HIGHLIGHTS NORTH AMERICA WWW.COLLIERS.COM Q1 2012 | OFFICE K.C. CONWAY EMD | Market Analytics The Bottom Line • A national rebalancing of business growth from FIRE (Finance, Insurance and Real Estate) to ICEE (Intellectual Capital, Energy and Education) has shifted office demand to cities with ICEE industry concentrations. • An oncoming wave of maturing debt will soon change the volume and tenor of sales transactions. • National office absorption remains steady, but a full robust recovery is still in the future. • Office construction is still low, with only 9.4 MSF of new supply delivered in Q1 2012. Measured Rebalancing We often use the term “measured rebalancing” to describe the current state of the U.S. office property market. This refers to the long process of working through an oversupply of office space according to materially different demand drivers. The market must recalculate the amount of office space required, and recalibrate in areas that space demand has shifted. MARKET INDICATORS Relative to prior period U.S. OFFICE MARKET SUMMARY STATISTICS, Q1 2012 Office Demand Steady on Strength of ICEE Industries Q1 2012 Q2 2012* VACANCY NET ABSORPTION CONSTRUCTION RENTAL RATE *Projected Vacancy Rate: 14.95% Change from Q4 2011: –0.09% Absorption: 8.1 Million Square Feet New Construction: 7.5 Million Square Feet Under Construction: 38 Million Square Feet Asking Rents Per Square Foot (Change from Q4 2011): Downtown Class A: $40.96 (+0.56%) Suburban Class A: $26.14 (+1.07%) 15.3% vac. 15.3% vac. Sq. Ft. By Region 2.000000 1.000000 2.000000 Total_OffSF-Vacant_OffSF Vacant_OffSF Absorption Per Market Q4 '11 - Q1 '12 1,200,000 120,000 -120,000 -1,200,000 4 million 2 million 400,000 Occupied Sq. Ft. Vacant Sq. Ft. 16.3% vac. 15.3% vac. 15.3% vac. 13.5% vac. 6.7% vac. NORTH AMERICAN OFFICE VACANCY, INVENTORY AND ABSORPTION—Q1
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HIGHLIGHTSNORTH AMERICA
WWW.COLLIERS.COM
Q1 2012 | OFFICE
K.C. CONWAY EMD | Market Analytics
The Bottom Line•A national rebalancing of business growth from FIRE (Finance, Insurance and Real Estate) to ICEE
(Intellectual Capital, Energy and Education) has shifted office demand to cities with ICEE industry concentrations.
•An oncoming wave of maturing debt will soon change the volume and tenor of sales transactions. •National office absorption remains steady, but a full robust recovery is still in the future.• Office construction is still low, with only 9.4 MSF of new supply delivered in Q1 2012.
Measured RebalancingWe often use the term “measured rebalancing” to describe the current state of the U.S. office property market. This refers to the long process of working through an oversupply of office space according to materially different demand drivers. The market must recalculate the amount of office space required, and recalibrate in areas that space demand has shifted.
MARKET INDICATORSRelative to prior period
U.S. OFFICE MARKETSUMMARY STATISTICS, Q1 2012
Office Demand Steady on Strength of ICEE Industries
Q1 2012
Q2 2012*
VACANCY
NET ABSORPTION
CONSTRUCTION
RENTAL RATE
*Projected
Vacancy Rate: 14.95% Change from Q4 2011: –0.09%
Absorption: 8.1 Million Square Feet
New Construction: 7.5 Million Square Feet
Under Construction: 38 Million Square Feet
Asking Rents Per Square Foot (Change from Q4 2011): Downtown Class A: $40.96 (+0.56%) Suburban Class A: $26.14 (+1.07%)
15.3% vac.
15.3% vac.
Sq. Ft. By Region
2.00000000e+009
1.00000000e+009
2.00000000e+008
Total_O�SF-Vacant_O�SFVacant_O�SF
Absorption Per MarketQ4 '11 - Q1 '12
1,200,000
120,000
-120,000
-1,200,000
4 million
2 million
400,000
Occupied Sq. Ft.
