With Oil Still Recovering, Midland Office Market May See Higher Vacancy in 2019

Throughout the first half of 2018, when oil prices appeared to be on a steady upward trajectory, Midland, Texas, saw a number of energy firms up their stakes in the city’s office market.

Major names such as Chevron, Anadarko, Apache and Natural Gas Services Group announced build-to-suit office projects in Midland during this time, adding a significant amount of supply to this 6 million-square-foot market.

In addition, strong leasing activity by an array of energy firms looking to bolster their operations in the Permian Basin helped the market’s occupancy rate rise to about 92 percent. This growth in occupancy was anchored by a low unemployment rate and accompanied by positive rent growth.

Brandon McClain, LMB Real Estate Group

Now, however, with oil prices down from their 2018 highs (West Texas intermediate traded at $56.11 per barrel at the time of this writing), there is more uncertainty in the Midland office market.

While the office occupancy rate has held steady and rents have even grown slightly during the last year, currently clocking in at about $23 per square foot, Midland could see a significant amount of supply of office space returned to the market over the next six to 12 months.

Examples in Action

Chevron, which earlier this year fell short to Occidental in a bid to acquire Anadarko Petroleum, did a build-to-suit project in the Midland-Odessa area in 2018. Chevron’s old building has been snapped up, renovated by a local investor and is now about 50 percent leased.

The new ownership has successfully preleased more than half of that space. And while we expect leasing activity in Midland-Odessa to remain healthy even if drilling operations subside, this building also now has more competitive, modern space to contend with.

Occidental officially closed its acquisition of Anadarko in early August to the tune of $38 billion. Occidental had previously developed a new building right next to Anadarko’s office property.

While any moves the energy giant makes are still up in the air, Occidental could opt to move out of its building and into Anadarko’s, which offers newer space and modern amenities.

Occidental may also sell the building it currently occupies, but if either of those scenarios pan out, about 200,000 square feet of office space would be returned to the market. This is a viable scenario because Occidental will likely have to charge above-market rents — perhaps as much as $30 per square foot — should the company choose to retain ownership of its building.

Conoco is rumored to be closing its office in Midland and moving back to Houston, which would be the second such move the company has made in the last 20 years. Should that deal come to fruition, it would add about 150,000 square feet of office space to the local supply.

Given the size of the overall market, these are all notable deal for brokers and developers to monitor. Again, many of these deals are in their infancy and may fall through, but the fact remains that the return of some 500,000 square feet of office space to this market would have a significant impact on vacancy and rent growth.

Other Factors

The Midland-Odessa area continues to experience strong population growth and an unemployment rate below both the national and state averages. Innovations on the downstream side of the energy business that have lowered the profitability threshold ensure that firms will still be drilling, and consequently, demanding office space in region.

Completions of some smaller development projects, such as Natural Gas Services Group’s 60,000-square-foot building that is currently in lease-up, may also have some marginal impacts on rates of vacancy and rent growth. The same applies to Apache’s new building that was recently completed.

The market has seen marginal growth in demand from other sectors like legal and financial services. But without question, it remains deeply hinged on the performance of energy markets. To this end, the market is subject to the whims of geopolitical factors like trade disputes and international supply gluts.

Ultimately, however, while market fundamentals carry more uncertainty in 2019, we expect strong demand for space offset supply additions to some extent and keep the market relatively in balance.

— By Brandon McClain, vice president, LMB Real Estate Group. This article first appeared in the September 2019 issue of Texas Real Estate Business magazine. 

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