Metro Phoenix Office Market Responds To Changes In Job Growth

10 Apr, 2008, Phoenix, AZ

The Metro Phoenix office market is experiencing results of slowing job growth and significant new construction, according to Cushman & Wakefield of Arizona, Inc.

“Between 2007 and 2009 we will bring nearly nine million new square feet into our inventory, marking a higher than 13 percent increase in the size of our office market,” says Mike Sayre, Senior Director with Cushman & Wakefield in Phoenix. “When you combine this inventory growth with a steady decline in job growth over the past three years, the natural effect is higher vacancies and downward pressure on rental rates.”

Job growth figures in Metro Phoenix reached a peak of 103,800 in 2005 and have steadily decreased since that time. The city added 69,100 jobs in 2006 and lost 1,600 jobs in 2007. Projections for job growth in 2008 are further negative as well. “Office space absorption is driven by job growth,” says Sayre. “Simply put, when companies are adding employees they need more space. Because of negative job growth at this particular time, net absorption numbers are suffering.”

During first quarter 2008, Metro Phoenix experienced negative net absorption of office space in the amount of 332,520 square feet. The majority of the negative net absorption took place in the suburban marketplaces. Approximately 243,622 square feet of negative absorption was posted in the Southeast Valley.

“A sizable portion of our valley-wide negative net absorption is a holdover effect of leases signed in 2007, “says Sayre. “Companies that signed leases in 2007 are vacating their old space now to occupy these newer buildings. That new vacancy adversely affects our net absorption figures.”

The largest office leases signed during the first quarter of 2008 include Vangent leasing 125,000 square feet in the MetroCenter area, Squire Sanders law firm pre-leasing 88,000 square feet at the new Cityscape Phase I project in Downtown Phoenix and Wachovia pre-leasing 66,000 square feet in that same Cityscape Phase I project. –more-

In addition to net absorption figures declining, the Valley’s office vacancy rates are increasing. “This year will be marked by a steady increase in our vacancy rates,” says Sayre. “By year-end we anticipate the direct vacancy rate in Metro Phoenix to reach as high as 19 or 20 percent. This does not take into account sublease space which would be made available by businesses relocating or closing prior to their lease expirations. At this point, tenant failures have not been a factor in our vacancy rates.” Direct vacancy rose during first quarter from 13.8 percent to 15.2 percent. The percentage of sublease space available only rose from 1.2 percent of inventory to 1.5 percent.

Rental rates have changed as a result of current economic conditions. Direct weighted average rental rates have increased in recent months, primarily because the price of new buildings coming online has driven up the average. “We’re seeing a growing spread between the asking rental rates and the effective lease rates,” says Sayre. “As we predicted a year ago, supply and demand economics have brought back lease concessions to our marketplace. Good quality tenants in the market right now are able to obtain more for their money, including lease concessions.” In addition to price pressure on rental rates, the cost of tenant improvement construction is also reflecting effects of supply and demand. “During the boom of 2006 and 2007 all construction costs were spiraling up at an amazing pace,” says Sayre. “Building construction and interior tenant improvement work are not decreasing significantly in cost, but the incredible increases in price are no longer there.”

Construction of new office projects has slowed. Thus far, approximately 1,112,601 square feet of new space has been completed in 2008. Another 3.6 million square feet is scheduled for completion before year-end. “These projects were funded and begun many months ago. The projects that are proposed will likely stay undeveloped until we experience the next upswing in the real estate cycle,” says Sayre. “Exceptions to that will be a couple of projects with unique situations, where the individual submarket has low inventory and the use for the new building is still in high demand.” –more-

“We will spend the remainder of 2008 and 2009 in a catch-up mode, working to absorb the abundance of space we created during large job growth years,” says Sayre. “We anticipate absorption this year to be relatively flat, as opposed to our 10-year average of 1 to 1.5 million square feet. As we look forward, we believe 2009 will bring moderate absorption, but we shouldn’t anticipate significant increases in demand until job growth accelerates late next year or in early 2010. Our real estate market, like our economy, is cyclical. We’re at a position not unlike the 2003-2004 timeframe. We will ride out the decreased demand and be prepared for the next surge in economic growth and tenant demand in the next 28 to 24 months.”

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Cushman & Wakefield is the world's largest privately held commercial real estate services firm. Founded in 1917, it has 221 offices in 58 countries and more than 15,000 employees. The firm represents a diverse customer base ranging from small businesses to Fortune 500 companies. It offers a complete range of services within four primary disciplines: Transaction Services, including tenant and landlord representation in office, industrial and retail real estate; Capital Markets, including property sales, investment management, valuation services, investment banking, debt and equity financing; Client Solutions, including integrated real estate strategies for large corporations and property owners, and Consulting Services, including business and real estate consulting. A recognized leader in global real estate research, the firm publishes a broad array of proprietary reports available on its online Knowledge Center at www.cushmanwakefield.com.

Contact: Robin Vitols (602) 957-8844

Robin.vitols@cushwake.com

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