Vacant Sq. Ft.
16.3% vac.15.3% vac.
15.3% vac.
13.5% vac.
6.7% vac.
NORTH AMERICAN OFFICE VACANCY, INVENTORY AND ABSORPTION—Q1
P. 2 | COLLIERS INTERNATIONAL
HIGHLIGHTS | Q1 2012 | OFFICE | NORTH AMERICA
“Office space demand is now driven by tech industries in ‘Knowledge Gateway’ markets, such as Austin, Boston and Silicon Valley; and energy corridor markets extending north from Houston into Canada.”
Raleigh
WashingtonSilicon Valley
Austin
Denver
Houston
Calgary
Toronto
Seattle
Baltimore
ICEE Markets on Fire FIRE Markets on Ice
• Houston and Calgary were the only two markets with over 1 million square feet (MSF) of absorption in Q1 2012.• Toronto boasted the lowest vacancy (5.3 percent) of any market with over 10 MSF of inventory.• Seattle ranks 5th highest in absorption, with a vacancy rate below 13 percent.• Silicon Valley was in the top 10 US markets for decreased vacancy rate.• Baltimore and Washington DC each boast a vacancy rate below 15 percent.• Raleigh boasts a vacancy rate below 12.5 percent and saw positive absorption for the quarter.
• Atlanta and Los Angeles were the only two metros with inventories over 200 million SF and vacancies over 17.5 percent.• Los Angeles and Orange County each had vacancy rates over 18 percent.• Central New Jersey showed the worst absorption of the top 20 o�ce markets.• Chicago saw negative absorption and 15 percent vacancy.• West Palm Beach experienced negative absorption and 19.5 percent vacancy.• Midtown South Manhattan saw negative absorption in Q1 2012.• Phoenix su�ered from negative absorption and a vacancy rate over 22 percent.
Prior to the housing and financial crises, office demand was aligned with growth in financial services and the over-heated housing markets. New bank charters, growing numbers of subprime lenders and unparalleled demand for residential and commercial mortgage-backed securities all propelled a need for more office space in markets with high concentrations of these industries, such as Chicago, Los Angeles and New York. As the subsequent recession and recovery has unfolded, financial and real estate businesses are no longer growing in the way they once were. Now, a new set of demand drivers has taken hold.
ICEE Markets on Fire One of the key differences between improving and lagging office markets is the type of industry concentrations each has. Office space demand is now driven by tech industries in ‘Knowledge Gateway’ markets, such as Austin, Boston and Silicon Valley; and energy corridor markets extending north from Houston into Canada. As some manufacturing returns to the U.S. from Asia and India, office demand is also growing in inland manufacturing markets in the Midwest and port markets along the Gulf Coast, South Florida and the Mid-Atlantic States—especially Miami, Virginia and North Carolina.
We have chosen two categories to distinguish between leading and lagging industries: FIRE and ICEE.
•Finance, Insurance and Real Estate (FIRE) markets are seeing stalled growth in demand for office space.
•Intellectual Capital, Energy and Education (ICEE) markets feature con-centrations in a combination of technology, higher education and energy industries. These growing industries are pushing up demand for office space in select markets, especially in Class A buildings.
Office demand has shifted away from FIRE and toward ICEE, thereby fa-voring cities with higher concentrations of ICEE industries.
Rents and Absorption Showed Improvement over Last Year The U.S. has seen a sustained modest improvement in vacancy and absorption in recent quarters. However, a more robust recovery in office demand—such as is occurring in multifamily and industrial real estate—remains elusive. Uncertainties in the economy are keeping businesses from hiring and leas-ing offices.
For Q1 2012, approximately 14.9 percent of the inventory that Colliers tracks was vacant; an improvement of 8 basis points from year-end 2011. With only 7.5 MSF of new supply delivered to these 81 markets in Q1, net absorption was a positive 8.1 MSF. With this amount of vacant space, and anemic office-related job growth, office rents improved just marginally in the 36 CBD markets that reported rent increases. The other 36 CBD mar-kets registered flat or declining rents. Thirty-two Suburban markets re-ported rent growth, while 37 suburban markets reported flat or declining quarter-over-quarter rents. Class A CBD rents improved from $40.73 per square foot to $40.96 per square foot. Class A Suburban rents increased from $25.86 to $26.14 per square foot.
