Rising Costs and Limited Options for Columbia Office Tenants

Research & Forecast Report
Q4 2015 COLUMBIA | OFFICE

 

Key Takeaways

• The Columbia, South Carolina office market ended 2015 with positive absorption for the quarter and the year, increased occupancy and higher rental rates than the previous year.
• Construction remains limited in the market despite limited quality spaces being available.
• Employment utilizing office space is increasing as companies continue to grow in Columbia.
• The market is poised for stronger growth in 2016, which will translate into declining vacancy rates, increasing rental rates and higher occupancy costs.

 

To download the complete report: Q4 2015 Columbia Office Market Report.

 

Low Vacancy Rate Leaves Few Quality Options

Robust interest in the Columbia, SC office market is contributing to a downward trend in vacancy rates, leaving users with limited options for space. At the end of the fourth quarter of 2015, the total vacancy rate for the market was down to 16.1% from 16.8% the previous quarter and 17.6% one year ago. The vacancy rate is at its lowest level in recent times. Space continues to be absorbed throughout the market and larger blocks of Class A space greater than 20,000 square feet are running in low supply. As a result, tenants are finding themselves competing for space and oftentimes the only option is remaining in the space they currently occupy. Lease renewals are being considered well in advance of lease expiration dates in an attempt to secure their space as well as obtain lower rental rates than those of the future. The process to renew a lease or relocate is extremely long and is surprising to many tenants in the market who run out of time to complete their renewal or new lease. When this happens, the tenant forfeits much of their leverage to negotiate.

The Central Business District (CBD) remains the focal point of the market and ended 2015 with a total vacancy rate of 10.6%, down from 10.7% the previous quarter and 10.9% one year ago. New leasing velocity has been limited given the few available options for quality space. Less than 250,000 square feet of Class A office space remain vacant in the CBD contributing to a Class A vacancy rate of 10.8%. Approximately 22,000 square feet recently became available at the First Citizens building on Main Street adding highly demanded Class A space to the available inventory. Class B and C vacancy rates were 9.3% and 12.5%, respectively, at the end of 2015.

The suburban submarkets continue to strengthen as CBD rental rates increase and space remains limited in the market. The suburban submarkets ended 2015 with a total vacancy rate of 21.4%, down from 24.0% at year-end 2014. The submarkets have welcomed significant activity over the past year with a total net absorption of approximately 125,000 square feet. St. Andrews has been home to a majority of the year’s suburban transactions as tenants are drawn to the submarket’s close proximity to the CBD and lower occupancy costs. St. Andrews ended the year with a total vacancy rate of 20.1%, down from 27.3% three years ago. Class A and B vacancy rates were 14.9% and 16.9%, respectively, at year-end 2015 for the submarket.

 

Factors Driving Suburban Success

• Abundant, free parking gives suburban office parks a competitive edge as parking costs increase in the CBD.
• With the CBD running low on large blocks of contiguous Class A and B office space, some office tenants are turning to the suburban submarkets to meet their space needs which may include purchasing existing buildings.
• Recent suburban sales have provided an opportunity for new landlords to invest in building renovations and improvements, transforming Class B buildings into B+ and A buildings. For instance, lobby and common area improvements in the Stoneridge Office Buildings and Synergy Executive Park in the St. Andrews submarket proved successful in attracting new tenants.
• Although rental rates are increasing throughout the market, suburban rental rates remain below CBD rental rates, offering an affordable option for tenants.

With strong activity in the suburbs over recent quarters, the available, Class A supply is diminishing. The suburbs, specifically the St. Andrews submarket which has seen the greatest activity, are becoming limited by the quality of available space. Current tight conditions provide the opportunity for landlords and investors to place capital in Class C and B buildings, upgrading the properties to higher quality space that is more appealing to prospective tenants.

 

Historically High Rental Rates

Given the market’s declining vacancy rate and strong demand for space, landlords have control of the market and are raising rental rates to levels never before seen in the market. Some landlords in the CBD are also posting tiered rental rates in which rent varies based on location within a building among other features. At year-end 2015, asking rental rates averaged $16.50 per square foot per year for the market, up from $15.85 one year ago. Rental rates have been escalating over recent years, increasing 7.8% in just 2 years. Class A asking rental rates averaged $20.59 at year end, up from $19.51 one year ago and $18.60 in 2012. Class B and C asking rental rates averaged $16.21 and $14.02, respectively, at year-end 2015.

The CBD is home to the market’s highest rental rates with an average asking rental rate of $19.93 per square foot. Asking rental rates for CBD Class A space averaged $22.54 per square foot per year, increasing 5.7% since year-end 2014 and 13.0% since year-end 2012. Class A asking rental rates have been increasing as demand for quality remains solid in the tight market. The submarket is beginning to see new Class A leases in excess of $25.00 per square foot. Class B and C asking rental rates averaged $17.75 and $16.61, respectively, in the CBD.

Suburban rental rates are on the rise, but remain well below those of the CBD. Overall asking rental rates averaged $14.86 for the suburban submarkets at year-end 2015, increasing from $14.42 one year ago and $13.94 in 2012. Asking rental rates for Class A suburban space averaged $17.76 at the end of the 2015, up from $17.12 one year ago.

St. Andrews has experienced the largest increase in asking rental rates as the submarket continues to drive suburban office space. Asking rental rates in the submarket averaged $15.29 at the end of 2015, up from $14.37 one year ago and $13.69 in 2012. Class A asking rental rates averaged $18.32, increasing 11.0% since 2012. Increases in asking rental rates can be attributed to building upgrades and high demand for space in the submarket.

 

Increasing Occupancy Costs in the Central Business District

In addition to rising rental rates, tenants in the CBD are facing higher occupancy costs due to several factors.

