Job Creation Needed To Boost Commercial Property Demand

Nearly four years after the Great Recession officially ended, most U.S. office real estate markets lack the job creation required to soak up excess space.

This remains the case even as franchises and service industries show signs of growth that could fuel demand for industrial and retail space, as some markets enjoy tech and energy booms and as Labor Department data show initial jobless claims near a five-year low. New job-creation data come out Friday.

By every measure, the U.S. office property sector is regaining its footing at a "glacial" pace, according to New York-based commercial property researcher Reis (REIS). The average national office vacancy rate of 17.1% at the end of 2012 represented a paltry 30-basis-point year-over-year improvement, Reis notes.

Just how bad were the past couple years? In 2011 and 2012, companies absorbed an average of 4.3 million square feet of office space each quarter, a woeful amount when held up against the average of 13.5 million absorbed quarterly over a comparable period after the 2001 recession.

Average asking rent grew by 1.8% in 2012 over the previous year, thanks largely to healthy increases of more than 2% in markets such as San Francisco (6.6%), San Jose, Calif. (3.1%), New York (3.9%), Houston (3.2%) and Dallas (2.5%).

Hot Industries Help The technology and energy industries have fueled office demand in those cities for months. But hiring in the financial services and media industries, two of the biggest traditional drivers of office leasing across all markets, have been flat since February 2010, says Kenneth McCarthy, chief economist for brokerage Cushman & Wakefield.

A third determinant of office demand, professional and business services, has produced decent growth with some 1.5 million jobs over the past three years, he adds. Temporary workers made up a good chunk of the total, but that sector has started to flatten, too, he notes.

It could be a sign that employers are shifting to hiring more permanent workers, he says, but in general too many questions still surround office users that should be growing at this stage in the recovery.

"In financial services, there's still uncertainty about Europe and there's still uncertainty about what the regulatory environment (in the U.S.) is going to be like," McCarthy said. "I would expect the media sector to pick up as technology continues to advance, but then you've got the print media as a piece of that, and it's struggling.

Still, last fall's election has at least signaled that the Obama administration's two most ambitious initiatives to change Wall Street and health care are here to stay, suggests John Sikaitis, director of office and local markets research for the Americas at property brokerage Jones Lang LaSalle (JLL).

Ultimately, laws will make financial and health care firms add compliance and support staff, which could spark office demand in secondary cities with low-cost labor and real estate such as Jacksonville, Fla., and Salt Lake City, he says. While sequestration — government spending cuts that kicked in this month — may hurt government contractors and some agencies, in reality it only slows the rate of spending increases, Sikaitis adds.

The Securities and Exchange Commission, Federal Deposit Insurance Corp., Internal Revenue Service and other regulatory bureaucracies are poised to grow as the reforms take full effect.

"In the modern era, the federal government has never seen a decline in its budget," Sikaitis said.

Other industries are starting to exhibit signs of growth that could spark demand for retail buildings, storefronts or industrial space. Franchises are expected to add 162,000 jobs in more than 10,000 new establishments this year, for example, amid pent-up demand, more certainty on tax rates and improving credit conditions, the International Franchise Association says.

Restaurants could account for some 3,000 of those operations, the group says. Denver-based franchise Smashburger hired nearly 1,000 workers in the last three years. That put it among the top 10 U.S. companies recognized as notable job creators in Inc.'s Hire Power Awards, which looked at factors such as how fast firms grew. And Lansing, Mich.-based family franchise Two Men And A Truck plans to expand into 300 U.S. markets this year.

On that Inc. list, solar installer SolarCity (SCTY), a recent IPO, also made the top 10. Small businesses have historically led U.S. job growth.

Despite an unemployment rate near 8% and lackluster job growth, apartment developers are pursuing new projects to relieve pent-up demand amid a lack of new building.

Some 85,000 units were put up in 2012 and about 145,000 will be in 2013, says property brokerage Marcus & Millichap. Yet it sees demand by echo boomers pushing the average vacancy rate down 20 basis points to 4.3% by the end of the year. A Place To Live Like other apartment investors, Memphis, Tenn.-based real estate investment trust MAA (MAA), which owns nearly 50,000 apartment units mainly in the Southeast and Texas, is reacting to supply constraints in its markets by launching new development. But depending on the market, it also estimates that from nine to 12 new jobs will be created for every new unit built in 2013.

MAA recently completed 740 units in Little Rock, Ark., and Nashville, Tenn., and is developing 774 more in Charleston, S.C., Charlotte, N.C., and Jacksonville, Fla.

Tim Argo, director of financial planning at the REIT, says in general job creation in construction and in government has driven some apartment demand. But rather than concentrating on specific sectors, he says, the firm's banking more on the region's pro-growth mentality, characterized by the predominance of right-to-work states.

Roughly 23% of Mid-America's portfolio is in Texas, for example, a state with low taxes that is aggressively wooing companies from high-tax states such as California.

MAA expects "pretty strong job growth" in Texas, he said, as well as in "Sun Belt markets that have a favorable business environment."