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OFFICE: Suburban office continues growth from coast to coast

The country's suburban office markets are experiencing yet another incredible year of growth, with some cities seeing the first speculative development in years. Declining vacancies and increasing rental rates are again the order of the day in the nation's premier suburban office markets. From Atlanta to Portland to Phoenix to Boston and back again, suburban office is on a roll -- but for how long is anybody's guess.

After climbing out of the overbuilding-induced doldrums of the late-1980s, suburban office markets throughout the nation are back on track. Fueled largely by companies seeking newer facilities that are easily accessible by their employees, demand for suburban office space is on the rise.

Suburban office product has also regained its luster in the investment community -- although the chance to buy in at the bottom of the cycle has apparently passed. "Suburban office leapfrogged ahead of the perennial leader, industrial warehouses, as the most favored investment category for 1997," reports Equitable Real Estate Investment Management/Real Estate Research Corp.'s Emerging Trends in Real Estate: 1997.

"Certain areas are compelling because of fundamentals such as strong job growth and also in those instances where a suburban market has, in essence, become its own CBD," says Gary P. Lyon, chief acquisitions officer for San Francisco-based TriNet Corporate Realty Trust.

Meanwhile, selected markets in the Northeast and California, "where overbuilding is not a threat," are also attractive, says Lyon.

West Coast markets Ground has been broken on the Los Angeles region's first new speculative high-rise office property in nearly seven years. Located in Glendale, the 520,000 sq. ft. Glendale Plaza is a development of the Morgan Stanley Real Estate Fund II L.P. and locally based PacTen Partners. "The growth of the entertainment, insurance, finance and health industries in the region has driven office vacancies to new lows," says Nyal Leslie, CEO at PacTen.

Suburban Los Angeles' office inventory encompasses some 25 communities with widely varying market conditions, says Ernest Johnson, president of the western division of Chicago-based PM Realty Group. For example, "the Burbank/Studio City market is well beyond the recovery stage, with occupancy at 97% and rents rising significantly," he reports.

Meanwhile, the South Bay portion of the market "is suffering a bit," says Johnson, as it feels the impact of reductions in military and aerospace workforces.

"Real estate investment trusts are active buyers in the mid-to-upper end of the marketplace," notes Johnson, typically targeting buildings that have undergone successful renovation and releasing programs and paying prices that range from $35 to $100 per sq. ft. Meanwhile on the leasing side, rents are moving generally upwards in suburban Los Angeles, while concessions are declining, says Johnson.

According to statistics from Cushman & Wakefield of California, the 34 million sq. ft. Los Angeles North marketplace -- which includes Glendale, Burbank and Studio City -- was 15.3% vacant as of midyear 1997. At that same time, the 30 million sq. ft. South Bay market's vacancy stood at 20.8%.

San Francisco Forget wearing the flowers in your hair. If you're going to suburban San Francisco, you'd better take some office space with you, especially if you're headed for the Santa Clara County/Silicon Valley market. According to statistics from CB Commercial, vacancy in this 32 million sq. ft. market was 1.64% as of second quarter 1997, down from 2.09% the previous quarter. Driven by demand from the computer software industry, year-to-date absorption totaled 214,871 sq. ft., while annualized Class-A rental rates have hit the $28.80 per sq. ft. average.

The market is a bit looser in the I-680/Contra Costa County area. According to CB Commercial, this 34 million sq. ft. market was only 5.28% vacant as of second quarter 1997. Year-to-date absorption totaled 447,030 sq. ft., with annualized Class-A rental rates running in the $18 to $25 per sq. ft. range.

Thanks to a Bay-area job market where unemployment has shrunk to around 3.5%, suburban San Francisco office has recovered dramatically, says Ned Spieker, chairman and CEO of San Francisco-based Spieker Properties. "Rental rates alone have gone up some 20% to 40% in the past year, and in some areas have even doubled in the past three years," he reports.

On the investment side, "a half a dozen REITs, including us, have been actively buying product," says Spieker, paying prices ranging from $130 to $200 per sq. ft. at high 8% to low 9% cap rates for Class-A properties. In the new development arena, "there is some scattered new construction, not large in scale and not a lot of it," he notes.

Recent suburban San Francisco office sales include TriNet Corporate Realty Trust's purchase of three fully leased Silicon Valley office buildings totaling 187,380 sq. ft. for $52.3 million. On the new construction side, Cushman & Wakefield reports some 1.1 million sq. ft. worth of buildings under way in the Silicon Valley; there is another 3.4 million sq. ft. of space proposed in 31 projects.

