The United States office market vacancy rate fell to 9.5% in 2017, down slightly from 10.9% at the end of third quarter 2016. Through third quarter 2017, the market absorbed 50 million square feet of office space. The 4.1% U.S. unemployment rate, as of November 2017, has continued to be reflected in the strength of the overall office market.
As has been the recent trend, the office market landscape continues to see a move to open and collaborative work space options to accommodate a denser employment population. The continued transition from a baby boomer workforce to a millennial workforce is driving this trend. Today’s labor force is further impacting the office market through a vibrant entrepreneurial mindset and a demand for workplace amenities and diversity.
Demand nationally for office space within mixed-use developments offering a work, live, play environment is very strong. Urban core revitalization continues to attract office users and mass transit options are continuing to expand meeting that demand.
In 2017, the office market nationally saw an increase in the average rental rate, to $24.75 per square foot, up from $23.97 per square foot, across all classes. Year to date (YTD) delivery of office space was at 66 million square feet with another 154 million square feet under construction.
Growth in the Kansas City market saw increases in both the rental rate as well as YTD absorption. With increased leasing activity, the market saw rental rates increase to $18.77, up from $18.07 per square foot for the same time period in 2016. Additionally, the market saw positive absorption of nearly 1.5 million square feet across all classes for the second year in a row.
Class A and B absorption was strong at 1.5 million square feet. This positive absorption was led by strong demand in the healthcare sector particularly several large office leases signed by the University of Kansas Medical Center. The office suites concept has continued to impact absorption with the entry into the market of WeWork taking 70,000 square feet in the freight house district. Demand for high-end office space has helped increase rental rates to $22.08 per square foot for Class A buildings.
New deliveries and a strong economy across the nation, especially in the Kansas City market, will help drive increased rental rates into 2018. We will be watching to see how tax policy and midterm elections in the fall of 2018 will shape the country in terms of the overall office market.
SOUTH JOHNSON COUNTY
At the end of the third quarter of 2017, the South Johnson County submarket consisted of about 29.3 million square feet in all building classes. Of that, 2.4 million square feet were available, including sublease space. This equated to an overall vacancy rate of 8.1%, approximately the same as a year ago, with over 400,000 square feet in deliveries with the market showing strong positive absorption.
Significant office leases in the South Johnson County submarket completed in 2017:
• PNC Bank, 146,540 square foot renewal in Corporate Woods
• Physician Office Partners, 52,000 square foot expansion at the Sprint Campus
• Lansing Grain, 38,370 square foot renewal in Corporate Woods
• GE Energy, 29,000 square foot renewal at 7101 College Boulevard
• Allstate, 28,000 square foot relocation on the Sprint Campus
• University of Kansas Hospital, 75,000 square feet at 10710 Nall Avenue
• KU Healthcare Systems, 65,000 square feet at 11300 Corporate Avenue
• Digital Evolution, 33,600 square feet at 6601 College Boulevard
• Multi-Service Corporation, 37,500 square feet at College Hills
• Honeywell Federal Manufacturing & Technologies, 62,575 square feet at the Quintiles Building, 6700 W. 115th Street
• Grundfos Pumps Corporation, 58,827 square feet at I-35 & 119th Street Tech Park
Building Classes A, B and C reported a total of approximately 115,000 square feet of net absorption through the third quarter of 2017, which includes about 400,000 square feet of new construction delivery.
Current deliveries include:
• 6650 West 110th Street, the Diagnostic Imaging building, 76,195 square feet
• Mission Farms West Building, 52,500 square feet
• Nall Corporate Centre II, 149,389 square feet
The overall average asking rate increased from $20.78 per square foot at the end of the third quarter of 2016 to $21.63 per square foot at the end of the third quarter of 2017. This reflects strong demand as well as rising construction costs. This submarket continues to be one of the strongest markets in the metropolitan area.
For Class A properties:
Vacancy stood at 7.1% inclusive of sublease opportunities, down from 8.0% a year ago.
The average asking rate for direct deals and subleases was $23.43 per square foot at the end of the third quarter, also an increase.
YTD deliveries totaled 350,000 square feet for the South Johnson County submarket with a positive net absorption of about 244,000 square feet YTD 2017.
For Class B properties:
Vacancy stood at 9.1% inclusive of sublease opportunities which is level with 2016.
The average asking rate for direct deals and subleases was $20.27 per square foot at the end of the third quarter, up nearly $0.75 per square foot from a year ago.
YTD deliveries totaled 49,000 square feet for the submarket with a negative net absorption of about 160,000 square feet in 2017.
For Class C properties:
Vacancy stood at 6.6% inclusive of sublease opportunities. The average asking rate for direct deals and subleases was $16.94 per square foot at the end of the third quarter.
