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Vacancies Continue to Rise As Landlords Seek to Adjust

October 29, 2001

Article By Christopher Keough

Office vacancy rates in Los Angeles County increased – albeit slightly – for the third straight quarter as the commercial real estate market reflected economic weakness exacerbated by events thousands of miles away.

It’s a softening that may be around for some time. Countywide office vacancies reached 14 percent in the third quarter 2001, according to Grubb & Ellis Co. That’s an increase of 0.3 percent over the previous quarter and 1.7 percent more than the third quarter of last year. Submarkets that contributed the most empty space were El Segundo, with negative absorption of 362,417 square feet, and Santa Monica, with a negative absorption of 220,576 square feet.

“Vacancy has been going up all year and probably will into the first and second quarter of next year,” said Grafton Tanquary, a senior vice president at CB Richard Ellis Inc., who works the South Bay market, where vacancy hit 16.2 percent.

And while others in the real estate community say that the situation is not so bad and ready to correct, the upbeat mood is little more than “wishful thinking and salesmanship,” according to Stuart Gabriel, director of the USC Lusk Center for Real Estate.

'Hang in there’

“In my mind the uncertainty is vast; it’s profound,” Gabriel said. “There is no perceptible approaching rebound. The name of the game in the near future is ‘Hang in there.’”

Hanging in there is harder on the Westside, which has been hammered by technology companies that have gone bankrupt, consolidated or simply moved out. The market only will recover, Tanquary said, if there’s growth in the technology or defense industries or the overall economy picks up.

In other markets, matters are less severe. The Tri-Cities saw vacancy decrease to 10.8 percent, almost a full percentage point, although there is a vast amount of space slated to come on line in the next year.

Industrial property remains strong, though vacancy increased 0.3 percent to 4.2 percent. Things could get looser with more than 10.5 million square feet under construction countywide.

Dennis Macheski, a real estate consultant, said the economic slump has caught up with Southern California, marked by the arrival of negative job growth in the region in August. That situation, coupled with the general anxiety surrounding terrorism and the war in Afghanistan, will conspire to depress the local real estate market for the near term, he said.

Landlords’ asking rents have been falling in response to climbing vacancies, though less severely downtown, which continues to outperform the rest of the county. Vacancy dropped again downtown, from 19.1 percent to 17.5 percent, almost a full 5 percent below the same quarter last year. The average rent downtown fell to $2.41 in the third quarter from $2.43 per square foot in the second quarter.

For the first time in recent memory, another market – sub-lease laden South Bay – threatens to knock downtown off its dubious perch of posting the region’s highest office vacancies.

Below market rents

Still, Robert Starkman, a partner in the real estate advisory services practice at Ernst & Young LLP, said most of the stock downtown, even that which is officially Class A space, is not top-quality product.

Tony Morales, a partner at Maguire Partners, downtown’s largest landlord, said rates are going up at his buildings. Library Tower, Gas Co. Tower and the Wells Fargo towers all are more than 92-percent leased, Morales said. But with monthly rents from $1.50 to $2.08 per foot, they are still below the market.

While no overall market had vacancies under 10 percent, the strength in the county remained in traditional Westside bastions Century City, Brentwood and their downscale Culver City cousin.

In West L.A. vacancy grew again in third quarter and stands now at 11.6 percent. It’s only a 0.4-percent increase over second quarter, but it’s twice the 5.8 percent vacancy in the submarket at the end of third quarter 2000.

Vacancies in Century City climbed slightly, to 5.6 percent in the third quarter from 5.1 percent in the second, though it remains essentially fully leased.

“It’s still enormously desirable,” said Greg Gill, president of Southern California operations for Newmark & Co. Real Estate Inc. “The market was really superheated over there and I think it’s just coming into a better-balanced state right now.”

Starkman said it’s tough to tell whether that balance will remain or if the scale will continue to tip against Westside. “There are just so many other markets that are low-cost alternatives,” Starkman said.

David Thurman, a senior vice president at Grubb & Ellis, said the sublease space that pocks the Westside has to be absorbed before the market will solidify. He anticipated that could take as long as nine months.

“It’s like we sat down and ate this huge dinner and it was just too much,” Thurman said of the Westside. “Now we have to go to the back room and lay down and let it digest.”