Non-Residential

Opinion: Too much space, too few tenants

Federal downsizing, shrinking workplaces, taking toll on downtown office market

August 6, 2013

Ever since I started to work in Ottawa’s commercial real estate market in 2000, there’s been one constant: high downtown rents.

With the exception of the mid-’90s recession, demand for downtown space located close to our country’s seat of power has remained more or less steady.

But that has all changed. The available tenant pool is shrinking and supply is quickly outpacing demand.

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The federal government, having already laid off thousands of local government employees, continues to put more people into less space as part of an ongoing effort to create greener and more collaborative office space through a standard dubbed “Workplace 2.0.”

The shrinking government office is hastening the reduction of the public sector’s footprint of leased space, which historically has been predominantly concentrated downtown.

This practice is also prevalent in the private sector due to efficiencies in workplace furniture and design. Tenants generally take the opportunity to discard older, bulkier desks for newer and smaller workstations every time they relocate.

As a further cost-saving practice, more organizations are allowing for or insisting that some employees work all or a portion of their week from home.

As a result, high-quality office space is gathering dust due to lack of demand. In many cases, the space has been empty for more than two years.

How bad is it? Consider some interesting statistics: There are now 15 buildings in the downtown core with more than 20 per cent of the property advertised as available for lease. Within that pool there are nine that sit above 25 per cent and two that are more than 90 per cent vacant or completely empty.

At any given point during the last decade, Ottawa’s landlords were typically marketing roughly three large pockets of downtown space of more than 50,000 square feet. Now there are eight.

On the smaller end of the spectrum, there are normally an average of 40 downtown spaces between 2,000 and 4,000 square feet advertised for lease. There are currently 62. It doesn’t take a rocket scientist to understand that when the amount of vacant space on the market increases, rents inevitably fall.

What does this mean for downtown tenants? Cresa Ottawa predicts the downtown market will soften over the next two to three years. It could stretch even longer without a surprise hiring spree from employers.

Over the last 10 to 15 years, average class-A office net effective rents – the rent the landlord has left over after taking tenant inducements into account – ranged from the mid- to high $20s, per square foot per year. That will sink to the mid-teens within the next six months, resulting in as much as a 40 per cent reduction for local tenants.

While few actual deals are being completed in the current climate, tenants with strong balance sheets are receiving tremendous financial incentives well in excess of what they could have commanded even as recently as six months ago.

This will only continue as those landlords try to buy a tenant’s affection by throwing money at them and lowering rents. Already, some class-A landlords are offering steep discounts to reach into the class-B and C tenant pools and attract organizations that historically could not afford to be in their buildings.

As the reality of reduced government spending persists and the trend of office space rationalization continues, Ottawa faces the real possibility that the supply of available space will outpace the local economy’s ability to absorb it in the short and medium term. There are simply too many options.

So what do landlords do when the tools they’ve been using for the past 20 years fail to attract tenants? What if there aren’t enough tenants to go around? What does a leasing agent do when they put forward terms they hope will be too good to refuse only to find out they haven’t made the tenant’s short list? How low must their rent go, and how much cash must they spend, in order to fill their buildings? What if they don’t have the money to spend?

These are the hard questions that many landlords are dealing with at the moment and, unless something changes, the answers will likely be bitter pills to swallow.

Darren Fleming is managing principal of Cresa Ottawa.

SIDEBAR: SPACE FOR LEASE

Performance Court

(150 Elgin St.)

Built: 2014 (currently under construction)

Class: A

Total office area: 345,482 sq. ft.

Available space: 188,650 sq. ft.

Availability rate: 54.6%

Constitution Square Tower II

(350 Albert St.)

Built: 1992