Portland "Finding 10,000 to 20,000 sq. ft. of contiguous suburban office space in this market is near impossible," says Dave Burback, vice president/general manager of the Portland, Ore., office of Colliers International. The quality of life in the Pacific Northwest is attracting a great deal of in-migration from the rest of the nation, he adds.

Class-A vacancy in Portland's 3.6 million sq. ft. Westside suburban office market was only 2.27% as of June 1997, while vacancy in all classes totaled a mere 3.51%, according to a second-quarter report from Colliers. Class-A rental rates average from $18.50 to $23 per sq. ft. and are projected to rise even more. The 1.95 million sq. ft. Eastside ended midyear 1997 at 4.6% vacant, with the completion of Portland International Plaza adding 70,000 sq. ft. of new space to the market during second quarter. The 1.6 million sq. ft. Vancouver market is also tight at 6.55% vacant, with Class-A rates in the $14 to $18.50 per sq. ft. range.

Western markets A lot of people may roll the dice in Las Vegas, but members of the office development community apparently don't. "Part of the reason this market is so strong is that it has never seen the vast overbuilding of other markets," notes Alan Perlmutter, COO of Las Vegas-based developer American Nevada. Instead, he says, "we have only built buildings that make economic sense."

This approach has paid off. According to the local CB Commercial office, the 9.4 million sq. ft. Las Vegas office market, of which the suburbs comprise some 8.4 million sq. ft., ended 1996 at the 10.6% vacancy level.

New construction here is taking place mostly in the northwest portion of the metro area, says Perlmutter. Investment sales of office product have been scarce in Las Vegas of late, he adds, with limited activity by REITs and others.

Phoenix The good news in Phoenix is that vacancy in the 6 million sq. ft. Scottsdale market, the largest in the city's suburbs, is only 7%, according to Colliers International office properties specialist Rob Baggot. The bad news, he notes, is that there is another 4 million sq. ft. on the way, all slated to come on line in the next year. "You think we would have learned from the last downturn in the market," when metro Phoenix office vacancy hit the 30% level, says Baggot, "but we are basically in the process now of building another Scottsdale."

Major projects under way in this market include 355,000 sq. ft. in two buildings being developed by Opus Southwest, along with the 114,000 sq. ft. under way by Westar Development.

In addition to an active construction market, suburban office sales have been brisk, says Baggot, with a recent Colliers report indicating prices clustering in the $85 to 100 per sq. ft. mark.

Denver Fueled by growth in high-tech manufacturing- and service-based industry, Denver's suburban I-25 corridor is often labeled the "Silicon Valley of Telecommunications," according to a mid-1997 forecast from the local office of Grubb & Ellis.

This corridor runs through Douglas County, "where the bulk of area population growth is occurring," says David Warren, senior vice president, acquisitions, for Chicago-based CMD Realty Investors.

According to Grubb & Ellis, Denver's 17.7 million sq. ft. Southeast Suburban market was 7.4% vacant at midyear 1997, with the 68.8 million sq. ft. Denver market as a whole 9.2% vacant. In an overall market where "landlords remain in the driver's seat," southeast suburban Class-A rate quotes average $22.47, the highest in Denver.

Meanwhile, the local office of Cushman & Wakefield reports some 4.8 million sq. ft. of new construction under way in 42 projects in the southeast suburban marketplace.

An investment sales market that is "picking up steam" is also experiencing "a change in the ownership profile from local/entrepreneurial to institutional," says Warren. Prices for suburban office product are rising, with some brand-new properties recently trading in the $165 to $170 per sq. ft. range, he says.

Heartland happenings "After a decade of little or no building, the Dallas/Ft. Worth office market has entered a heated building cycle," according to a midyear report from the Dallas office of Grubb & Ellis. Most of the activity is in the 13.7 million sq. ft. suburban Far North Dallas/Dallas Parkway market (7% vacant at midyear, the report notes), where some 1.4 million sq. ft. of space is under way. The 12.6 million sq. ft. Irving/Las Colinas market (5.4% vacant) is not far behind, with 998,298 sq. ft. under construction. Meanwhile, the 7.6 million sq. ft. Richardson/Plano "Telecom Corridor" (also 5.4% vacant) has 320,000 sq. ft. coming out of the ground. There's a lot more on the way in these markets -- Grubb & Ellis statistics show another 7.7 million sq. ft. planned or proposed, 4.8 million sq. ft. slated for the Far North/Dallas Parkway market.

