The Orange County office market has undoubtedly reached its peak and entered a contraction phase. The vacancy rate bottomed out in the first half of 2006 and is expected to rise in the near future. As a result, the OC’s office market will return to a more balanced level,the predicted soft landing.
One factor driving vacancy rates upward will be the new construction hitting the market, which will be seen through 2008. The increase in asking rents is largely a result of the impact of new construction, which commands higher rates. A number of buildings are set to be completed within the next 12 months. That includes Maguire Properties Inc.’s Park Place and the Washington Mutual Campus, The Irvine Company’s 20 and 40 Pacifica, 18100 Von Karman, Hines Interests LP’s and Crescent Real Estate Equities’ 2211 Michelson, and Opus West Corp.’s 2050 Main.
The strong demand experienced during the past year is likely to level going forward, just when new construction is picking up. The result will likely be increasing vacancies during the next two years. The slowdown in the housing market and its effect on the mortgage companies, particularly the subprime lenders, will affect the market to a degree. But OC’s office market is strong enough to weather the event.
Space given back by Ameriquest Mortgage Co. has already been subleased by Arbonne International, which subleased 90,000 square feet, and LA Fitness, which subleased 60,000 square feet.
Overall, the county is expected to perform well with vacancies staying below 10%. Rent growth is expected to moderate during the next two years, running 4% to 5% annually.
In the immediate future, absorption is predicted to slow as the economy adjusts to changes in the housing and financial sectors.
The long-term forecast for absorption is positive as other industries across OC’s diverse economy continue to grow, hiring additional workers and absorbing more space. The county’s direct vacancy rate of 8.2% was up 0.9% from the fourth quarter’s 7.3% rate. It also was up 0.2% from the year ago rate of 8%. Tenants are gradually finding more space options as new construction is completed. The overall availability rate is 12.8%, up from 11.7% in the fourth quarter.
Investor demand for office properties here slowed last year from 2005 levels. Investment sales in 2006 totaled $1.6 billion, down 45% from a year earlier, according to Real Capital Analytics. Maguire Properties bought about 22 local buildings from Blackstone Group as part of Equity Office Properties Trust Inc.’s portfolio. Maguire paid $2.9 billion for OC buildings as part of Blackstone’s OC and Los Angeles office portfolio. It then said it was selling 11 of those OC buildings to Newport Beach’s Bixby Land Co. to help it finance its original buy.
2007’s sales volume should top 2006’s total volume.
Airport Area
The slowdown in the housing market is impacting the airport area, which has exposure to the mortgage industry, as well as the majority of new buildings set to be completed. The airport area overall availability rate ended the first quarter at 14.2%, up 1.2% from the fourth quarter’s rate of 13%.
The availability rate was driven upward by construction activity totaling 1.6 million square feet and additional sublease space, which accounted for another 1.28 million square feet.
The airport area recorded 424,288 square feet of absorption in the first quarter as Broadcom Corp. moved into University Research Park, a newly-constructed 685,000-square-foot campus that was the largest completion in the county. Net absorption in the airport area would have been a negative 260,712 square feet without the Broadcom occupancy.
Other deals in the market fueling absorption levels included Intrabiotics Pharmaceuticals Inc., Pathway Capital and Premier Office Center.
Leasing activity throughout the South Coast Metro market area increased. Activity was bolstered by significant office leases totaling approximately 130,000 square feet signed by Pacific Communications at 535 Anton, and Rutan & Tucker LLP and Bloomingdales at 611 Anton.
South County
South County continues to register tight vacancy levels. In the first quarter, Valeant Pharmaceuticals International moved into its new headquarters campus in Aliso Viejo.
Despite negative absorption during the first quarter, this market continues to be one of the most sought after in the county. The vacancy rate increased to 9.6% from 8.2% in the fourth quarter, primarily due to the addition of newly developed office buildings and Broadcom relocating to University Research Park.
The average asking rate in South County continued to be the second highest locally, reaching $2.70 in the first quarter, up 3.5% from the previous year. Nearly 1.3 million square feet is under construction.
Central County
The Central County market vacancy rate edged upward accompanied by negative absorption and limited construction.
The vacancy rate ended the first quarter at 7.4% compared with 7% in the fourth quarter, and down 2.4% from a year ago. There are 12 full floors totaling 160,667 square feet available for lease.
The average asking rent for all classes is $2.34, up 3.1% from the fourth quarter’s rate of $2.27.
Central County’s construction pipeline is limited in 2007, but is heavier in 2008. Four projects, 1551 Douglass Road, 2420 E. Katella Ave, Orangewood Ave., and 200 N. Cabrillo Park Drive, are on the horizon totaling 647,000 square feet.
North County
Although vacancy rates for office space in North County have been dropping steadily during the past year, the rate rose to 6.6% in the first quarter, up from 4.8% in the fourth quarter. With little newly constructed buildings entering the market, this rise in vacancy may indicate the beginning of a temporary slowdown brought on by the weakening of the subprime mortgage market and other real estate businesses that are releasing space back into the market.
Nineteen large blocks of contiguous space totaling 434,513 square feet and 1.04 million square feet of sublease space pushed the availability rate to 14.6%.
As lease rates continue to rise in the county, the average asking rate for all classes is $2.19, the second lowest in OC.
West County
The West County average office vacancy continued its decline in the first quarter. The vacancy rate was at 5.1%, compared with 5% in the fourth quarter and 9% a year ago. The average asking rent for class A space is $2.53, down from $2.54 in the prior quarter. Class B space is going for $1.99, up from $1.96 in the fourth quarter.
Closing 2006 with a vacancy rate below 10% for the 10th consecutive quarter, the Inland Empire began 2007 with trends seen in past quarters,low vacancy rates, rising asking rental rates and increasing under construction activity.
There was, however, one exception: Absorption was down 41% from a year ago. The decline can be attributed to limited new construction completed.
This will change once preleased buildings emerge through the construction pipeline, as evidenced by 2006: 86% of the year’s 1.2 million square feet of total absorption came from new space added during the year.
Early tenant commitments for under development buildings will drive future absorption levels as companies expand or relocate their corporate headquarters to access competitive rents and newer inventory.
Construction was up 26% from one year ago and developments,not only larger,are more sophisticated.
Consistent demand for new space held the vacancy rate at 7.6%, not far from the 7% posted a year earlier year. Monthly asking rents were up 12 cents and 4 cents for class A and B space, respectively. The region’s population surpassed 4 million residents in 2006.
The Los Angeles office market is breaking records, fueled by a healthy growing regional economy predicted to add more than 40,000 jobs in 2007, according to the Los Angeles Economic Development Corp. The office market saw its 13th consecutive quarter of positive net absorption.
Although some submarkets experienced a moderate amount of negative absorption, the decline in occupancy was the result of vacant sublease space, which is actually welcome in this extremely tight market.
Without a doubt this is a landlord’s market,with little to no leasing concessions and asking rents soaring to new heights. Class A asking rental rates have jumped to $3 per square foot per month, while class B space is going for $2.29 per square foot per month, an increase of 14% and 9% year over year, respectively.
The quarter ended at a 9.5% vacancy rate, 1.5 percentage points lower than this time last year.
With only a handful of new office projects under construction and almost no developable parcels of land, the Los Angeles office market will not go unnoticed. Expect heightened investor interest and more speculative office development going forward, as the already hot market continues its upward path.
