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Where Have All the Good Sublease Deals Gone?

By David Marino

Having represented commercial real estate tenants for 26 years, I have always known that the best way for a tenant to get value and low cost has been to find a good sublease. In fact, we have some clients that move from sublease to sublease, every other year finding the cheapest deal they can. This strategy is great for companies that need low cost and maximum flexibility, if they are willing to compromise with taking the space “as-is” and just making it work. Just a few years ago, and in almost every economic downturn, there were subleases to be had for almost every company, of any size range, and in every submarket. However, with the recovered economy and the tightened commercial real estate market, the days of cheap subleases have gone away for most. In fact, with approximately 80% of our client transactions, there is not a single sublease available in the size and submarket that they would require, and those subleases that are on the market tend to move fast.

Where Did All the Subleases Go?

Current availability of sublease space in San Diego County is back to 2006 levels, as the chart below indicates. By any measure, 2006 was one of the strongest commercial real estate markets in the last 20 years, when availability rates were at their lowest levels and rents were high. The decrease in the amount of sublease space is the result of the improved economy, as companies have hired back employees in the last five years, and fewer companies have needed to put sublease space on the market. Today, companies are growing and not shrinking, and there just aren’t too many companies out there sitting on excess space. Second, given that subleases expire and have a terminal date, the passing of time has resulted in some subleases naturally expiring and the space reverting back to the building owner. Each year, a certain percentage of subleases will roll back to the landlord. Third, because there are few subleases, when a good, low-priced sublease comes on the market, it tends to go fast. Good subleases today are generally gone within six months of them being listed, if they are priced right.

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Sublease Space Inventory is a Leading Economic Indicator

Hughes Marino has been tracking the total amount of sublease space in San Diego County for over 15 years. Total sublease inventory is a critical statistical indicator that tells a story about where the overall economy is heading. Back in 2000, just before the stock market crashed early that year, we had clients coming to us in droves to get out of space that they had committed to.  Literally every week a client was laying people off and needing to sublease space, and this was before the stock market crashed.  That leading-edge information was followed by one of the worst economic corrections in our time, and resulted in a massive glut of both sublease and direct space. The year 2002 ended with 7.4 million square feet of sublease space on the market!

Then we saw the economy getting overheated in 2006, and sublease space started edging up too. While every other commercial real estate firm was tracking rising rents, and lowering vacancy, we were looking at indicators that showed things were not as healthy as everyone thought—like the increase in sublease space, which tells so much more about the health of companies in the region. While we were feeling this anecdotally on the ground, the data to back it up was playing out with an increase in total sublease space on the market. By 2007, sublease space on the market was picking up steam, and my partners and I were out in the market talking about the coming economic storm, and likely recession, well before the stock market crashed in 2008.

The Market is Stable, With No Dark Clouds on the Horizon

For five years in a row, from early 2012 to today, sublease inventory has been hovering around 3.5 million square feet, which appears to be a market equilibrium level. Sublease space availability will continue to stay low through 2017, as the San Diego regional economy continues to create jobs and grow. As we survey market options for clients, there is a general shortage of good subleases on the market. Also, the “great deals” that subleases used to represent have thinned, as sublessors are not pricing their subleases with as much of a market discount as we used to see. Just a few years ago, we could often negotiate a 30%-35% discount on subleases. Now with the firming market, and shortage of subleases, that savings is reduced to 15%-20%.  However, those savings aren’t that great when you consider that a sublease is generally offered “as-is” and landlords are still willing to provide generous tenant improvement allowances. The savvy tenant today will look at sublease as an alternative, but not as the single best solution for their needs.

David Marino is senior executive vice president of Hughes Marino, a global corporate real estate advisory firm that specializes in representing tenants and buyers. Contact David at 1-844-662-6635 or david@hughesmarino.com to learn more.



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