Over the past calendar year, economic conditions in Denver’s industrial and office markets were polar opposites.
Industrial space seemed to be snapped up nearly as quickly as it came online. It was quite the opposite in the office sector as 1.80 million net sq. ft. of space was vacated even while new properties came online.
Depending on whether a person was in the industrial or the office sector and whether they were a landlord or a tenant, these were either the best of times or the worst of times.
But there are hints in the 2021 Q4 data, and even stronger indications in the 2022 projections, that the current extreme conditions may ease in both markets over the next 12-24 months.
Nearly all the recent data for the industrial sector tells the story of supply fighting to keep up with demand.
Vacancy rates dropped from 6.0% to 5.5% in the past year. Not surprising, market rent per sq. ft. was up $0.59 for the 12-month period and $0.23 in the last quarter alone.
The annual rate of growth for rent reached 5.7% by the end of the year, an increase of 3 percentage points over year-end figures for 2020. This annual rate of increase is expected to spike in the first three quarters of 2022 before falling back to the mid-5% range by the end of the year.
In short, current directional trends in the industrial real estate market will continue in 2022, although rates of increase will moderate. The boom will become a low roar.
Office Space Sector
As mentioned, office tenants continued to vacate space through year-end 2021. This will continue, albeit at a steadily declining rate as we move through 2022. Vacancy rates increased by 1.8 percentage points in 2021 to 14.4%.
In spite of this oversupply (of both direct space and sublease space), many office landlords appeared unwilling to significantly reduce market rental rates. After declining slightly during much of 2021, rental rates strengthened again in the last half of the year, resulting in a year-over-year rental price increase of $0.13 per sq. ft., a 0.4% increase.
Sale prices for commercial office properties were steady throughout most of 2021 but bounced higher in Q3 and Q4 to $247 per sq. ft., up $10 per sq. ft. for the 2021 calendar year. This likely helped account for the steady rent rates in the face of declining demand.
This recent data for the office market indicates the rebound will continue in 2022 as the strong tenant’s market of the past two years diminishes over the next 18 months.
Implications for Lease Negotiations
In spite of the disparity between the two markets, there’s one common takeaway. In both cases, landlords are taking a hard line on rental rates.
On the industrial side that’s due to the fact that supply and demand is on their side. And in the office market, it’s likely because the cost of newly constructed space remains high, the typical landlord’s current costs are fixed (such as long-term mortgage), and landlords don’t want to get locked into relatively low lease rates when they see better times ahead.
Given this inflexibility on rental rates, office and industrial tenants need to optimize their leases in other ways. There are, in fact, numerous other financial and nonfinancial provisions tenants can negotiate to their advantage.
Watch for our blogs over the next two months, where we’ll present some of the lesser-known negotiated terms that can improve a lease in spite of a landlord’s inflexibility on the rate. Feel free to give us a call if you’d like a sneak preview!
If you’d like to dig deeper into this data or if you have questions about what all of this might mean for your commercial real estate investment plans or your tenancy arrangements, please contact us.