SELECT INTELLECTUAL CAPITAL, ENERGY AND EDUCATION (ICEE) CITIES
P. 3 | COLLIERS INTERNATIONAL
HIGHLIGHTS | Q1 2012 | OFFICE | NORTH AMERICA
Slow Recovery Makes Businesses Hesitate to Expand Owners and inves-tors held out the hope at the onset of 2012 that the rebound in multifamily and industrial real estate demand would soon spill over to the office sector. This hope was rooted in a number of promising economic metrics: in March, it was confirmed that GDP expanded during the final quarter of 2011 by 3 percent; the unemployment rate declined to 8.3 percent; and the labor market delivered 227,000 new jobs in February. However, the start of 2012 now seems eerily similar to that of 2011, which began with positive economic indicators that fizzled out as the year progressed. Now a more robust economic recovery remains elusive amidst uncertainties stemming from upcoming elections and concerns about the impact of the European Crisis on the U.S. economy. Businesses and investors are anxious about making long-term investment decisions.
Pockets of Strength While a robust recovery remains elusive at the national level, macro market averages tell just a part of the office property sector story. A more detailed look shows a market split into areas of strong and weak demand. In many cases, the shift in office demand drivers from FIRE to ICEE has been the engine of growth for these stand-out markets. •The largest markets are experiencing more robust office demand, with ICEE as a major driver. More than half of the total net absorption in Q1 came from the 21 largest markets. Approximately 2.6 MSF of this net ab-sorption (24 percent of 10.8 MSF North American total.) came from ICEE markets ranked among the 21 largest metros.
•In terms of occupancy rates, the largest U.S. markets are in line with the overall U.S. rate. The 10 largest markets (Midtown Manhattan, Midtown Manhattan South, Washington, D.C., Chicago, Dallas, Atlanta, Los Angeles, Houston, Boston and Philadelphia) have a vacancy rate of around 15 percent.
•The next ten largest markets show a lower vacancy rate, thanks to the support of three ICEE markets. The metros ranked 11th to 2nd in size (Toronto, Denver, Northern New Jersey, Detroit, Phoenix, Cleveland, Seattle, Pittsburgh, Minneapolis, Central New Jersey, Charlotte and Baltimore) have an average vacancy rate of 14.1 percent, 85 basis points lower than the aver-age for the U.S.
•The highest vacancies are concentrated in California and the Northeast. Approximately one-third of the markets have an average vacancy rate above 15 percent. Of these 27 markets, seven are located in California and five are located in the Northeast, where FIRE is the primary office demand driver.
•ICEE drives much of major market absorption. Only two markets had in excess of 1 MSF of net absorption, and both were ICEE markets: Houston and Calgary. Only eight metros had net office absorption in ex-cess of 500,000 square feet (Calgary, Houston, Toronto, Seattle, Atlanta, NY – Midtown Manhattan, NY – Downtown Manhattan, and Philadelphia), and half of these were ICEE markets.
•Investors should look beyond the core, as secondary markets show some strength, driven by ICEE, manufacturing and agriculture. Only 19
of the 60 markets that contain less than 100 MSF of inventory saw nega-tive absorption. This trend suggests that, despite the strategy of institu-tional capital which pursues properties in core markets with at least 100 MSF of office inventory, investors should begin to look beyond the 7/11s (the core 11 markets in 7 states). Office demand in secondary markets such as Raleigh and the Silicon Valley is being driven by ICEE, but beyond these markets much of the demand is being fueled by a more traditional set of drivers. A boom in agriculture and manufacturing growth is stimu-lating some office demand in markets such as Boise, Charlotte, Grand Rapids, Indianapolis, Louisville and Nashville.