YTD the submarket has a positive net absorption of about 32,000 square feet in 2016
NORTH JOHNSON COUNTY
At the end of 2017, the North Johnson County submarket consisted of about 12.63 million square feet of office space across 670 properties in all building classes. About 1.03 million square feet remained available, including sublease space. This equated to an overall vacancy rate of 8.2%.
Building Classes A, B and C reported a negative absorption of 21,127 square feet during 2017 which included YTD deliveries of approximately 65,000 square feet. The overall vacancy rate remained relatively stable from 8.3% at the end of 2016 to 8.2% at the end of 2017.
The overall effective asking rate including subleases increased from $19.39 per square foot to $19.85 per square foot for the same period, which was influenced by the new deliveries. Despite the recent history of the market struggling to maintain existing tenants and fill vacancies in predominately older product, the North Johnson County market boasted six of the top 40 office leases by square footage in Kansas City for the year.
For Class A properties:
Vacancy stood at 12.5% inclusive of sublease opportunities. The effective asking rate for direct deals and subleases was $24.71 per square foot at the end of 2017, which was down from $26.03 per square foot at the end of 2016.
Net absorption for 2017 was approximately 4,775 square feet.
For Class B properties:
Vacancy stood at 7.5% inclusive of sublease opportunities. The effective asking rate for direct deals and subleases was $19.10 per square foot at the end of 2017, which was up from $18.39 per square foot at the end of 2016.
Net absorption for 2017 was negative 1,686 square feet.
For Class C properties:
Vacancy stood at 6.4% inclusive of sublease opportunities. The effective asking rate for direct deals and subleases was $15.26 per square foot at the end of 2017, which decreased from $15.34 per square foot at the end of 2016.
Net absorption for 2017 was negative 24,216 square feet.
CENTRAL BUSINESS DISTRICT AND SURROUNDING SUBMARKETS
The Central Business District (CBD), River Market, Crown Center, Freight House, Crossroads, and West Bottoms areas make up the overall Downtown submarket. These areas combine for a total of 27.5 million square feet and an overall vacancy which dropped significantly from 10.6% in 2016 to 7.6% at the end of third quarter 2017. The total available space for the Downtown submarket was 2.08 million square feet which includes 110,474 square feet of sublease space.
Overall, Class A properties saw the highest vacancy rate of 13.4%, or 1.17 million square feet, with Class B properties reporting the highest absorption of just under 500,000 square feet. The largest single contributor to this absorption was WeWork occupying71,000 square foot at Corrigan Station in the second quarter. Vacancy rate for Class B property decreased to 4.9% from 8.9% a year earlier, with apartment conversion projects lowering total inventory by about 100,000 square feet. Class C properties had negative absorption of 7,149 square feet and a vacancy rate of 4.7%.
Consisting of 17.5 million square feet, the CBD reported an overall vacancy rate of 7.8%, which was down from 11.7% at the end of the third quarter of 2016, and enjoyed positive absorption of 493,920 square feet. Class A buildings saw the highest vacancy rate for the end of 2017 at 15.2%, lower than the 17.6% vacancy rate reported at the end of 2016.
Class B properties in the CBD consist of 104 buildings and 9.2 million square feet, and experienced a reduced vacancy rate of 4.6% and positive absorption of 347,590 square feet. The Class C submarket consists of 65 buildings and 2.7 million square feet. Class C properties reported a vacancy rate of 3.1%. Overall rental rates in the CBD ended the year up $.46 at $18.08 per rentable square foot.
The Crown Center submarket consists of 64 buildings totaling 6.12 million square feet. The vacancy rate at the end of 2017 was 8.7% which is down slightly to 2016 at 9.0%. The nine Class A buildings in this submarket experienced a vacancy rate of 10.7% or 302,888 square feet with negative absorption of 13,315 square feet. Within the 24 Class B buildings, vacancy rates decreased from 6.2% in 2016 to 5.7% at the end of 2017.
The Country Club Plaza, also known as the Plaza, continues to demand the highest rental rates in the city at an average quoted rate of $24.81 per square foot, up $1.60 per square foot over 2016. When combined with the Midtown and Brookside submarkets, the area includes over 10 million square feet and boasts a vacancy rate of 5.0%, 2.9% lower than the city average.
Options for large users wanting a Plaza address continue to be limited. Vacancies of at least 20,000 square feet can be found in only three buildings, one of which is targeted for redevelopment. The Plaza market consists of 120 Class A, B, and C buildings. These buildings had a 4.3% overall vacancy, down from 4.8% a year ago, making this one of the tightest markets in the entire metro.
Notable deals include CrossFirst Bank’s new Plaza office at One Main Plaza and Cushman & Wakefield’s relocation to 4600 Madison from Crown Center.
