Brian Childs, NAI Capital
The Orange County office market continues to experience steady growth as it moves into 2015, with three straight years of positive net absorption under its belt. The county’s unemployment rate has dropped to 5.4 percent over the past 12 months, while the job growth rate has averaged 1.8 percent over the same period. The overall signs for the office market are very positive as we head into the growth phase of this real estate cycle. Orange County’s office market has experienced almost 1.7 million square feet of net absorption in the past 12 months, according to CoStar. This net absorption has been spread out evenly over Class A and B properties. The current vacancy rate of 11.4 percent has steadily declined on an average of 1 percent per year for the past four years. Based on current absorption trends, the office vacancy could dip below 10 percent in 2016, which may usher in significant speculative development.
The majority of the tenant activity is home grown, with limited growth from companies outside of Orange County. Net absorption is mainly due to recent larger space transactions. These occupiers include Pacific Investment Management absorbing 380,000 square feet, Belkin International (128,000 square feet), Yokohama Tire (58,000 square feet), Orange County Transportation Authority (138,000 square feet), Union Bank (98,000 square feet), ServiceLink (62,000 square feet), Assurant (58,000 square feet), Davita (54,000 square feet), Houzz (109,000 square feet) and HireRight (82,000 square feet). Larger occupiers looking for bigger blocks of space are starting their searches earlier than in the past based on the lack of larger spaces available. This trend should continue over the next few years. Larger occupiers may begin paying premiums for the big blocks of space at some point during the near future as well.
The Orange County office market has seen a flight to quality to newer, high-profile buildings and markets based on lower lease rates and owners’ willingness to spend significant money on tenant improvements and lease concessions. Tenant migration from less desirable space to more desirable space will continue while lease rates remain relatively low. This re-shuffling to better office product will end once lease rates rise. There are already a few high-profile markets that favor the landlord. These include Newport Center and Irvine Spectrum, where some asking lease rates are causing sticker shock.
Orange County’s low commercial development profile over the past eight years has given the office market a chance to recover from recession-based tenant losses related to the mortgage industry meltdown. The only exception is the Irvine Company’s recently completed 21-story, Class A office tower in Newport Center. About 50,000 square feet has been leased here so far, with another 50,000 square feet under contract.
This particular Orange County office market recovery is different than those of previous cycles. The Great Recession resulted in a large amount of empty desks in leased spaces. As the job market improved, many of these positions absorbed empty desks. They did not require new leased space. This all adds up to a balanced office market that might be stronger than advertised. There will be continued pressure moving forward to raise rental rates to a point where certain speculative developments may start to make some sense.
By Brian Childs, Executive Vice President/Branch Manager at NAI Capital in Irvine, Calif. This story originally appeared in the January 2015 issue of Western Real Estate Business magazine.