It’s a great time to be an office tenant in Orange County.
Companies that are positioned to ride out the recession have their pick of prime office space, as less-solvent businesses abandon choice locations.
This mass exodus of local companies, led by the mortgage, finance and real estate industries, is expected to push rents down and vacancy rates up to at least 20%, according to market watchers.
“It is no longer a question of whether vacancy will hit 20%, but how high it will go,” according to Colliers International’s first-quarter review of the office market.
OC passed the double-digit mark for vacancies in mid-2007, as fallout from the subprime mortgage meltdown began to take its toll.
The bleeding hasn’t stopped since then, thanks in part to a bevy of development projects,which are largely wrapped up now but still unoccupied,and a local economic downturn that’s approaching two years in duration.
The vacancy rate for OC’s office market, which totals about 100 million square feet, now runs close to 18%, although brokerages differ on this.
When factoring in empty sublease space, the total vacancy rate for the area is closer to 23%, if not higher.
Rents
Vacancy rates only tell part of the story. Monthly asking rents fell by nearly 10 cents last quarter to $2.37 per square foot, according to Jerry Holdner, vice president of market research for Voit Commercial Brokerage LP.
It’s one of the largest quarterly drops seen on record in OC, according to Holdner. And the drops came amid a quarter in which leasing volume was minimal, especially in January and February, he said.
A majority of deals being completed in January and February by the Irvine Company were holdovers from the latter parts of 2008, with few new leases, said Steven Case, senior vice president of leasing for the area’s dominant landlord.
“Rents are under some pressure,” Case said.
On the upside, “there’s been an uptick during the past 30 days. Some firms are feeling a little more comfortable” making a deal, said Case.
The landlord said it leased more than 280,000 square feet in the quarter, including to a trio of law firms: Crowell and Moring LLP, Troutman Sanders LLP and Browne Woods George LLP.
National trends followed the same script as OC did in the first quarter, as businesses spooked by the economy opted out of making long-term lease deals. U.S. office rents fell by the steepest amount in seven years last quarter, dropping 2%, according to New York-based research company Reis Inc.
In OC, vacancy rates are now highest in the office area around John Wayne Airport, at about 19%. Rents in the airport submarket are now down 30 cents, or about 10%, from a year ago, said Kurt Strasmann, regional managing director of OC brokerage operations for Santa Ana-based Grubb & Ellis Co.
What’s more, effective lease rates are falling well below the asking rates quoted by landlords, said Strasmann.
“Landlords are going to do what it takes” to make deals and especially to retain existing tenants, Strasmann said.
For many landlords, that means agreeing to “blend and extend” deals, where tenants renegotiate their current leases for longer periods, but at lower rates, said Jeff Ingham, executive vice president for the Newport Beach office of Jones Lang LaSalle.
Tenants win in blend and extend deals by cutting their lease costs, while landlords lock in existing tenants for longer periods,a big bonus in an area where there’s few new tenants currently on the market, according to Ingham.
Grubb & Ellis is advising many of its local landlord clients to agree to these deals, as well as to be open to making new leases in the four-to-five year range. Some landlords were leaning toward shorter lease terms, in the hope that the office market will recover sooner rather than later.
A quick turnaround doesn’t appear too likely in the short-term, with grim job forecasts for this year, Strasmann said.
“I don’t see any turnaround in the near-term,” said Jeff Osborn, managing director for the Anaheim office of CB Richard Ellis Group Inc. and the head of the company’s office division in Southern California.
It could take until late 2010 or early 2011 before the market recovers,and longer before the market returns to “normal,” Osborn said.
That puts even good-standing tenants on edge.
Businesses are “having a tough time getting enough visibility to make a commitment” to a large lease, said Royce Sharf, executive vice president for the Irvine office of Studley Inc.
Many tenants that normally would factor in modest yearly growth to their short-term plans and then lease enough space to allow for that growth now are just projecting flat yearly business. That’s resulting in smaller leases, said Ingham.
For those that do have a good handle on where their business will be, “it’s a very good time to be a tenant, maybe the best time since I’ve been here,” said Sharf.
