Greed in a Soft Office Market

by CoyDavidson on September 1, 2010

“Greed is Good”

As a 20 year veteran of the office leasing game I have lived through more than a couple market cycles. During my career I have spent time on both sides of the fence, representing both Tenants and Landlords. When I started my career in 1989, the Houston office market was still emerging from the Texas Energy, Banking and Real Estate bust of the mid-1980’s. Now that was a tenant’s market, net rents were a fraction of building operating expenses and any office tenant with a pulse could strike an attractive lease deal. The financially sound tenants could get downright greedy, and many did.

As we moved through 90’s the Houston office market began a slow but steady recovery until we reached the 20th century and we hit another mild recession. From the year 2000 to 2003 Houston recorded 2.6 million square feet of negative office space absorption.

Fast forward to 2004, and it was the office building owners turn to get greedy. From 2004 to 2008 the Houston office market recorded 17.8 million square feet of positive office space absorption. Rental Rates skyrocketed and vacancy rates fell even as substantial new office product hit the market. “Sticker Shock” was the operative term used by tenant reps to describe what their office tenant client were experiencing who faced rental rates sometimes 30-40% more than what they had negotiated on their last lease term. Even if you went into the market to look for new space, you would often find yourself competing with one or more other tenants for the same space. This period was without a doubt a Landlord’s market.

Is Houston really a Tenant’s market?

In 2009, Houston finally began to feel the recession that most of the country began to feel a year earlier. Since the beginning of 2009, Houston has recorded 1,397,349 square feet of negative office space absorption which is not all that severe for a market with almost 200 million square feet. The year-over-year change in office occupancy citywide has been moderate with 83.5 percent occupancy at the end of the second quarter compared to 84.9 percent in the same quarter last year. Quoted rental rates citywide for Class A space have decreased 3.1 percent, with the CBD Class A decreasing 7.5 percent to $35.86 per square foot, while suburban Class A space has decreased a minimal 0.9 percent to $27.35 per square foot.

Houston “Class A” Office Rents

However, we are seeing a bigger spread between quoted rents and where deals are actually getting signed, and building owners have stepped up concessions such as free rent, more liberal tenant improvement allowances and abated parking charges. I have been a little reluctant to officially use the term “Tenants Market” when describing the Houston office sector, maybe because my basis of comparison is 1989. I prefer to say the market has shifted in the Tenant’s favor.

Lately, the economic news has been mixed and there is a ton of uncertainty as to how both the Houston and National economy will perform. I don’t know if it will be 2 quarters or 2 years before we see the Houston office sector begin a trend back into the Landlord’s favor. The concept of sticker shock maybe a long ways off, but rest assured as soon as Landlords see market fundamentals sustain any improvement, the concessions and leasing incentives will begin to diminish, maybe even fairly rapidly. The window of opportunity is still open for office tenants who have not already done so to get a little greedy and take advantage of current market conditions. Gordon Gecko certainly would and so will building owners, when given the next opportunity. History often repeats itself, especially in the real estate business.

{ 1 comment }

Bo Barron, CCIM September 1, 2010 at 3:17 pm

Coy – I love the use of Gekko and the greed associated with real estate in general. Though I’m far away from Houston, your analysis of the office market there is intriguing, and I would agree with you that the tenants position has favorable leverage, but certainly not in a dominating way. My best!

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