High Office CMBS Delinquencies Set the Stage The volume and tenor of transaction activity is set to change, as the wave of maturing office debt creeps into focus. The news remains disconcerting. The delinquency rate for U.S. commercial real estate loans in CMBS increased another 12 basis points in April to 9.3 percent, as reported by TREPP. The value of delin-quent loans is now $58.1 billion. The office property delinquency rate was up 85 basis points, setting a new all-time high of 10.23 percent.
“In many cases, the shift in office demand drivers from FIRE to ICEE has been the engine of growth for these stand-out markets.”
US GDP PRE-2008/2009 FINANCIAL CRISIS THROUGH Q1 2012
Q2 Q3 Q4 Q1 2011
Q2 Q3Q4Q3 Q1 2009
Q2Q2Q4Q3 Q1 2008
Q1 2007
Q2 Q3 Q4 Q1 2010
Q4 Q1 2012
-8
-10
-6
-4
-2
0
2
4
6
1.83
1.81.32.32.5
3.83.93.8
1.71.31.73
3.6
-6.7
-8.9
-3.7
-1.8 -0.7
0.40.5
Source: Trepp
DELINQUENCY RATES BY PROPERTY TYPE
APR - 12 MAR - 12 FEB - 12 3 MO 6 MO 1 YR
Industrial 12.36 12.54 12.37 12.14 11.59 10.76
Lodging 10.55 10.63 11.05 12.09 14.12 15.45
Multifamily 15.18 15.39 14.65 15.39 16.73 16.77
Office 10.23 9.41 9.04 8.90 8.95 7.20
Retail 7.98 8.24 8.00 7.88 7.61 8.15
Overall 9.80 9.68 9.37 9.52 9.77 9.65
P. 4 | COLLIERS INTERNATIONAL
HIGHLIGHTS | Q1 2012 | OFFICE | NORTH AMERICA
Stabilized and Distressed Sales Set Two Very Different Pricing Benchmarks The ICEE markets will continue to attract a disproportionate share of investment capital slated for office properties in 2012, thanks to positive absorption, declining vacancy and strong office-related job growth. But unlike the distinction in demand between FIRE and ICEE, there is another story of extreme bifur-cation in transaction volume and pricing: the split between the highly valued stabilized assets in core markets and the distressed and overleveraged properties working their way through debt restructuring.
Institutional capital is still focused on stabilized assets in core markets, regardless of the office demand drivers, with transaction activity concentrated in a few major markets; New York, Washington, D.C., Chicago, Boston, Houston, Los Angeles, San Francisco, Seattle, Dallas, Atlanta and Denver were all markets with more than $1.5 billion in office transaction activity in 2011 and they continue to lead investment activity in Q1 2012, according to data from Real Capital Analytics. Much of the institutional investment in Atlanta and Chicago represents opportunistic distressed asset investment by those wishing to capitalize on overleveraged CMBS office debt maturities and defaults. The remaining eight markets represent the core financial service, technology and energy markets. Institutional capital believes these eight markets have the most compelling metrics and yield for investment objectives.
Two recent office transactions illustrate the pricing dichotomy between stabilized properties in core markets and distressed or overleveraged properties.
•$550 per square foot for Seattle’s 872,000-square-foot Russell Investment Center•$101 per square foot for Minneapolis’ 1.1-million-square-foot Fifth Street Towers office complex
The Russell Investment Center in Seattle, built in 2006, was originally the corporate headquarters of Washington Mutual. As fallout of the financial crisis, the property was left without a tenant. In 2009, Northwest Mutual paid $132 per square foot for this mostly vacant CBD Seattle office build-ing. Since then, the property attracted investment-grade tenants leasing up 95% of its available space. In three years, Northwest Mutual more than quadrupled its investment. This transaction shows the high price that institutional capital will pay for a prime property in a core market—sales above $500 per square foot are no longer atypical in Boston, Houston and Seattle—where there is certainty of cash-flow stability. This kind of turnaround story is what investors in the over-lever-aged Atlanta, Charlotte, Chicago and Phoenix markets are anticipating.
