By Tucker Hughes
The Los Angeles office market consists of over 400 million square feet of space. It is so large that macro numbers describing the entire market cannot possibly tell the full story. For example, the countywide rental rate for office space increased from $2.85 per square foot to $2.92 per square foot during the first quarter, yet rents in Century City and Silicon Beach remain in the mid $4.00s per square foot and the South Bay is even cheaper with the average rents in Long Beach in the low $2.00s. Then consider a market like Downtown Los Angeles, a market large enough that it accounts for approximately 10% of the total office square footage in all of Los Angeles. It currently has a vacancy rate of 12.7%, which is up from 12.2% over this last quarter. The average rental rate increased over the same period from $3.03 to $3.09 per square foot, yet rents in the Arts District, an emerging submarket for creative users on the east side of town, are reaching into the $5.00s per square foot. Building to building, one side of the street to another, we see massive variations in pricing and quality.
The industrial market consists of over 900 million square feet of space. It’s also so large that the “average” is almost never indicative of specific areas. The only exception to this is related to market vacancy. Since there is such a small amount of space available, the vacancy rate across nearly every geography is historically low, resulting in little variation. For some perspective, the vacancy rate is currently 2.2%. Given that many large users cannot find facilities that meet their needs, we can expect this number to stay constant or even go up further, as companies are forced to move to the Inland Empire or consolidate their operations.
We do see a lot of variation on the rental rate side of industrial real estate though. The average triple net rate increased from $0.86 per square foot to $0.89 per square foot during the first quarter. Not surprisingly, landlords are often quick to throw out these averages to tenants when negotiating renewals or presenting their buildings to new tenants. There are two factors that landlords exploit from an analysis standpoint in the industrial real estate market. First, industrial also includes “flex” space, which is a combination office and warehousing space. This type of building could accommodate a corporate headquarters as well as a manufacturing or distribution component in a single building. Since they are more office intensive than a simple warehouse, they are more expensive. If we strip this building type out of the average we see a number that currently hovers around $0.80 per square foot, about 10% less than the current average including this product type. The second factor is of course geography, with western markets and markets with easy access to the Port of Long Beach being much higher than those progressively east.
The take away for tenants and buyers of all types of real estate is to know the micro-conditions at play in not only the geographies you are considering, but also the quality and type of real estate, as there are enormous variations across the industry.
Landlords taking advantage of the strong market conditions continue to deliver new product to the market and increase rents across the board. There currently is five million square feet worth of office buildings under construction, and one can’t help but wonder if the race to deliver new space for tenants will result in the market overbuilding the amount of reasonably necessary space. It is very possible that this will occur, as it normally does, so it’s simply a matter of what will cause the recognition of the pull back. Industrial is very unlikely to have the same problem given the extremely limited opportunities to build.
Tucker Hughes is managing director at Hughes Marino, an award-winning commercial real estate firm with offices across the nation. As head of Hughes Marino’s Orange County and Los Angeles offices, Tucker specializes in tenant representation and building purchases throughout Southern California and beyond. Tucker makes frequent media appearances to speak on the future of commercial real estate, and is also a regular columnist for Entrepreneur.com. Contact Tucker at 1-844-662-6635 or email@example.com.