CORPORATE OFFICE PERSPECTIVES | AUGUST 1, 2021
Issue: 247
While there are numerous reports of positive commercial real estate news, with a number of submarkets beginning to recover, in many regions’ office vacancy is still at or near all-time highs. We have hundreds of millions of square feet of office space for sublet, and while companies are starting to commit to sizable blocks of space, others are still putting headquarters and regional facilities on the sublease market. If I had to use two words to describe the overall office market, it would be ‘in flux”. Companies are testing the employees’ waters. Total remote versus hybrid remote versus 100% back in the office versus mandatory vaccinations and back in the office. In most markets, asking rental rates are still where they were pre-covid, with significant free rent, tenant improvement allowances, and other concessions offered to entice the smaller prospect pool to sign. All in all we are so much better than we were this time last year, and have two other words that are meaningful, at least to me! ‘We Survived’!!
39% of Small Business Owners Said They Would Fire Employees Who Refuse to Come Back to the Office, and in the same survey 39% said they would not. In an article in the San Francisco Business Times July 8, 2021, Digital.com surveyed 1,500 small business owners. ‘But about 47% of business owners who say they will fire employees for not returning are in white-collar industries such as computer and information technology, business, finance and advertising and marketing.’ ‘It’s true that in-person, human interaction has tremendous value for certain types of teams. It’s also true that some clients are impressed by a room full of people’, Dennis Consorte with Digital.com said. ‘But that’s old-school thinking. Outside of work, people are attached to their mobile devices. They send emails and texts. They have video calls, tag their friends on social media and swipe right for dates. Remote work is just an extension of this existing trend, and companies that are stuck in an old mindset will be left behind.’ We shall see how this massive employment experiment turns out!
Rumors That California Not Attractive To Employers, Employees Much Overrated!
There are many, many recent headlines about major employer commitments to California, in spite of what you have been reading otherwise. Relativity, which designs and 3D prints rockets, just leased a 1 million square foot former Boeing manufacturing plant in Long Beach, California. In Vacaville, Massachusetts biotech company Agenus purchased 120 acres near Genentech’s Vacaville facility. In San Francisco during this past second quarter of 2021, 11 office lease transactions over 50,000 square feet were inked with more than 1.5 million square feet of closed leasing activity. In Silicon Valley, Colliers reported 2.8 million square feet of office space leased April-June 2021, the best showing since the second quarter of 2018. And according to the San Francisco Business Times July 8, 2021, “To the extent that residents are leaving the state, they aren’t leaving in unusually high numbers…the wealthiest Californians are, as a group, the state’s most satisfied residents.”
Good News and Some Not Good News About California
‘Do Californians See Their State Moving In The Right Direction, Or Do They See Themselves Moving Out Of California? This UC San Diego study just out sampled 2,768 respondents and found ‘there has been absolutely no trend toward an exodus. In a similar study in 2019, 24% of California’s registered voters said they had serious consideration about moving out of state, and in the 2021 survey 23% had the same considerations. Here is the link to this 15-page study.
https://www.universityofcalifornia.edu/sites/default/files/uc-san-diego-california-exodus-report.pdf
Cornell University Study On Where Venture Capital Is Being Invested
In the first quarter of 2021 California attracted 48% of all venture capital raised in the United States. Compare this with 2% raised in Texas and 2% raised in Florida
Office Rents, Double-Dip With Operating Expenses, Inflation Worries
Around the United States I have been hearing concern from landlord broker reps that with inflation rates rising, in many areas the standard annual rental increase of 3% might not be enough to keep up. The Federal Reserve Board seems to think that inflation is temporary. This reminds me, as a tenant representative broker, how landlords routinely double dip from tenants anyway. Most (not all) office leases are on a full-service basis, including property taxes, property insurance, sewer, water, janitorial, utilities and building maintenance. Most office leases are written with a base year, usually the first year of occupancy, in which all these expenses are included in the base rent. Each year the tenant is billed their prorate share of the increase in operating expenses over the base year, which might be in the 4-8% a year range. To use as an example a $36/rsf annual full-service rental rate, of this $12/rsf might be for expenses, and if the landlord is charging an annual escalation of say 3% this applies to the entire rent, which means the tenant is paying twice on the expense portion of the rent.
Major CEO Survey Predicts 26% Less Office Space Needed In 2022
Deloitte just came out with a CEO Survey that found CEOs expect one-third of their workforce to continue working from home in January 2022 and anticipate needing 26% less office space in 2022, compared to 2019 levels. In pre-COVID for the most part most employees were expected to come into the office every day, but now they will have a purposeful objective of collaboration, creativity, socialization, and in my opinion, not part of the Deloitte study, much less need for a dedicated office or workstation after successfully working off the cloud for the past 16 months. Some of the subtopics in this survey include New Ways of Working; Location Strategies; Access to Talent; Serviced Offices; Building Utilization
What Flexible Work Models do Google, Apple, Salesforce, Amazon and Microsoft Have in Common?