Construction is definitely on the upswing, says Kevin Brands, executive vice president at CMD Realty, speaking from his office in Dallas. "And the product itself is typically the same as what you are seeing in markets like Atlanta: functional and relatively small, in the 75,000 to 125,000 sq. ft. range."

CMD owns roughly 2.2 million sq. ft. of suburban office space in this market, he notes. And, "even though every major investor for office product is looking here, sale prices remain very competitive," Brand adds.

Office rental rate increases are the order of the day in suburban Dallas/Ft. Worth. "We saw a suburban rent spike of 15% last year, and we're on track for more double-digit increases this year and next," says Dennis DuBois, executive vice president of Dallas-based Prentiss Properties.

Rate quotes for typical (8,000 to 12,000 sq. ft.) users are now in the $25 per sq. ft. range, adds Duane Henley, Prentiss Properties' senior vice president for leasing, "while inducements have basically faded away."

Chicago "Chicago's suburban office market is being driven by strong tenant demand for space," says Michael Baum, vice president/corporate real estate services for locally based Draper & Kramer. Leasing activity is strong, he notes, "with limited opportunities for users seeking large blocks of Class-A space." Top quality space currently garners full-service rate quotes of around $22 to $24 annually, in line with downtown Chicago, says Baum. There are some concessions available from landlords, "but they take the form of tenant improvement allowances, not the lease assumptions or rent abatements we were seeing five years ago. There are a few speculative office developments scattered in today's suburban Chicago marketplace," he adds, "and they are typically substantially preleased."

On the investment side, "Since the beginning of 1995, 67 buildings totaling 11.9 million sq. ft. of space have been sold in the suburban markets," according to a first quarter 1997 report from the Chicago office of Grubb & Ellis. This strong investment sales activity has resulted in "further escalations of rental rates, a greater reduction in the concessions offered and an overall squeeze on operating expenses," the report notes. Vacancy in Chicago's suburban office markets ranged from 12.8% in O'Hare to 16.3% in the northwest at the time of this report; meanwhile, suburban office market net base rental rates were in the $11.53 to $14.19 per sq. ft. range.

Detroit Thanks to restructuring in the dominant automobile industry, planned casinos and new sports venues, Detroit is turning the economic corner, according to William Harvey, senior vice president at the local office of PM Realty Group. "The real success story has been suburban office, where we have seen double-digit increases in office rents in the past six months, property values increasing seemingly monthly and office investment sales at the $100 per sq. ft. level as opposed to the $70 figure of just two years ago," he notes.

A second quarter 1997 study by Grubb & Ellis shows the 42.1 million sq. ft. suburban Detroit office market at the 8.2% vacancy level, compared with a 20.7% rate for the combined CBD and New Center markets. "Fully occupied Class-A office buildings in the suburbs have sold in excess of $100 per sq. ft.," the report says.

Minneapolis The 55.6 million sq. ft. of space comprising the Minneapolis/St. Paul office market as a whole was 7.5% vacant at the start of 1997, according to the Cushman & Wakefield of Minnesota.

At less than 5% vacant, the suburban portion of the market "is as tight as it has been for a long time," according to Grubb & Ellis vice president Doug Fulton, "with Class-A vacancy in some areas approaching 2%."

Effective net rental rate quotes of $15 to $16 per sq. ft. for Class-A space swell to $27 to $30 per sq. ft. gross when you add in operating expenses and taxes, he adds. Around 2 million sq. ft. of new space has hit the market this past year, he notes, with another 3 million to 5 million sq. ft. "in the proposed/talked about phase," reports Fulton, adding that most of the latter buildings will start based on preleasing.

Moving down the East Coast Low vacancy, increasing sale prices and rental rates, and accelerated construction, rehabilitation and conversion are all characteristics of the suburban Boston office market, reports Jim Boudrot, vice president of the suburban office group of Hunneman Commercial Co./New America Network. "Vacancy averages around 5% for the Boston suburban market as a whole," he says, with rents (gross net of electricity) averaging $17 to $22 in the I-495 Beltway and $22 to $33 in the Route 128 Beltway.

Recent sales, which are involving REITs more and more, says Boudrot, have ranged in price from $80 to $148 per sq. ft. New construction is accompanied by rehabilitation of industrial and R&D facilities into office space, with about 3.5 million sq. ft. of product currently on the way to market, he says. "There's been some caution apparent in both lending and development to prevent the market from overheating," Boudrot says, with lenders requiring that new construction projects have high levels of preleasing with credit tenants.