• Mirroring office conditions, downtown parking garages are experiencing high occupancy, and parking is becoming a challenge for some tenants looking to locate in the CBD. Parking rates are increasing and some tenants are unable to find parking in adjacent garages, requiring some to park farther from their office. Additionally, a higher density of employees per office space is placing added pressure on parking availability.
• Construction costs are increasing and being passed on to the tenant as tenant improvement allowance provided by landlords remains largely unchanged.
• Concessions are almost non-existent as landlords can secure deals without offering tenant incentives.

Columbia office tenants are paying the highest occupancy costs the market has ever seen due to the combined impact of higher rental rates, increased parking costs with limited availability, excessive construction costs and no concessions.

 

Construction Remains Limited

New construction made an appearance in 2015 after being absent from the market for several years. Construction remains limited to a few projects and likely will not gain momentum for at least 12-18 months. Two mid-sized office buildings currently under construction include the First Base Building at BullStreet Common and Innovation Center at the University of South Carolina.

The First Base Building at BullStreet Common, the redevelopment of the former 180-acre South Carolina Department of Mental Health hospital campus, is under construction and expected to deliver in April 2016. The 72,000-square-foot, Class A office building has already attracted its first tenants. The First Base Building offers tenants a downtown location with ample parking and will be located at the first base of Spirit Communications Park, which is also under construction. The 8,000-seat, $37 million baseball park is expected to be completed in the spring of 2016.

Construction is underway at Innovation Center, a 5-story, 110,000-square-foot, Class A office building in the University of South Carolina’s Innovista district. The building has approximately 40,000 square feet available for lease at an asking rental rate of $18.50 NNN, which may equate to $26.50 full service.

Collectively, the two office buildings will add approximately 182,000 square feet of Class A office space to the downtown inventory in 2016.

Market is Prime for Investment Sales

Similar to other secondary and tertiary markets nationwide, the Columbia, SC office market is receiving growing interest from investors. As sale prices increase and yields decline in primary markets, some investors are looking to invest in alternative markets, which offer higher return and lower sale prices.

• The Meridian, a 335,000-square-foot, Class A office building located in the CBD, was acquired in June 2015 for $65.6 million as part of a portfolio acquisition by California-based Hertz Investment Group.
• The office building located at 1122 Lady Street, on the corner of Main and Lady Streets in the CBD, was acquired during the third quarter of 2015 by Rockford Capital Partners for $6.7 million. The investment group plans to invest nearly $2 million in building upgrades to attract new tenants to the building.

 

Employment Rises

Employment that utilizes office space, which consists of the professional and business services, financial services, and information employment sectors, is at its highest level since 1990 in the Columbia, SC metropolitan statistical area (MSA). As of October 2015, approximately 86,600 individuals, or 22.5% of the MSA’s total non-agricultural labor force, was employed by an office-using job. An estimated 5,400 jobs were added to the office-using employment sector since October 2014. The sector has gained approximately 30,100 jobs over the past 25 years. The continued growth of the employment sector will drive future demand for office space throughout the market.

 

2016 Outlook

The market is poised for continued growth and improvement in 2016. Landlords will maintain control of the market which will translate into higher costs for tenants. The vacancy rate will continue to decline in 2016, but leasing velocity will slow as available space remains in low supply. Renewals will make up a large portion of lease signings. New leasing activity in the CBD will be limited given the lack of options and available supply. The suburban submarkets, specifically the St. Andrews submarket, will continue to attract tenants and offer a quality alternative to the CBD.

As the market continues to tighten, rental rates will climb further. The CBD will likely experience the greatest rent hike as competition becomes increasingly fierce, especially for the few remaining blocks of Class A space. Suburban rental rates, which have significantly increased over recent years, will see more moderate increases in average asking rental rates.

Construction will remain limited and any new construction will likely involve smaller to mid-size buildings. Alternatively, tenants looking for space in the market may opt to acquire older office buildings prime for renovation given the market’s rising rental rates and occupancy costs.

 

Around South Carolina

A growing demand for office space throughout South Carolina is contributing to tightening markets and soaring rental rates. Tenants are competing for quality space as large blocks of contiguous space over 20,000 square feet remain in low supply, creating a need for new office construction in major markets throughout the state.

 

Charleston, South Carolina

Companies are expanding quickly in Charleston, SC, contributing to positive net absorption and the tightest market in over a decade. Rental rates are soaring and tenants are competing for the few remaining well located, Class A spaces. Several projects completed construction over the year adding highly demanded Class A space to the market’s inventory. Midtown on Upper King Street is a mixed-use development offering approximately 19,600 square feet of office space. The development also includes a new dual-branded Hyatt House and Hyatt Place hotel and retail space. A 75,000-square-foot, Class A office building also delivered during the year in the Daniel Island submarket. Additional construction remains in high demand, but office developers face challenges given high land prices and competition from hotel and multifamily developers.

 

Greenville, South Carolina

The Greenville, SC office market continued to improve through 2015, ending the year with record-high rental rates and declining vacancy. Development activity is gaining popularity in the market with several new, redevelopment and adaptive reuse projects in the works. One Research Drive is nearing completion on the Clemson University International Center for Automotive Research (CU-ICAR) campus in suburban Greenville. The approximately 80,000-square-foot, Class A office building has 27,000 square feet remaining for lease. JTEKT recently announced that it will locate its North American headquarters in the building and plans to be fully operational during the first quarter of 2016. The announcement comes as a testament to the pro-business environment and talented labor force available in the region.

 

For more statewide commercial real estate news check out our market reports at: www.colliers.com/southcarolina/insights

To download the complete report: Q4 2015 Columbia Office Market Report.