Office Market Strong Despite Dot-Com Dent

Southern California’s leading office markets remain strong despite the failures and consolidations of dot-coms and other technology firms, industry experts say.

Landlords in the region’s most desirable office markets are resisting cutting rents even though the tech shakeout knocked occupancy rates down during the first quarter, especially on the dot-com-flush Westside.

The rise in vacancy will be short-lived, some commercial real estate brokers predict, with traditional businesses expected to pick up the slack in the months ahead. Before this contraction, few offices were available in the Westside, Orange County and Burbank-Glendale-Pasadena after years of heavy leasing and not much construction.

The Westside continued to take the brunt of dot-com failures and consolidations during the first quarter because that market was the No. 1 choice of Internet firms as they were expanding and gobbling up Southern California office space.

The total of occupied office space dropped by more than a million square feet on the Westside during the first quarter, according to a report from L.A.-based Cushman Realty Corp. The amount of occupied space fell by 400,000 square feet in the Burbank-Glendale-Pasadena market and dipped by 100,000 square feet in Orange County, according to the Cushman report.

Downtown Los Angeles, by contrast, outshined its competitors by filling 386,000 square feet of empty office space in the quarter ended March 31, the second consecutive quarter in which downtown outperformed the others after years of lagging behind.

Downtown and the Westside are the two largest office markets in Los Angeles County, with downtown accounting for 30 million square feet and the Westside for 40 million square feet of the county’s 165 million square feet of office space.

The dot-com downturn contributed to the decrease in the amount of occupied space in Orange County as well, said Mitchell F. Russ, manager of real estate services for Cushman Realty, but not to the extent that it did in West Los Angeles.

In the Burbank-Glendale-Pasadena market, the decrease in the amount of occupied space was attributed primarily to space vacated by entertainment and media firms, although it did include 50,000 square feet abandoned by Idealab, an Internet incubator.

The period ended March 31 marked the second consecutive quarter in which the Westside posted a net loss in the total amount of occupied space, a phenomenon known in real estate circles as “negative net absorption.”

Real estate brokerages disagree on the precise amount of negative net absorption on the Westside, but most do agree that the figures do not signal an exodus from popular places such as Santa Monica, Century City and West Los Angeles.

“The market has not crashed,” said Jerry Asher of CB Richard Ellis. “Landlords are still turning down deals if the tenants aren’t meeting their prices.”

Both Asher and Howard Sadowsky of Julien J. Studley Inc. describe the current quarter’s conditions as “a blip” that will fade away later this year, provided the regional economy remains sound. A potential entertainment industry strike is another economic wild card.

“[Leasing] activity overall has dramatically lessened, but things are not falling apart,” Sadowsky said last week. “Tenants still have space needs. I was on the phone today with two law firms whose leases are going to expire and they both need to expand.”

Brokers say tenants should not expect bargain-basement rates because the Westside remains one of Southern California’s strongest office markets.

“The overall vacancy rate on the Westside is still under 10%,” said broker David Thurman of Grubb & Ellis. “Some markets would kill for that vacancy rate.”

Landlords are not going into a panic mode, Thurman said. Average asking rates for top-quality Westside offices actually rose by 7 cents a square foot to $3.21 per square foot per month during the first quarter, according to Grubb & Ellis.

That compares with average asking rates of about $2.10 in downtown L.A.’s central business district and about $1.60 in downtown buildings outside the central business district. Orange County landlords ask about $2.60 per square foot for top-quality space.

The last two quarters have been good for downtown Los Angeles, which has battled to recover from a host of corporate consolidations that have left millions of square feet of empty office towers.

Downtown fared well in the last two quarters both because of expansions by firms already there and from a migration of companies formerly based elsewhere, said broker Tom McDonald of Cushman Realty.

“Groups are considering downtown now who wouldn’t consider it before,” McDonald said.

Among the incoming tenants during the first quarter was a Blue Cross of California sales office that moved from West Los Angeles to more than 22,000 square feet downtown. Blue Cross was drawn by “amenities, access to clients and value,” said Vice President Ron Ragland, who heads the 801 S. Figueroa St. office.

Downtown devotees have long touted the comparatively low rental rates there, along with the budding Disney Concert Hall, Staples Center, market-rate apartments and condominiums under construction, and the general belief that the central business district is growing steadily in vitality and appeal.

Rents remain low in comparison to those in fashionable locales such as Santa Monica because downtown still has one of the highest percentages of empty office space in Southern California at about 20%.

Empty offices throughout the region include space available directly from landlords as well as sublease space being marketed by companies that no longer need it. Among the largest chunks of space in West Los Angeles is 150,000 square feet of space formerly occupied by EToys, one of Southern California’s most prominent dot-com failures.

Brokers expect more dot-com space to be dumped onto the office market in the coming months, but not as much as in the last two quarters, and they look for other firms to fill much of that space.

“What happens will depend on demand,” said Asher of CB Richard Ellis. He said demand for office space could decline if California lapses into a recession or if the state doesn’t solve its energy problems.

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Rising Vacancy

Office markets popular with tech companies lost tenants in the first quarter, while bargain-priced downtown Los Angeles showed a net increase in occupany for the second quarter in a row.

Source: Cushman Realty Corp.