We are being deluged by stories on Boston’s shaken commercial real estate market. Stories with colorful headlines like “A Tsunami Is Coming: Commercial Defaults, Nasty Workouts on Hub’s Horizon,” “Economy, job losses lead to openings,” and “Hancock at Center of Tranche Warfare” dominate the media. One may be best advised to go directly to the sports section where it is reported that the sun is shining in Fort Myers as the Red Sox prepare for the new season.
Tenants and landlords on the downtown Boston playing field and throughout the country are exercising survival tactics to weather the current economic turmoil. In commercial real estate, this translates into a longer negotiation period and scaled back occupancy plans. During the fourth quarter alone, 25 percent of the active requirements in Boston were put on hold.
Short-term renewals have become increasingly popular. Tenants, uncertain of the future and hopeful that rents will continue to fall, shy away from long-term lease commitments. In the second half of 2008, short-term renewals represented 11.5 percent of all lease transactions, double its percentage in the first half of the year.
By opting to renew, tenants are saving money and dodging capital events associated with costly relocations. On average, relocation costs a tenant $130 per square foot excluding tenant improvement allowances, which are quickly disappearing. At the end of 2008, only 52 percent of leases signed included tenant improvement allowances. In comparison, 80 percent of the leases transacted in the early part of 2008 had some level of tenant allowance. The average concession package offered by landlords last year was $32 per square foot.
Renewals are a home run for landlords as well. They often achieve healthy rental rates, minimize capital expenditures, and help to keep occupancy levels high. In 2008, renewals realized an average of $5 more per square foot gross than relocations. This rent premium may continue as more tenants opt for renewals to ride out the economic storm.
The amount of sublease space in downtown Boston increased by 200,000 square feet from January to February, a staggering amount and a stark reminder that tenant demand is changing. The total amount of sublease in February was 1.3 million square feet, nearly double the volume recorded in the previous year. It still remains below its 2004 peak of nearly 3 million square feet, however – comforting news for landlords. The shift in demand highlights how the souring economic situation is taking a toll on the office market. In line with this trend, the average asking rent declined by 9.4 percent in 2008.
As more layoffs wash through the market and unneeded office space is unloaded, the availability rate will continue its upward climb and rents will fall. Going forward, Boston tenants will emerge from the sidelines and hold a real advantage in lease negotiations.