Ron Miller wrote a recent article comparing the major tech giants and how they planned to have their employees work moving forward. For the most part, Google, Apple, Salesforce, Microsoft and Amazon appear to be offering their employees a variety of hybrid work models, depending on the specific tasks the employee is handling. Most seem to be three days in the office and two days at home or elsewhere, with collaboration the key to being in the office. Dion Hinchliffe, an analyst at Constellation Research who studies distributed work, said “Most tech companies will maintain some degree of flexibility when returning to the office, especially since it is popular with many of their workers. Plus, the worries about productivity loss have turned out to be largely unfounded,“ he said.
Washington D.C. May Be One of Most Challenging Office Markets
While Houston and a few other regions currently have office vacancy rates in excess of 24%, Washington D.C. with a vacancy rate around 20% has a lack of prospective tenants. Bisnow reported that brokers don’t see the vacancy rate going below 10% for several years and leasing concession packages are the highest some have seen in thirty years. There are reports of $150/rsf tenant improvement packages, large amounts of free rent, and office tenants solidly in the driver’s seat. I have been through many similar cycles and the one thing that is for sure is, it won’t last, so tenants need to make hay while the sun shines!
The Bay Area Exodus Might Be Slowing
Updater is a relocation app that helps Americans with various tasks that come with a relocation, such as hooking up to the Internet, getting your mail forwarded, updating your various records, etc. They track who is going where in the U.S. From a migration analysis of 300,000 moves, fewer folks are leaving San Francisco than in 2020, but it is still not time to celebrate. Folks are still leaving California, heading to Nevada, Tennessee, Florida and Texas, but at a less robust rate. The cities with the biggest percentage of inbound moves in the first quarter of 2021 were 1) Fort Myers, Florida, 2) Savannah, Georgia, 3) Austin, Texas, 4) Wilmington, North Carolina, and 5) Sarasota, Florida.
Snapshot Update On Commercial Real Estate
At a recent commercial brokers meeting filled with industry experts…apartment house cap rates in the Bay Area are averaging 4.3%, even though apartment vacancy rates have almost doubled since the pre-pandemic, going from 4% two years ago to 7.6% currently. The eviction moratorium is about to expire in many regions, and this might cause a surge in evictions. In the retail arena, one retail leasing expert commented that a year ago the market was flooded with vacant retail store space, but now in some of the more desirable sub-regions, quality-located retail space is becoming harder to find. Retail rates have started to go back up. In the triple-net investment arena, there is a huge amount of money chasing a limited supply of credit-NNN tenancies, and whereas cap rates a year ago might have been 5 ½% they are now 5%, and long-term credit NNN tenants with upside in the lease are going in the mid-4%.
Survey of 30,000 U.S. workers Say Work-From-Home To Rise From 5% To 20%
Bisnow reported today on a Stanford and Hoover Institution working paper titled ‘Why Working From Home Will Stick’ ‘that the amount of work undertaken from home in the U.S. will rise from about 5% before the pandemic to about 20% after the pandemic. They surveyed 30,000 U.S. workers multiple times and asked them to report on how much they were working from home and how productive they were. They predict this will provide a 4.6% productivity boost for the economy. That will come because workers will spend about 435 million fewer hours commuting each month, and they estimate about a third of that time will be given to work, giving a productivity boost. On top of that, the paper argued that for some workers doing some tasks, working at home is more productive than being in an office, and combined with the time saved commuting, the U.S. will get that nearly 5% bump in productivity.’ Yes, I know there are a number of job functions that are best done in the office versus home, and collaboration, mentoring, company culture and other factors also suggest there are many benefits to being in the office. Still, if companies can save on office expenses, boost productivity and have happier employees all at the same time…
200 Million Square Feet Of Office Sublease Space!!
A report just out from Colliers has the I.S. office vacancy rate at 14.2%, with 45 million square feet of negative absorption during the first quarter of 2021, and a record 200,000,000 square feet of available sublease space. Ouch! “Recovery in the office market is set to lag, record levels of sublease space and negative absorption combined with pressure on rents and subdued investment market, suggest that the sector could remain challenged through this year before signs of stabilization begin to emerge and we see a full return to the office.”
Asking rental rates actually went up 1.4%, which in my opinion makes no sense whatsoever, and I know in our local markets, landlords have held fairly firm on asking rents but threw in a ton of tenant improvements and free rent in order to make deals. Market velocity is still way, way down in many submarkets as companies begin to slowly bring employees back to the office, many in varying hybrid models.