The Minneapolis Fifth Street Towers office complex exemplifies a very different type of transaction. This 1.1 MSF 1985 vintage property was purchased in a foreclosure auction sale with an occupancy that had fallen to 60 percent. The $101 per square price shows the relatively low ceiling that in-vestment capital is willing to pay for over-leveraged and distressed office assets requiring both further funds and considerable management expertise in order to re-stabilize.
Absorption dipped slightly below expectations in the beginning of 2012. We attribute much of this to the post-holiday slump in leasing activity.
Excluding renewals, of the leases signed this quarter in your CBD/downtown, did most tenants:
Contract Expand
Holding Steady
What was the trend for Free Rent (in Months) o�ered by CBD Landlords this quarter?
82%
12% 6%
Same
Less More
What was the trend for Tenant Improvement Allowances ($ per SF) o�ered by Landlords this quarter?
85%
12% 3%
Same
Less More
Excluding renewals, of the leases signed this quarter in your Suburban o�ce market, did most tenants:
48%Expand 44%
Contract
8%Holding Steady
HIGHLIGHTS | Q1 2012 | OFFICE | NORTH AMERICA
COLLIERS INTERNATIONAL | P. 5
“The market must recalculate the amount of office space required, and recalibrate in areas that space demand has shifted.”
Rents and Office Construction at a Crawl, but ICEE Markets Show Signs of Life Only 9.5 MSF of new supply was delivered in Q1 2012, just 0.2 percent of the total 6.3 billion square feet of existing office inventory. The lack of significant office construction has helped to bolster current office demand and will intensify future demand when it returns. Stabilized office markets with vacancy rates of 10–15 percent and 1.5–2.0 percent job growth require existing inventory to expand by approximately 2.0 percent to maintain market equilibrium and keep rents from rising. At such a growth rate, the nation would require 122.8 MSF—more than eight times the cur-rent new supply. With so little new supply in the pipeline, the stage is set for continued improvement in office vacancy, especially in the ICEE markets.
•The markets that saw the most new deliveries of space in Q1 2012 were New York, Calgary, Washington, D.C., Houston, Philadelphia, Baltimore and Louisville.
In some cases, the absence of available properties in technology and energy markets is stimulating new construction activity. This has caused an uptick in Houston’s office construction, where 915,000 square feet of new supply was delivered in Q1 2012. It has also spurred unexpected construction in some smaller markets. In the Raleigh market, for example, software
publisher SAS Institute announced in March that it will build another 213,000 square feet on its Cary campus later this year. SAS was not able to find existing expansion space. This is not the first new construction for SAS. In 2011, it opened a 287,000 square foot building, and added 367 jobs. When this latest building is completed in late 2014, SAS will add another 650 office workers to its existing 5,000 Cary, NC, employees.
This same kind of growth and demand for office space is occurring in other technology and energy markets, such as Austin, Baltimore, Denver, San Jose/Silicon Valley, Seattle and Portland.
Waterloo Region, ON 89,133,775 8.8 8.4 270,813 31.98 0.8% 0.4%
Canada Total 89,133,775 8.8 8.4 834,581 31.98 0.8% .4%
Inventory – Includes all existing multi- or single-tenant leased and owner-occupied office properties greater than or equal to 10,000 square feet (net rentable area). In some larger markets this minimum size threshold may vary up to 50,000 square feet. Does not include medical or government buildings.
Vacancy Rate – Percentage of total inventory physically vacant as of the survey date, including direct vacant and sublease space.
Absorption – Net change in physically occupied space over a given period of time.
New Supply – Includes completed speculative and build-to-suit construction. New supply quoted on a net basis after any demolitions or conversions.
Annual Quoted Rent – Includes all costs associated with occupying a full floor in the mid-rise portion of a Class A building, inclusive of taxes, insurance, maintenance, janitorial and utilities (electricity surcharges added where applicable). All office rents in this report are quoted on an annual, gross per square foot basis. Rent calculations do not include sublease space.