New Jersey Powered by a surge of medium-sized transactions, office leasing activity hit the 5.8 million sq. ft. mark by midyear 1997 in New Jersey, reports Tom Bermingham, executive director at Insignia/Edward S. Gordon Co. "We are experiencing accelerating activity in leasing and greater absorption than in any previous year of this decade," he notes. As a result, the supply of available space is eroding and rents are rising, says Bermingham, with asking rents now averaging $20.34 per sq. ft.

Positive office leasing market trends have led to a new round of construction, says Bermingham, including nearly 350,000 sq. ft. worth of space in new buildings in Bridgewater and Parsippany.

In the sales arena, "improving fundamentals have sustained a high level of investment activity," says Bermingham, with REITs a growing factor in the market.

Northern Virginia Strong growth in the high-tech and telecommunications employment sectors fuels the Northern Virginia office market, according to Ed Clark, senior vice president of Bethesda, Md.-based Carey Winston/Barrueta. With overall job growth averaging 40,000 annually and little in the way of new construction, vacancy has dropped to the 5% level, he reports. "We've seen effective rents rise from 21% to 31% in the past 18 months," says Clark.

There are a number of projects on line, "but in most cases, the owners/developers are looking for lead tenants before they break ground," says Clark.

On the investment side, "many users that bought their office buildings during the downturn of the late-1980s/early-1990s are now doing sale/leasebacks, pulling their money out of real estate and putting it back in their businesses," he reports, with REITs actively buying.

Richmond, Va. "Not since the early-1990s has the Richmond suburban Class-A office market been able to offer such a variety of options for tenants seeking prime locations," says Frederick W. Plaisted II, vice president of locally based Morton G. Thalhimer Inc. New construction and tenant relocations to owned facilities will add approximately 815,000 sq. ft. of space, he reports, to a suburban marketplace that has averaged around 250,000 sq. ft. of absorption annually during the past four years. As a result, "Richmond's suburban office market should have an ample supply of available space into 1999," says Plaisted.

Activity by major users has comprised a significant portion of Richmond's office absorption in the past several years, notes Plaisted. But now, "many of these companies are building their own facilities and consolidating from multiple locations around the metro area."

Meanwhile, new buildings recently completed or under way in Richmond's suburbs include 131,500 sq. ft. in two buildings by Raleigh, N.C.-based Highwoods Properties, along with projects by Trammell Crow, Childress Klein and Liberty Properties.

Charlotte, N.C. Even though new construction activity has been brisk, "Charlotte's suburban office market is probably at an all-time high from the rental rate standpoint," says Grey Poole, managing director of office leasing and development for locally based Faison. "Rental rate averages have risen from around $16.50 to $18.50 for new Class-A buildings in the past four years in the face of a good bit of speculative construction," he says.

Charlotte-based Karnes Research Co. puts second quarter suburban market vacancy at 7.8%, with some 860,000 sq. ft. under construction. Most of this construction is being done by local developers, says Poole.

Faison has buildings under way at its ArrowPoint and ForestPark developments.

The outlook for Charlotte's suburban office market is bright, Poole adds.

Atlanta Growth in Atlanta's suburban office market has taken off in the past couple of years, focused on the northern portions of the metro area. "The market expansion began in North Fulton and is now trickling into the Central Perimeter area," says Char Fortune, vice president of Beacon Properties. Today's building boom started off with relatively smaller buildings averaging around 125,000 sq. ft. in size, she notes, but the average in the Central Perimeter is closer to 275,000 sq. ft.

Demand still exceeds supply with the wave of new suburban construction. "Owners are not seeing the rental rate spikes of 1994 through 1996," notes Fortune, "but instead, are getting solid annual appreciation of 3% to 5%."

Overall vacancy in Atlanta's four major suburban office markets ranges from 8% to 12.4%, according to a report from Cushman & Wakefield of Georgia. Weighted average quoted rental rates are highest in the 18.8 million sq. ft. Central Perimeter market, standing at $20.45 per sq. ft. Some 3.5 million sq. ft. of new suburban space is under way, notes the report. Meanwhile, suburban absorption totaled 1.5 million sq. ft. during the first six months of 1997.

Martin Sinderman is an Atlanta-based writer who contributes regularly to our sister magazine Commercial Real Estate South.

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