Secondary Glance: Tier Two Office Markets Form Hotbeds of Opportunity

In today’s economy, office investors in search of deals tend to prefer lower-risk primary markets. But more affordable prices are drawing some to secondary markets, and small banks can often facilitate investments there. “The pricing is not as hard, and you’re not looking for a lot of debt,” said Jack

In today’s economy, office investors in search of deals tend to prefer lower-risk primary markets. But more affordable prices are drawing some to secondary markets, and small banks can often facilitate investments there. “The pricing is not as hard, and you’re not looking for a lot of debt,” said Jack Minter, managing director for Jones Lang LaSalle Inc.’s Dallas office. Acquisitions of trophy assets, though, may prove more difficult to fund. “If you’re looking for an 80 percent loan-to-value in Columbus, Ohio, you’re still toast.” Despite the proportional housing-crunch effects, the following cities offer opportunities for investors, with high yields and lower risks due to a low cost of living and sizable employment base for tenants.Albuquerque: Last year proved one of Albuquerque’s best, as vacancy rates held below 10 percent and no major tenants left the market. Though downsizing among housing-related businesses led to 70,000 square feet of negative absorption, Ken Schaefer , director of brokerage services for Grubb & Ellis Co.’s local office, predicted that this sublease space will fill up quickly. Developers and tenants alike have discovered the market’s affordable workforce and way of living. “Our wages put us way ahead of other nearby markets,” Schaefer said, noting that the film industry has turned its cameras toward the city’s venues.Central Florida: The Tampa and St. Petersburg office markets have been feeling the effects of the housing crunch. Vacancy has ticked up as housing-related companies depart their space and put it up for sublease. “This space is typically slow to move off the market,” said Randy Smith, director of research for GVA Advantis’ Tampa office. Developers are cautious to start new construction, and “phenomenal” growth of rental rates during the past few years will calm down to a more historical annual increase of 3 to 4 percent. Assets have traded as high as $275 per square foot but have hit their pricing peak, and Smith expects Class A prices to hold steady while Class B assets decline slightly. Still, he believes, steady growth in the area’s biotechnology and life sciences industries give reason for a positive outlook.Texas: The federal and state government and technology are pushing Austin, which offers a highly educated workforce, noted Kevin Roberts, president of the Central Texas region for Transwestern. Annual job growth exceeds national and state averages and the unemployment rate hovers below both. Even so, the turbulent capital markets have halted ground sales. Sellers may wait to see if the bid-ask ratio justifies putting buildings back on the block. Tenant growth has been organic, and current space users are looking for short-term renewals while they await the credit crunch’s impact on rents and real estate values. Roberts does not expect any additional rent growth this year, but nor does he envision a decline, as pent-up demand should fill the 4 million square feet under construction. San Antonio has also seen strong, though not as robust, job growth. The market has 1.4 million square feet of new construction, mostly in the Northwest submarket, and 50 percent is pre-leased. Roberts suspects that rental rates there will move up slightly this year.Charlotte, N.C.: The strong banking sector in Charlotte, home to such names as Wachovia Corp. and Bank of America Corp., assures a healthy office market, especially as supporting service providers like certified public accountants, lawyers and consultants expand. John Wise, senior director of Marcus & Millichap Real Estate Investment Services Inc.’s national office industrial properties group, noted that Charlotte serves as an alternative to Atlanta, with better occupancy rates and investment yields. And NASCAR’s selection of Charlotte over Atlanta for its Hall of Fame has revitalized Downtown.Denver: Denver has gone almost two decades without a new office tower, leading to average occupancy rates of 95 percent in high-rises. “Our tenants don’t have many options to move,” stated Trammell Crow Co. director of Colorado Bill Mosher. Now, 1.2 million square feet of office space, most of it speculative, is under construction, including Callahan Capital Partners’ 38-story Two Tabor Center at 1200 17th St. and 700,000 square feet in Trammell Crow’s three-phase 1900 16th St. project. Mosher is waiting to see, however, whether the capital markets bottom out and impede these projects. He painted a bullish picture for the city overall, though, noting that a new light-rail system is renewing interest in the city.Nashville: Nashville plays a strong opportunistic chord for outside investors. “It may have its ups and downs, but it’s a good place to be,” said BH Properties L.L.C. regional acquisitions director Scott Henry, pointing to the city’s strong government, educational and medical sectors, as well as income growth among residents. The company purchased the 64,337-square-foot Perimeter Park II building at 2254 Perimeter Hill Drive in March. Henry noted the potential of a building that is 37 percent vacant in a submarket that averages 15 percent. Vacancy in other submarkets is approaching 10 percent.Lands of Opportunity(Fourth quarter 2007 market fundamentals)InventoryVacancyClass A PSF asking rentsClass B PSF asking rentsAlbuquerque12.3 MSF12.7%$21.50$18Tampa CBD7.4 MSF14%$21.12 overallSt. Petersburg, Fla., CBD2.1 MSF13%$25.32 overallAustin36 MSF14%$31.28$22.51San Antonio23.4 MSF12.6%$22.60$18.11Charlotte, N.C.33.6 MSF11.1%$21.09 overallDenver103.7 MSF12.6%$20.09 overallNashville29.5 MSF10.9%$18 overallSource: CB Richard Ellis Inc.