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Thursday, Jun 8, 2023

REAL ESTATE QUARTERLY: Positive Economic Signs Offset Negative Absorption

Brokers and analysts might say the Los Angeles County office market is having one of its best years since the peak of the market last decade, but major metrics in the third quarter haven’t gotten the message.

The market broke a seven-quarter streak of positive absorption when it gave back 75,197 square feet in the third quarter this year, according to Jones Lang LaSalle Inc.

It inched the county’s third-quarter office vacancy rate up one-tenth of a point to 16.2 percent compared with the previous period, though it was still four-tenths of a point better than a year earlier.

And yet, local companies were expanding and hiring, megadeals topping 100,000 and 200,000 square feet were closing, and investment sales were hitting record prices in the quarter.

“I think it’s indicative of a stronger economy,” said Hayley Blockley, a senior vice president at JLL’s downtown L.A. office. “We aren’t looking at rent rolls and lease expirations to guide tenant demand anymore. We are looking at expansion to guide tenant demand.”

Further evidence the slight blip in absorption fazed no one is the asking rental rate. The county’s average Class A asking rate shot up 8 cents to $3.21 a square foot from the second quarter – and 17 cents from a year ago.

So what happened to absorption last quarter?

Some of the give-back can be attributed to a few larger firms moving out or downsizing on the Westside, an event that is expected to be a one-time occurrence.

For instance, International Lease Financing Corp. gave back a full floor – about 26,000 square feet – at Century City’s 10250 Constellation Blvd.

That added to the otherwise booming Westside’s increased vacancy rate, which climbed a full point to 14.5 percent with negative absorption totaling more than 461,000 square feet, led by the Century City and Santa Monica submarkets.

Other submarkets saw marked improvement. The Tri-Cities’ vacancy rate dropped nine-tenths of a point to 14.2 percent while the South Bay’s dropped seven-tenths of a point to 21 percent.

What makes it more complicated is that a number of the larger deals that were signed in the third quarter won’t be counted against the office inventory for possibly a few years.

Take Netflix Inc., for instance. In the biggest deal of the quarter, the video streaming and production company agreed to lease more than 200,000 square feet at Hollywood’s Sunset Bronson Studios’ 323,000-square-foot Icon Tower, which is being built by Hudson Pacific Properties Inc. The deal will double the size of office space the company has in Los Angeles, but it won’t go into effect until the building opens in 2018.

“It’s a Catch-22,” said Jonathan Larsen, principal and managing director at Avison Young in downtown Los Angeles. “It’s a big deal but they’re under construction and not able to occupy it today or even next year. For a typically slow quarter, the third quarter was pretty impressive.”

Among the other large deals, co-working space provider WeWork signed for 90,000 square feet at downtown’s Gas Co. Tower, Herbalife renewed its lease for 186,000 square feet in Torrance and infomercial company Guthy-Renker leased 95,000 square feet in El Segundo in a relocation from Santa Monica.

The county’s office inventory increased about 55,000 square feet in the third quarter from the second as new construction hit the market and other buildings were taken out of commission.

In total, brokerage Transwestern estimated that more than 193,000 square feet of new construction hit the market in the quarter. That includes four of the five buildings that opened at Tishman Speyer’s 168,000-square-foot Playa Vista office project the Collective.

Neither investors nor developers appear worried about overbuilding and the future of L.A.’s office market.

JLL reported that nearly 2.2 million square feet of office space is under construction, while Transwestern estimated that 2.8 million square feet were under construction or undergoing major renovation around the county.

Michael Soto, Transwestern’s research manager in downtown Los Angeles, said this is a six-year high for construction. About 45 percent of it is in Hollywood with 25 percent downtown.

Buyers didn’t blink in the third quarter, either. Investment sales remained strong, with more than $1.4 billion worth of office sales reported in the third quarter, according to Transwestern.

The largest sale was downtown’s PacMutual building. Rising Realty Partners and Lionstone Investments sold the 460,000-square-foot office property for $200 million, or $431 a square foot, in a record price-per-square-foot deal for the submarket, to Ivanhoe Cambridge and Callahan Capital. The sellers bought the property in 2012 for $60 million and spent $18 million converting it into a creative office building that is now fully occupied.

In all, it feels like one of the best years in a long time, brokers and analysts agreed.

“What happened in ’07 was all the underlying fundamentals were good and investment was strong and there was a feeling that the market was peaking and we are seeing that this time, too,” said Soto. “It’s hard to tell but the consensus out there is there’s two more years of growth.”

Meanwhile, the booming industrial market didn’t experience any slump. The county’s industrial vacancy rate was 2.5 percent, down two-tenths from the second quarter and a full point from the year-ago quarter. About 16.4 million square feet of industrial space was bought or leased in the quarter.

With the market virtually full, development is underway on 4.13 million square feet of industrial space, with most of that in Central Los Angeles and the South Bay.

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