Cap Rate – (Or going-in cap rate) Capitalization rates in this survey are based on multi-tenant institutional grade buildings fully leased at market rents. Cap rates are calculated by dividing net operating income (NOI) by purchase price.
Note: SF = square feet MSF = million square feet
PSF = per square foot CBD = central business district
Glossary
* Victoria, BC year end is Q3
HIGHLIGHTS | Q1 2012 | OFFICE | NORTH AMERICA
WWW.COLLIERS.COM
COLLIERS INTERNATIONAL
601 Union Street, Suite 4800Seattle, WA 98101TEL +1 206 695 4200
The information contained herein has been obtained from sources deemed reliable. While every reasonable effort has been made to ensure its accuracy, we cannot guarantee it. No responsibility is assumed for any inaccuracies. Readers are encouraged to consult their professional advisors prior to acting on any of the material contained in this report.
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UNITED STATES | OFFICE INVESTMENT
MARKET
CBD SALES PRICE
(USD PSF)
CBD CAP RATE
(%)
SUBURBAN SALES PRICE
(USD PSF)
SUBURBAN CAP RATE
(%)Atlanta, GA 100.00 8.20 131.00 9.00 Baltimore, MD 112.09 9.50 Boston, MA 474.00 5.50 107.00 8.50 Charleston, SC 250.00 8.00 135.00 11.00 Chicago, IL 350.00 6.50 225.00 7.25 Cincinnati, OH 125.00 9.75 137.50 9.50 Dallas/Fort Worth, TX - - 140.00 7.90 Denver, CO 238.00 6.50 179.00 8.00 Detroit, MI 35.00 47.50 Fairfield County, CT - - 95.00 8.00 Fresno, CA 105.00 9.00 140.00 8.50 Ft. Lauderdale-Broward, FL 234.00 141.00 Grand Rapids, MI 125.00 9.20 110.00 9.00Hartford, CT 112.00 8.90 -Houston, TX - - 125.00 8.00 Indianapolis, IN 160.00 8.10 145.00 7.30 Las Vegas, NV - - 116.00 -Little Rock, AR 88.00 9.50 110.00 9.25 Long Island, NY - - 210.29 7.58 Los Angeles - Inland Empire, CA - - 175.00 8.00 Los Angeles, CA 250.00 6.60 225.00 8.60 Miami-Dade, FL - - 141.00 Minneapolis, MN - - 127.67 8.00 Nashville, TN 94.42 - 106.65 New Jersey - Central - - 120.86 8.05 New Jersey - Northern - - 188.55 7.42 New York, NY - Downtown Manhattan 290.00 5.00 - -New York, NY - Midtown Manhattan 741.00 4.70 - -New York, NY - Midtown South Manhattan 413.00 5.00 - -Oakland, CA - 8.00 110.49 9.00 Oklahoma City, OK 64.00 - 81.33 10.24 Orange County, CA - - 300.00 7.00 Orlando, FL 205.00 9.00 150.00 8.20 Philadelphia, PA 130.00 8.00 162.00 8.00 Phoenix, AZ 60.00 77.00 8.30 Pittsburgh, PA 120.00 8.26 110.00 8.50 Portland, OR 313.34 77.33 San Diego, CA 79.26 230.27 7.00 San Francisco Peninsula 250.00 6.50 San Francisco, CA 418.00 6.00 San Jose - Silicon Valley 350.00 6.00 Savannah, GA 150.00 9.50 120.00 9.75 Seattle/Puget Sound, WA 298.48 7.68 184.45 7.53 St. Louis, MO 95.00 9.25 130.00 8.50 Stamford, CT 350.00 8.00 - -Stockton, CA 142.50 8.60 - -Tampa Bay, FL - - 116.00 9.00 Walnut Creek/Pleasanton, CA 120.00 8.00 90.00 8.50 Washington DC 650.00 5.75 240.00 7.25 West Palm Beach/Palm Beach County, FL 73.00 - 133.00 -Westchester County, NY - - 133.00 8.00 White Plains, NY 350.00 8.00 - -