We read lots of headlines on how our real estate market is doing great downtown, but being a numbers guy, I want to the know the facts!  Our good friends at Thornton Oliver Keller and Colliers put out great market research reports, and I take particular interest in the bi-annual publications.  Both 2013 mid-year reports came out in July, and I thought I would share some of the highlights I pulled from the reports.

Interesting Downtown Facts

• Office vacancy downtown is increasing (remember my blog from 3/22/13...I told you this was going to happen).  TOK indicates downtown office vacancy went from 6.4% to 7.4%, while Colliers showed it went from 8.5% to 8.7% (I lump their downtown & downtown periphery together).
• Overall office asking rates are decreasing while Class A asking rates are is increasing.  I think this highlights how older buildings are going to have a tougher time fighting for tenants.
• Both reports show our downtown retail vacancy as being super healthy and it probably lies in the 5.5 - 6.5% range.  Average asking rates ~$16.50/SF NNN.
• Our downtown industrial market (wait, do we have one?!) also has a low vacancy, probably in the 5.5 - 6.5% range.  This number is typically always pretty low because the supply is so low.

Now going forward, what do we see or can we predict anything?  Here a couple things I foresee happening:

• Office vacancy downtown will continue to increase and older buildings are going to struggle to attract tenants.
• Retail is going to remain strong as more great places open.  Our downtown is truly becoming a destination.
• Increased interest in our downtown is going to continue to spur new activity, and I'm hopeful there will be more residential to our downtown and close in neighborhoods.

Because frequently commercial property is worth more when it is leased than when it is vacant!  I have had numerous occasions when speaking to owners about selling their building, but they are reluctant to do so because the property is leased and is providing a nice income stream.  Then inevitably, I get the phone call a year or two later, and they say, “I can’t believe it, but so and so vacated the building.  Do you think you can sell it for the same price we were talking about two years ago?”  

Unfortunately, there is a good chance that the property vacant is not worth anywhere close to what the property was worth when they had a good tenant in place.  I have seen numerous buildings worth half as much vacant as when they were leased.  There can be definite value to having a tenant(s) in place.

I was recently discussing this phenomenon with a client who has a vacant building.  He had a great, long term tenant in his building paying a great rent for a number of years.  All of a sudden, their business model changed, and they didn’t need his building anymore so they moved out at the end of the lease.  His building has now been vacant for more than 2 years while we have searched for another tenant or buyer for the property.  Upon running the numbers from when the property was leased and what the property would have easily sold for, he realized he instantly lost at least $500,000 when the tenant decided not to renew the lease and vacate.

Why is this?  Well first off, commercial investment properties are great when they are leased because businesses don’t like to move and risk losing clients or customers.  Because of this, and with the added expense of moving, many tenants may pay a little more than market just to stay put.  On the flip side though, when the property does go vacant (and they ALL do at some point), it can be months or even years to find another business to fill that vacancy.

Investors pay less for vacant properties because they have to price in anticipated vacancy (this can be very hard to determine!), holding cost (taxes, utilities, upkeep, etc.), leasing fees, and any potential tenant improvement costs associated with bringing in a new tenant.  Adding these costs to a building that has no income drastically drives the value down.

So if you think selling may be in your future, it may be to your advantage to investigate selling while your commercial property is leased and has a good tenant in place.  If you wait until the property goes vacant, there is a good chance you may be disappointed with the market value of an empty building.

There are several new developments in the downtown office market relevant to your downtown property.  With cranes in the sky and recent shifts in tenants, it is wise to make some educated guesses as to what may happen in the next couple years. 

First of all, the downtown Boise office market is comprised of about 5.5M square feet with a current vacancy in the 6 – 8% range (TOK and Colliers year-end reports).  Since those year-end reports, there has been another ~100,000sf of downtown office space that has gone vacant or will go vacant this year (~2% vacancy). 

In 2014, the 8th and Main project will add ~237,000 square feet of office, with the vast majority of that occupied space pulling tenants from neighboring properties.  Using current net absorption numbers (~50,000 square feet / year) and the added inventory, this building could push vacancy up by an additional ~3%. 

Also relevant, the Simplot Company is planning a ~300,000sf headquarters for 2015.  When they vacate their current location, and if downtown offices absorb (net) another 50,000 square feet, the vacancy by the end of 2015 may jump another ~3%.

Just using these rough estimates, it is quite possible office vacancy could jump by ~8% in the next 3 years sending vacancy to 14 – 15%.  In addition, some of this vacant space is due to tenants leaving the downtown market.  This means fewer employees giving money to our retailers for lunch or happy hour beers, and this could impact our retail market as well.

Right now people are very optimistic about our downtown real estate market because of new projects (8th & Main, Whole Foods, JUMP, Trader Joes, 10 Barrel Brewing), which is great.  I hope more employment comes to downtown so this rise in vacancy doesn’t occur, but I’m a realist. 

I am reading “The Intelligent Investor” by Benjamin Graham (a mentor to Warren Buffet), and he says, “Sell to optimist and buy from pessimist.”  With our current state of the downtown real estate market, this quote is very fitting.

If you would like to discuss your situation, give me a call anytime, and we can chat about some of the options.