.

As John Ritblat, chairman of British Land, the City of London's most powerful landlord, puts it: "Canary Wharf has given London room to breathe."

Canary Wharf was built by the Canadian property developer Paul Reichmann's company, Olympia & York. When it went into administration in 1992, the project became the property of a consortium of international banks. But Mr Reichmann, with Prince al-Waleed of Saudi Arabia and other investors, bought it back for pounds 800m three years later. The deal proved to be a financial masterstroke. Now the project is worth pounds 2.57bn.

Yet in spite of all this, City analysts may have good reason to doubt the growth potential of the Canary stock. Indeed, Mr Reichmann's company's share price has fallen nearly 70p from its 450p peak last July.

One office building under construction is still unlet. Foundation work has begun on other sites but there seems to be a lack of tenants. A source close to the letting team at Canary Wharf said last week: "Don't expect any announcements. We hope to have something by Christmas, but there's nothing imminent."

However close Canary Wharf is by Tube, and however competitive its rents, it risks being squeezed out of the big new deals by a development frenzy in the City. Earlier this year, the Corporation of London relaxed its ban on new tall buildings. The powerful property company Land Securities is now dusting off plans for three big City schemes aimed at keeping financial institutions in the Square Mile.

Its rival British Land has a 2 million sq ft City development programme, which could increase if it extends its Broadgate office development next to Liverpool Street station.

Minerva, another City developer, is also building big: two "groundscrapers" designed by Sir Norman Foster are due to be started early next year.

South of the River Thames, a 13-acre wasteland beat Canary Wharf to house the new Greater London Authority assembly. Known as London Bridge City, it is cheaper and closer to central London than its Isle of Dogs rival.

Of the big blue-chip companies looking for state of the art office space, few are putting Canary Wharf at the top of the wish-list. Banks such as Merrill Lynch, JP Morgan and Chase Manhattan have all decided against Docklands. This snub will have a knock-on effect on the rental growth that Canary has built in to its income projections. Its existing tenants may feel they deserve some leeway for their early loyalty when the transport links were ropey, and the choice of shops minimal. But sources close to current rent negotiations say Canary Wharf is trying to double some rents - taking them to around pounds 40 per square foot. This is equivalent to rents in the City.

Andrew Penny, a property analyst at JP Morgan, said: "There are now so many competing schemes that the tenants' argument goes back to cost and convenience rather than availability. Many of the big users aren't going there."

A Canary Wharf spokesman said: "The advantages we have will continue. The Jubilee Line extension opens this week. The extension of the Docklands Light Railway will quadruple the number of households within an hour of us."

Even so, when Burger King opened a tiny outlet at Canary Wharf last month, it was such a welcome novelty that on the first day of trading customers were prepared to queue for up to 20 minutes. Eventually it ran out of burgers. That would never happen in the City.

THE MAKING OF THE WHARF ZONE

Canary Wharf was the brainchild of two investment bankers, Archibald Cox, then chairman of Morgan Stanley International, and the late Michael von Clemm, chairman of Credit Suisse First Boston.

Frustrated at the City of London's refusal to allow their banks to build massive offices in the Square Mile, the bankers roped in G Ware Travelstead, an American property adviser, to fund a scheme that originally was to be a fraction of the current scheme.

Masterplanned by Americans, Canary Wharf benefited from Enterprise Zone status which allowed it to receive grants worth nearly pounds 2bn and circumvent planning law. Indeed, the whole area was once intended to be a mixed-use development until financiers realised that an office complex would make far more money. When Morgan Stanley and Credit Suisse refused to invest in the project in 1986, Paul Reichmann stepped in. He paid about pounds 70m to the London Dockland Development Corporation for the land and contributed pounds 400m to the pounds 3bn cost of the new Jubilee Line Extension.

There are still Enterprise Zone grants worth about pounds 300m due for Canary Wharf. The Inland Revenue is investigating whether they should be paid. If it rules that this money should be retained, it would mean incentives for tenants to locate on the Isle of Dogs would be further diminished.