The Real Estate Quarterly: Storage Surge – Subleasing Space Soars

October 17, 2022
Posted in News
October 17, 2022 veps

Subleasing hit an all-time high in the greater Los Angeles office market’s third quarter, with companies like Netflix Inc. in Burbank giving back large amounts of space. The streaming giant is listing more than 66,000 square feet at 2350 W. Empire Ave. and more than 121,000 square feet at 2400 W. Empire Ave.

The total 187,794-square-foot figure is staggering, overshadowing the 150,000 square feet at 2300 W. Empire Ave. that Netflix leased for its first-ever animation studio.

According to Savills’ third-quarter office market report, available sublease space has reached a historic high of 9.6 million square feet. That’s up from 9 million square feet last quarter and 8.2 million square feet this time last year.

“There are still a lot of firms who haven’t mandated a return to the office as yet,” said Dain Fedora, Newmark Group Inc.’s vice president of research for Southern California.
According to Fedora, Netflix was not the only company shedding space during the quarter.

Paypal Honey in downtown L.A. put up its entire 132,000 square feet of its Arts District headquarters for subleasing, and in the same submarket Herbalife listed 92,000 square feet.

“Downtown is one of the most challenged submarkets,” Fedora said. “The homeless population is large, and that’s giving pause to employees returning to the office.”
All3Media in Culver City, meanwhile, put up 92,000 square feet on the block and Symantec-owned NortonLifeLock posted 66,000 square feet, also in Culver City.

In other markets, ServiceTitan in Glendale listed 72,000 square feet and in the South Bay, Navitas Semiconductor offered up 49,336 square feet for sublease.

Mike Soto, director of research at Savills, noted that this third-quarter activity was preceded in the previous months by Yahoo, which listed 130,000 square feet in Playa Vista, and Farmers Insurance, which is subleasing its two-building headquarters in Woodland Hills, totaling a staggering 550,000 square feet.

“We’ve never seen sublease space this high,” Soto said. “If the space isn’t leased or subleased, the lease term’s just going to expire and it’s going to become directly vacant to the landlord. This is why high sublease space worries landlords.”

While there is a record-high amount of available sublease space on the market right now, most office landlords have not dropped their asking rents as of yet.

“The reason is because a lot of landlords would prefer to give higher concessions such as free rent and tenant improvement allowances in order to hold their face rents,” Soto said. “However, as higher availability eventually leads to higher vacancy levels, the downward pressure on asking and effective rents will become more pronounced as landlords become even more aggressive at chasing occupancy.”

No takers
But just because these companies are offering their space for subleasing doesn’t mean there’ve been many takers.

“There’s just been very few subleasing offerings that’s been leased,” Soto said. “Most sublease space is just not moving. Your average sublease space sitting on the market is over a year now.”

According to Savills’ research, the overall average asking rental rate decreased yet again from the $3.87 per square foot per month reported last quarter to $3.86 per square foot this quarter in L.A. County. The Class A average asking rental rate also decreased this quarter to $4.06 per square foot from the $4.07 per square foot as tenant flight to quality has caused higher-priced trophy space to be leased, leaving more lower-priced commodity class A-/B space on the market.

“Those companies that are looking for space, a lot of them are looking for direct space in the best buildings in the best submarket,” Soto said. “Everything else is just sitting.”
In Los Angeles, Soto is observing an office market bifurcated between companies that want to go to trophy buildings and the rest.

“You’re seeing the spread widening between Class A rents and everything else,” Soto said. “A lot of the leasing is still going into the skyscrapers.”
Leasing demand remains lower than it was pre-pandemic.

“We thought sublease space was plateauing and there was a lot of cautious optimism, Covid was behind us and everyone is going back to the office,” Soto said.
However, the return to office has not made a full comeback amid the rise of the hybrid workplace, Soto said.

“Weekly office occupancy has gone up, but it’s still way below pre-pandemic levels,” Soto said. “Companies are having trouble getting employees back to the office. We went through two years of people getting used to working from home. In the meantime, we’re seeing subleasing space continuing to go up.”

“When it comes to the return to the office, especially with tech firms, they haven’t announced the return plan like they used to,” Fedora added. “Why are companies not advertising their return plans? Apple announced their plan last year and it opened up to a backlash in the social sphere.”

Tech slowdown
Soto believes that technology companies are partially behind the third-quarter results.
“The tech sector has cooled,” Soto said. “So much of the leasing nationally has been tech companies taking tons of space left and right. You’ve seen a lot of headline news of Facebook slowing their hiring and about to have layoffs, Google, Microsoft. A lot of these companies have slowed their hiring.”

Some of these tech companies may have over-hired, especially during the pandemic.
“When that tech-sector leasing cools, it reverberates throughout the rest of the leasing market,” Soto said. “When we went into lockdown and then the economy was slowly reopening and people were kind of slowly coming back to the office, everyone thought that all of this sublease space would be the first space leased because it’s all built out, it’s already furnished, some of the lease terms left on the lease were short term. And subleased space a lot of times is cheaper than direct space.”

Soto said that a level of apprehension is permeating the market.

“Most people are cautiously optimistic, but there’s a lot more economic uncertainty today than there was six or 12 months ago,” Soto said.

It remains to be seen how the office market will be further impacted.

“Everything’s based on the economy,” Soto said. “The unemployment rate is still historically low, job growth still continues to be steady. Are higher interest rates going to cause the economy to slow or cause the housing market to crash?”

Meanwhile, office rents all over the country continue to be near historic highs, which may seem counterintuitive.

“Usually when your availability is high, your rents drop,” Soto said. “But the rents have held up for now.”

As for the subleasing deluge, Soto said, “This isn’t over yet.”

source: labusinessjournal