Working From Home May Impact Downtown Spending
There is a report out today from the University of Chicago’s Becker Friedman Institute for Economics that predicts due to the post-pandemic work-from-home shift, there will be a potential impact on downtowns and retail that formerly relied on office workers as their customers. Just think, even if employees were allowed to work from home just two days a week, this might reduce spending on lunchtime meals by 40%. ‘The trend could have multimillion-dollar implications for commercial real estate, labor market trends, city government budgets and the culinary sector, among others’. “Cities like San Francisco, New York and Chicago and so on have long been big destinations for inward commuting,” Steven Davis, one of the paper’s authors said, adding that with fewer people commuting, fewer people would be spending money. “Commercial property values will probably decline for office buildings but even more so for retail space. That means lower property tax revenues and lower sales tax revenues.” I can also see a reduction in dry cleaning, makeup and cosmetics, and business clothes purchases if employees are staying home working in their sweats two or three days a week.
Mixed Signals On The Office Market Recovery
On the one hand we are hearing about major tech companies announcing a phased return-to-the-office, with announcements by most of the big boys like Facebook, Salesforce and Google. On the other hand, Airbnb just announced today it was expanding its sublease inventory to 438,000 square feet, which adds 287,000 square feet to its previous space put on the sublease market. There have been several 100-200,000 square foot office leases and subleases signed during just the past few weeks in San Francisco but with an inventory of 9.5 million (and growing) square feet of office space for sublease, this region of the world is not yet seeing a market recovery.
Work Remotely From Home Or Get A $30,000 Raise To Come To The Office?
The San Francisco Business Times May 13, 2021 reported on a survey taken by Blind, an anonymous professional network, who asked over 3,000 employees if they would rather work from home permanently or get a $30,000 raise and 64% said they would rather work from home. Employees of two companies would take the cash over working from home, only 47% of JPMorgan Chase would prefer working from home, and only 42% of Qualcomm. Amazon workers had 64% preferring home, and 62% of Microsoft and 67% of Google choosing home over the extra cash. In another survey conducted by Littler, an employment law firm, “Only 4% of respondents believe their workers prefer a full-time return to in-person work, but 28% of employers plan to have most employees return on a full-term basis. The survey found 71% of employers believe their workers would prefer a hybrid model with remote options, but only 55% of employers plan to offer that setup.”
Real Estate Attorneys Predicting Wave of Office Defaults
Bisnow 5/12/21, I was surprised by the following quote: “Real estate attorneys surveyed by Bloomberg Law are almost all predicting defaults in retail and hospitality properties in 2021, but they also predict that office properties will see a large share of defaults this year. Ninety-four percent of the respondents picked retail as one of the top three property types at risk of default this year, according to the company’s 2021 Commercial Real Estate Bankruptcy Survey. Hospitality was the choice of 79% surveyed as one of the top three, while an equal percentage also picked office…Cancellation of office leases and potential vacancies caused by permanent moves to remote work might be behind this choice.” This was surprising to me as there have been a number of high-priced office building sales in San Francisco, Silicon Valley, and elsewhere, in spite of high amounts of sublease space and companies announcing hybrid or full work-from-home programs. Bloomberg Law also reported that through March, 2021 less than one percent of office-associated loans were more than 90 days delinquent.
What Might Be Behind Spike in Steel Prices
A few weeks ago, on a SIOR roundtable with top senior industrial and office brokers from around the country, someone commented that Amazon had bought up half the United States steel supply. I have yet to see any proof of this, but Amazon has been leasing tens of millions of feet of new industrial warehouse space, maybe hundreds of millions of feet, and one of their new models is a multi-story high bay warehouse. The building has a ton of steel to allow trucks to be supported on upper floors. These complexes are of particular importance in dense urban ‘last mile’ locations where the land may be very expensive but justified if you can go up in the air three or more stories. CNN had reported that steel prices have tripled. Some industry experts are calling this a “Steel Price Bubble”. Well, at least there is now plenty of toilet paper!
I write this 247th issue of my newsletter as a newly married man! My wife Launa and I were married June 13th, 2021 at Hans Fahden Winery in Calistoga and it was truly a storybook wedding. After a long delay (my father broke his hip, then developed double-pneumonia, and then COVID-19 shut everything down), the family was all healthy and in attendance and it was beautiful, memorable and worth the wait! My son Jordan, who was my Best Man, is still helping run Inspired Flight making high-end industrial drones for the fire and police departments. Daughter Madison is at Junior College, and stepson Ryan is a Junior at UCLA in math and film, juggling 2 internships and a full course load this summer. Stepdaughter Lindsey is headed to Georgetown for her Masters, and just finished an internship with the State Department, including an anti-terrorism stint in the Maldives. My father Arthur is getting ready to celebrate his 96th birthday on September 4th. Please feel free to email him a happy birthday at aweil444@yahoo.com. If you want to know more about him just Google Arthur Weil Poet and hundreds of pages of bio and stories should come up.
I’m sitting by my email waiting for your business so don’t be shy! Have a great (and safe) rest of your summer!
