Landlords Ease Rent Demands And Flight To Quality Ensues
Reacting to falling leasing activity and weakened demand, landlords of premium buildings eased their rent requirements in 2018 and leased up the most Class A space in three years.
The flight to quality came at the expense of Class B buildings, which account for about half the county’s total office inventory. Absorption was negative 896,630 SF in 2018 in this class with three quarters of contraction.
Countywide, demand for space closed the year in the red by 102,307 SF, the first annual net loss since 2009. That follows a 580,000 SF net absorption gain in 2017 and increases averaging nearly 1.4 million SF over the previous four years.
Net absorption for Class A space ended the fourth quarter at 172,929 SF, boosting the total for the year to 808,411 SF. Virtually all of the growth was in the South County market.
Adding to the strain on landlords, 842,816 SF of space was completed this year and about 2.3 million SF – largely creative open-concept campus designs – have been added to inventory since 2016, most of which was developed by the Irvine Co.
But the delivery of the new space has come late in the economic cycle amid signs of slowing expansion and periodical surveys lately showing recent reduced business optimism. This is forcing anxious landlords to cut rent demands and make other concessions.
For example, Class A asking rents increased an average 4.5% over the last 24 months compared to the average 8.5% in rent growth for each of the previous three years. Owners of Class B space, meanwhile, were pushing rents in 2018. Asking lease rates gained an average 9.8% in 2018 after growing at an average 6.6% annually since 2014.
Weakened demand in 2018 in the Airport and Central County markets combined for 972,000 SF of negative absorption. Growth was nearly flat in the West County and North County markets.
South County posted an 835,930-SF gain in 2018 with the Irvine Co. landing much of that tenant growth in its vast and expanding portfolio of premium properties. The company completed two buildings totaling 211,000 SF in the Sand Canyon Business Center earlier in the year. In the fourth quarter the company delivered The Quad, four mid-rise buildings totaling 370,000 SF about 65% pre-leased in the Irvine Spectrum.
Despite posting a strong fourth quarter with 499,321 SF of net absorption, the Airport market, which makes up 38% of the county’s inventory, was 613,707 SF in the red for the year.
There were 1,593 lease transactions countywide in 2018, down 27% from 2017 and 25% from the average of the previous five years.
Executives polled in Cal State Fullerton’s Q4 business expectations survey expressed reduced optimism with 47% forecasting a healthy profit picture, down from 64% at the end of Q3.