The Brookside and Midtown portions of the submarket offer 309 buildings with a combined total of 5.4 million square feet. Midtown accounts for 4.8 million square feet of that total. Midtown’s 4.3% vacancy rate, second lowest in the city, attests to the desirability of its central location and proximity to the Plaza.
SOUTH KANSAS CITY
The South Kansas City submarket stretches from 75th Street to I-435 and from Ward Parkway to the Cerner Innovations campus at I-49 and I-435 interchange. The submarket is made up of 9.2 million square feet across 255 buildings and is desirable to companies given its proximity to retail amenities and its accessibility to I-435 and State Line Road. The overall vacancy rate for the South Kansas City submarket at the end of 2017 was 6.5%, or 601,567 square feet including sublease space, compared to a vacancy rate of 10.1 % at the end of 2016.
Consisting of 3.8 million square feet and 18 buildings, the Class A properties saw the lowest vacancy rate in the South Kansas City submarket at the end of 2017 at 2.3%.As with 2016, Class A properties saw positive absorption at the end of 2017 of 347,940 square feet.
Class B properties, totaling 4.4 million square feet and 101 buildings, ended 2017 with the highest vacancy rate in the South Kansas City submarket of 10.2%. The 10.2% vacancy rate was slightly higher than the 9.2% vacancy rate at the end of 2016. Class B properties ended 2017 with a negative absorption of 808 square feet.
Class C properties posted a vacancy rate of 5.1% or 951,681 square feet over 135 buildings at the close of 2017. As with the Class B properties, negative absorption was seen in the Class C buildings of 2,748 square feet at the end of 2017. Overall, the South Kansas City submarket saw positive absorption of 344,384 square feet.
The overall rental rate of $17.69 per rentable square foot for the South Kansas City submarket at the end of 2017 was a slight decrease from $17.75 per rentable square foot at the end of 2016.
Notable move-ins during 2017 include Cerner moving into two of their new buildings at their Three Trails Campus in the first quarter, National Bank of Kansas City relocating to 8320 War Parkway and occupying 83,000 square feet, and GlynnDevins moving in to just over 45,000 square feet at 8880 Ward Parkway.
NORTH OF THE RIVER
Defined as the portion of the Metropolitan Statistical Area (MSA) north of the Missouri River, this submarket includes both Platte and Clay counties in Missouri. Geographically, it is one of the largest submarkets in the metropolitan area and the fourth largest submarket in terms of total square footage, exceeding 11 million square feet across all classes.
The submarket has historically underperformed compared to other submarkets in the MSA, despite its size, proximity to the Kansas City International Airport, well-developed interstate system, and price value. After experiencing a modest positive absorption in 2016, the submarket reversed course with a nearly 32,000 square foot negative absorption though the third quarter of 2017. This ended a three-year run of positive net absorption for this submarket.
In 2017, the inventory in this submarket included more than 11 million square feet in 565 Class A, B, and C buildings. It had a 13.3%vacancy rate as of the third quarter of 2017, compared to 12.4%during the same period in 2016. The average quoted rate was $16.25 per square foot, unchanged from the third quarter of 2016.
The average per square foot quoted rents for Class A buildings is $20.38, and Class B rates average $15.65. Actual effective rents in Class B buildings are significantly less than quoted rates, as landlords continue to discount aggressively to compete for tenants.
The relative age of the product in this submarket is a factor in the high vacancy and low rents, with essentially all buildings in the submarket being Class B and Class C buildings. The limited number of Class A properties in this submarket had a vacancy rate of 19.2%. This is due almost exclusively to the JWilliams Technology Centre with a vacancy of over 197,000 square feet of primarily call center space. Excluding this property, the Class A sector is performing well despite the limited inventory
The market experienced minimal lease activity in 2017 with most transactions being small and limited to relocations within the submarket thus having no impact on vacancy rates.
Two Class B office buildings totaling 135,000 square feet, Ambassador I and II, were removed from inventory. Ambassador I is currently being converted to a Hilton flagged hotel and Ambassador II was acquired by International Academy of Science who will occupy the property.
The biggest news of 2017 for the submarket, and one of the most important issues for the MSA in general, was the approval of a new single terminal for the Kansas City International Airport. This $1 billion dollar, long sought and much needed, project was approved by Kansas City voters in November and promises to invigorate the already dynamic Kansas City economy, especially the Northland. Looking forward, we expect the market to continue to be an attractive alternative for value-driven tenants and buyers in 2018. The availability of large blocks of space, including a number of full buildings, should attract the attention of large users in an otherwise tight market in the Kansas City MSA. There are currently six blocks of available space in the submarket that are 50,000 contiguous square feet or larger compared with seven blocks 12 months earlier.
EAST JACKSON COUNTY
The Eastern Jackson County submarket consists of 6.05 million square feet throughout 563 buildings. As with 2016, the Class A buildings held the lowest vacancy rate of 4.4%. The Class A market is made up of three buildings and 257,822 square feet. At the end of 2017, only 15,489 square feet was available in the Class A market.
