Jun 26, 2009
By: Dees Stribling, Contributing Editor

Even before the financial meltdown last fall, most U.S. office markets were going noticeably soft. In particular, vacancies were rising as businesses downsized, reorganized or otherwise felt skittish about committing to any new use of office space. Now that the worst recession in at least a generation is under way, what was once only a worrisome trend for U.S. office landlords is full-blown reality.

 Few dispute that current conditions in almost every office market could be called a “tenants’ market.” Tenants have the edge now, provided they themselves aren’t beaten up so badly by the economy that they can’t take advantage of that fact.

Though each major metro market has its own distinct features, the overall numbers are telling. According to Reis Inc., the overall U.S. office vacancy rate climbed to 15.2 percent by the end of the first quarter of 2009, compared to 14.5 percent at year’s end 2008 and 12.8 percent during 1Q08. Office-space users vacated nearly 25 million square feet during 1Q09, moving in tandem with the spike in the U.S. unemployment rate during that period. People go, then the space goes, and people are still going.

Moreover, since commercial real estate tends to be a lagging indicator, even if the economy starts to grow again later this year—something of a tall assumption—office landlords might not feel the benefit for quite a while longer than that.

In some ways, this office downturn is like previous ones, Bill Lichwalla, president & CEO of Plante Moran CRESA told CPN. “Financially solid tenants are now able to negotiate with a lot of strength,” he said. “At first, landlords resisted lowering rents, and offered more concessions, because lower rents affect the building valuation a lot more.”

But now rents are going down. According to Reis, office rents were an average of 3.2 percent lower in the first quarter of 2009 than a year earlier.

“Landlords simply can’t compete anymore without competing on rents,” said Lichwalla, whose Southfield, Mich.-based firm specializes in tenant rep. “They can only offer so much in the way of incentives, and that’s reached its limit.”

Lichwalla pointed out that in one way, however, this office market isn’t like previous slumps in space usage. “Previously, landlords needed to be sure that a tenant was creditworthy before a deal would be inked,” he said. “That’s normal due diligence, and it hasn’t changed. But now tenants need to be as sure of the solvency of the landlords as much as the other way around. It isn’t any good to negotiate a sweet concession package if the landlord goes into receivership and can’t afford it.”

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