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Icarus vs. Downtown Landlords—Who Will Fall Hardest?

By Jason Hughes

It’s no secret that office rental rates have been going up for some time. But the pace lately has been unprecedented.

There are many reasons for the push. Some buildings have sold into a buyer’s frenzy—with new investors having to artificially budget ridiculous rent growth in order to underwrite their winning bid. Others are riding the wave of rental spikes seen around the country. A fortunate few have record high occupancy—and are simply responding to supply and demand. And others are just plain piggish with their assumptions—trying to gorge on a perceived market rent safety net from the first three scenarios.

I understand the supply and demand scenario for pushing rents. After all, that’s the business that landlords are in. They should lease the space for whatever the market will support. But just like Icarus, many of these landlords are getting a bit cocky and they’re starting to fly too close to the sun. The result will be a resounding crashing of rents.

For example, the net absorption in downtown over the last 18 months (absorption is the net increase or decrease in occupancy) was a negative 238,927 square feet. That’s nearly a new high-rise building being added to the market vacant! While we’ve had numerous companies relocate out of downtown adding to the vacancy, there is also a record amount of new office space about to tsunami into the market!

Horton Plaza with 772,000 square feet. The former Paladion (777 Front) with 162,000 square feet. The re-skinned Executive Complex (1010 Second Avenue) with 360,000 square feet. There is the former Thomas Jefferson Law Building in East Village. A spec building at 450 B Street. Additionally, there is nearly one-third of 550 West C Street as well as 110 West A Street available. One of downtown’s largest landlords, Emmes (701 B Street, 707 Broadway, 1230 Columbia and 401 West A Street) is only averaging 75.5% occupancy between their four buildings! And the examples go on. Despite what you read, downtown, from a landlord profitability standpoint, is about to become a total train wreck. Of course, one large deal with Google or Facebook could change everything, but…let’s just say I’m not going to hold my breath.

So, what to do? Well, if you’re a landlord, time to wise-up and get ahead of the wave—and/or pray for a FAANG company to open in Downtown San Diego. Remember who your clients are, companies who lease space, and that you’re in the service business. Always remember that tenants are the center of the universe—and that you are a service provider to them. Just like the entire commercial real estate industry. If you’re a tenant, you should get a smart, unconflicted (i.e. brokerage company that does not represent landlords) representative to help you navigate the nuanced waters. There are ALWAYS deals to be had if you know where to look. But working with a firm that represents landlords is a fool’s errand. How can they be helping landlords get their high rental rates while also helping you to get the best economic package? Aesop’s fable says that “those that pretend at the same time to serve two masters are true to neither” may be more poignant than Icarus’s!

Jason Hughes is chairman, CEO, and owner of Hughes Marino, an award-winning commercial real estate company with offices across the nation. A pioneer in the field of tenant representation, Jason has exclusively represented tenants and buyers for more than 25 years. He writes about topics in commercial real estate from a tenant’s perspective on his blog, Downtown Dirt. Contact Jason at 1-844-662-6635 or jason@hughesmarino.com to learn more.

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