The Class B market, comprised of two buildings over 3.39 million square feet, posted a vacancy rate of 7.6% at the end of 2017. The Class B market saw positive absorption of 110,312 square feet in 2017. The Class C market posted the highest vacancy rate in Eastern Jackson County of 8.2% at the end of 2017. The Class C market is made up of 340 buildings spread over 2.48 million square feet and saw a positive absorption of 31,098 square feet.
Overall, the Eastern Jackson County submarket saw a total vacancy rate of 7.8%. The overall rate for 2017 was $15.63 per square foot compared to $15.10 per square foot at the end of 2016.
SOUTHEAST JACKSON COUNTY
The Southeast Jackson County submarket is comprised of parts of Lee’s Summit and Grandview. Consisting of 254 buildings and 3.12 million square feet, it is one of the smallest submarkets in the Kansas City Metropolitan area. Overall, Southeast Jackson County ended 2017 with a vacancy rate of 4.9% which represents a slight increase from 4.1% at the end of 2016. The average rental rate for the submarket decreased from $16.96 per square foot at the end to 2016 to $16.41 per square foot at the end of 2017.
The Class A market ended 2017 with the lowest vacancy rate at 2.2% with only 2,251 square feet available out of a total of 103,442 square feet of Class A space and saw positive absorption of 2,167 square feet. At the end of 2017, the Class B market, comprised of 105 buildings and over 2.66 million square feet, saw a vacancy rate of 5.3%. The average asking rate for Class B space was $17.40 per square foot compared to $17.80 per square foot at the end of 2016. The Class C market is made up of 147 buildings and 751,665 square feet and posted vacancy rate of 4.1 % or 30,995 square feet available.
The vacancy rate represents a slight increase from the end of 2016’s vacancy rate of 3.7%.In addition, the vacancy rate decreased from $14.14 per square at the end of 2016 to $13.47 per square foot at the end of 2017.
KANSAS CITY, KANSAS
Kansas City, Kansas (KCK), the third largest city in the state of Kansas, is a member of the Unified Government of Wyandotte County along with Bonner Springs and Edwardsville.
The KCK office market has continued to tighten. With 3.18 million rentable square feet in 212 Class A, B, and C properties, at the end of 2017, only 3.6% or 116,019 square feet was available for lease. Three buildings, totaling 760,000 square feet, make up the Class A portion of the market. All three properties are located in western Wyandotte County near the Legends, and all three are 100% leased. Two of the buildings are part of the Cerner Corporation Continuous Campus. The 100,000 square foot Dairy Farmers of America headquarters building, which opened in the second quarter 2017, is the third Class A building in the market.
There are 53 Class B buildings in KCK, with a total of 1.22 million square feet. At the end of 2017 only 5.8% or 70,258 square feet were vacant, and the average asking rent increased 7% from $15.74 per square foot at the end of 2016 to $16.85 per square foot at the end of 2017.
With 156 buildings totaling 1.21 million square feet, only 3.8% or 45,761 square feet was available. At the same time, asking rents increased 2% from $12.67 per square foot to $12.89 per square foot.
CLIMATE FOR COMMERCIAL REAL ESTATE
Nationally, 2017 continued the positive trend with respect to job creation and lower unemployment rates.Our country saw a very low unemployment rate of 4.1%, however, this has continued to put pressure on labor cost which has been felt throughout the construction sector.
President Donald Trump has had mixed success in his first year of office as political gridlock still rules in Washington. It does appear that progress has been made on tax reform which should have a positive impact in commercial real estate (CRE). Likewise, there is hope that a bipartisan infrastructure bill will be put into effect in 2018.
The U.S. Federal Reserve Bank believes the country is headed in the right direction. The Fed raised the federal interest to 1.0% in March of 2017 and then to 1.25% in June of 2017. The expectation is for an additional increase at the end of 2017. This would represent the fifth time the Fed has raised the rate since the financial crises. Our industry will keep a close eye on these developments as much of the CRE development and investment have been helped by low interest rates and access to capital.
On a positive note, the Gross Domestic Product grew at the rate of 3.3% in 2017 up from 2.9% in 2016. The shift of generations, baby boomers to millennials, continues to challenge employers with respect to meeting skilled labor demands and has forced employers and likewise office building owners to consider mass transit, 24/7 flexibility and overall lifestyle more than ever.
More and more employers are opting to upgrade office environments to attract and retain the best and brightest employees and office building developers are responding to that demand.
Construction costs continue to stay high with new Class A building rental rates falling in line. The market for existing office space will continue to see low vacancy rates as tenants needing more space continue to opt for existing space whenever possible.
Source: Block Real Estate Services, LLC’s (BRES) 2018 Market Report