Over the past 12 months, a surge in out-of-market activity has stabilized Richmond’s downtown office market, which had faced a seemingly insurmountable glut of space just last year. For years, Richmond’s Central Business District (CBD) struggled to retain tenants as many sought more affordable locations in the suburbs, while other tenants shed space as they optimized their footprints.
However, with a steady flow of high-profile inbound operations into Richmond’s CBD, the momentum has since shifted and the re-urbanization trend, an established facet of many of the nation’s major markets, has now taken hold in Richmond.
Out-of-Market Demand Swells
After five consecutive quarters of securing a sizable new-to-market operation, the cumulative direct impact of this inflow climbed to over 300,000 square feet. This surge in inbound activity played a pivotal role in stabilizing the CBD, which captured 94 percent of these inbound operations.
Andrew Cook, CBRE
Much of this activity has been driven by the explosive 14.9 percent growth in Richmond’s millennial population from 2010 to 2015, per a recent study by the Urban Land Institute for Time magazine.
According to the study, Richmond is the second fastest growing city for millennials in the country, only behind Hampton Roads. Similarly, Virginia shot up in Site Selection magazine’s annual Prosperity Cup (formerly the Top Competitive States), from 13th place in 2016 to 6th place in 2017.
The friendly business environment of Virginia, combined with a growing concentration of talent and its relatively low cost of living, gave Richmond a competitive advantage, edging out similar markets and landing CoStar Group’s 125,000-square-foot global research headquarters, Owens & Minor’s 85,000-square-foot client engagement center and ICMA’s 55,000-square-foot satellite office.
These deals, in addition to robust state government leasing activity, drove down Richmond’s CBD availability rate 488 basis points over the past year to 14 percent.
CBD, Suburbs Stabilize
Since the delivery of Gateway Plaza in the third quarter of 2015, Richmond’s CBD and suburban markets have been on two divergent tracks. Following the delivery, Richmond’s CBD Class A vacancy rate spiked 690 basis points to 15.7 percent, while the primary suburban market’s Class A vacancy rate tightened to 5.1 percent — their lowest level since the recession. This imbalance resulted in the convergence of suburban and urban rents as suburban landlords took advantage of their increased negotiating leverage and pushed rents higher, while CBD landlords were forced to lower their rents in order to compete.
As CBD rents retreated and Richmond’s suburban rents climbed, the delta between their respective rents compressed to $2.04 per square foot in the third quarter of 2016. This convergence, which started back in late 2014, was the catalyst for Richmond’s re-urbanization trend as suburban tenants balked at the rising suburban rents that approached CBD levels and expanded their searches to include Richmond’s downtown.
With the steady inflow of new-to-market tenants and the reverse migration of local firms back to the CBD, Richmond’s CBD has now stabilized. At its peak, Richmond’s Class A, CBD availability rate climbed to 21.7 percent and has since fallen 610 basis points at 15.6 percent, in line with the suburban Class A market’s 11 percent availability rate.
Now that the seemingly insurmountable supply of vacant CBD inventory has largely evaporated, same-building rent growth among Richmond’s CBD Class A product climbed at an annual rate of 3.3 percent in the second quarter. Suburban rental rates stalled, however, as several significant pending vacancies loomed on the horizon. With the market imbalance diminishing, we anticipate a residual boost to the suburban landlords as tenants face dwindling options across the market. That being said, the re-urbanization trend is poised to continue, albeit at a slower pace and with an increasing focus on urban infill areas such as Scott’s Addition.
Scott’s Addition Booms
While the migration to Richmond’s CBD may have decelerated slightly, much of the current urban migration has refocused on the Scott’s Addition area. This uptick in demand has driven a rise in rents and substantial development. It is currently the only non-CBD market in Richmond that is experiencing true office development.
Much of the current product is old industrial warehouses that are either being converted into creative office space, retail and apartments, or some combination of the three. Rents have jumped to an average of $25.41 per square foot, following a flurry of new development and rehabs.
Suburbs Remain Healthy
While much of the news and excitement has revolved around the revitalization of Richmond’s urban core, it is important to note that this trend has not mitigated the sustained demand for Richmond’s suburban office product.
At this point, demand for Richmond’s suburban product outpaces urban demand, and while the suburban market faces looming headwinds, it remains well-positioned for continued growth. The key indicator in the coming year will be whether developers are willing to break ground on new spec office product in Richmond’s suburbs.
— By Andrew Cook, Director of Research, CBRE. This article was originally published in the August 2017 issue of Southeast Real Estate Business.