Big changes are under way in Orange County’s office market. The vacancy rate for office space in the county, which totals about 95 million square feet, was 8.3% in the first quarter, according to the latest figures from CB Richard Ellis Group Inc. That’s up 20 basis points from the fourth quarter, and a 41% increase from a year ago.
The uptick follows a several-year stretch where OC’s market conditions were solidly in favor of landlords, and rental rates posted annual increases of more than 10%.
Despite the vacancy increases, the county still ranks near the top among the strongest markets in the country. How long that lasts, though, is the biggest source of discussion for local real estate watchers these days.
About 4.7 million square feet of office space is under construction, highlighted by several high-rise office towers expected to be completed by year’s end.
So far, only about 31% of that space is preleased to tenants, according to CB Richard Ellis. This year’s seen only a few lease deals, totaling less than 100,000 square feet, announced for the high-rises.
At the same time, the subprime mortgage industry, which is heavily rooted in OC, is by all accounts collapsing.
Mortgage businesses of all types have 7 million square feet of office space here. About two-thirds of that is tied to the subprime sector, according to Barry Katz, managing director of CB Richard Ellis’ office specialty group in Newport Beach.
New offices and the subprime implosion “are two major events that are coming together. It’s going to make for an interesting market,” said Randall Parker, managing director for Newport Beach-based Travers Realty Corp., which represents tenants in lease deals.
“There’s a lot of curiosity in the market right now about what the (subprime) impact will be or not be,” said Doug Holte, director of Hines Interests LP’s OC and San Diego operations. “Our sense is that a number of large corporate clients are still moving forward (with relocation plans) as if there hasn’t been a big impact.”
Hines has been having success with preleasing for its 2211 Michelson office tower in Irvine. The company signed on Wachovia Corp. and Irvine’s Pathway Capital Management LLC in the past quarter.
The goal is to get the 265,000-square-foot building, set to open in the summer, leased up in the next year, Holte said.
Including the unleased offices and space given back by mortgage companies, the county could see its vacancy rate pushed to close to 12% or 13% by the end of the year, most observers say.
It still would be a healthy market though, industry watchers said.
“It’s a significant increase, but it wouldn’t be disastrous for landlords. It’s not a crash,” Parker said. “But when a market’s vacancy rate goes over 10%, the pendulum usually begins to shift (in favor of) tenants.”
The “x” factor for the county’s office market: How much will the subprime sector’s troubles impact employment here?
A conservative estimate is 10,000 local jobs tied to the mortgage sector could be lost this year. During the dot-com bust earlier this decade, about 30,000 jobs were shed, while 40,000 jobs were lost in the aerospace sector in the 1990s.
“So much of the market’s (fortunes) have to do with job growth,” said Greg May, senior vice president for the Newport Beach office of Grubb & Ellis Co.
Jobs Forecast
Torto Wheaton Research projects employment in the county will grow by about 2% during the next two years, with office jobs expected to see an increase of 22,500 by the end of 2008.
Esmael Adibi, director of the A. Gary Anderson Center for Economic Research at Chapman University in Orange, has pegged job growth for the county at 15,000 jobs in 2007, a 1% gain. OC saw jobs grow about 1.4%, or 21,000 new workers, in 2006. Job growth was 2.3% in 2005.
Subprime Fallout
The most striking example of the subprime sector’s impact on the office market can be seen at Maguire Properties Inc.’s Park Place campus in Irvine.
Irvine-based New Century Financial Corp. and its subsidiaries had been leasing 267,000 square feet in two existing Park Place buildings that Maguire owned.
Prior to this month’s bankruptcy filing, it was readying to take a large chunk of space at 3161 Michelson, the $240 million office tower Maguire is building just off the San Diego (I-405) Freeway and Jamboree Road.
New Century’s deal for 3161 Michelson, expected to be nixed, wasn’t just symbolic of the subprime sector’s rise and fall. At 190,000 square feet, the deal was larger than the combined total of all the other high-rise tower preleases to date.
But it isn’t just the Irvine office market feeling the impact.
Orange and Anaheim have been the tightest markets in OC for much of the past year, with vacancy rates near 5%. Finding full floors of space there,as recently as a few months ago,had been a near impossibility, brokers said.
Fallout from the subprime crash already has begun loosening up that region, as large spaces are being put back on the market.
This month, CB Richard Ellis began marketing full floors of space at the Anaheim PacifiCenter complex, according to brokers. Fremont Investment & Loan, a Brea-based subprime lender that’s part of Santa Monica’s Fremont General Corp., had been the building’s main tenant.
Not all of the subprime space expected to come back on the market has made it yet. That’s causing problems for companies that have an immediate need to move.
“It’s still pretty tight out there,” Grubb & Ellis’ May said. “Finding any space,second generation,is still hard. There’s not a lot of good options.”
If there’s an upside for landlords with the recent giveback in space, it’s that the offices used by the subprime lenders can easily be reconfigured to accommodate different tenants, May said.
That wasn’t the case during the dot-com crash a few years ago. The offices of many of those tech companies weren’t set up well to be subleased.
