COVER STORY, FEBRUARY 2009

MIDWEST CBD OFFICE UPDATE
A look at Central Business District office fundamentals in a collection of Midwest markets.
Compiled by Kevin Jeselnik

Milwaukee

In the fourth quarter of 2008, Milwaukee’s office market reflected the tumultuous conditions apparent throughout the U.S. economy, but from discussions with associates in other CB Richard Ellis offices, the city may be performing slightly better than others, since its office market is flat and not seeing negative absorption. In the current economy, flat is the new up.

A number of large lease transactions in the market were short-term renewals, with tenants awaiting better times and avoiding the cost necessary to relocate. However, a number of renewals proceeded according to plan and the downtown Class A market showed a slightly higher occupancy rate in the fourth quarter than the third quarter. Another trend is that there are a number of users in the market seeking rent reductions for 2009, but they are willing to extend their leases in exchange for an immediate reduction.

One bright spot is the approval by city of New Berlin of a new 60,000-square-foot, build-to-suit headquarters for United Heartland. The building is slated to be complete at the end of the year.

Milwaukee has not yet seen huge layoffs or the creation of a lot of new sublease space. The city is holding the line as we move forward in 2009.

William Bonifas is executive vice president in the Office Properties and Brokerage Services group for CB Richard Ellis in Milwaukee.

Chicago

The Chicago CBD office market is quickly becoming a buyer’s and lessor’s market, according to Ari Klein, senior vice president in the Chicago office of Grubb & Ellis.

“We have had some deals that indicate that it is starting to lean towards becoming a tenant’s market,” Klein says. “In real estate, when things happen, they happen quickly. When the market is getting tighter, owners are going to jack up rents. When the market goes the other way, rents often come down. It is becoming much more tenant favorable.”

A bright spot in the city is that there is not a lot of new space coming onto the market that doesn’t already have a commitment. The chart on this page (“Chicago CBD: Major Office Buildings Under Construction”) shows the significant amount of leased space that Chicago’s four newest office towers have as they move towards completion.

“Chicago has a good amount of new construction coming onto the market,” Klein admits. “But it is tenant-driven development, which is a good thing. Tenants are demanding newer, higher technological facilities. And while these buildings are coming on significantly pre-leased, those tenants are drawn from second-generation office buildings, leaving significant holes in the market. That is the greatest challenge facing Chicago landlords, and it puts a lot of downward pressure on rents in the buildings that have anchor tenants move out. These second-generation buildings [that have or will have large blocks of space available] are where the real opportunity is in today’s market.”

The remaining space in the new buildings may take some time to fill up, but Klein does not think that the rents the developers are asking for will be an obstacle for potential tenants.

“The tenants are willing to pay what they are willing to pay to go into these new buildings,” he says. “We have seen that time and time again. The landlords on the back end of these deals, in the older buildings, have a little time to fill the holes that will be left, because many of the moves are not taking place for another few years.”

As tenants vacate older Class A towers for these new facilities, landlords are eager to fill the space, even if it will not be available until 2011 or beyond. This desire is creating a trend in the marketplace that Klein is excited to turn his clients onto.

“It is important for the landlords to know this space is going to be leased, even if the lease term begins in 2012,” he says. “That allows tenants with lease expirations in 2012, and maybe even a little further, to leverage their landlords today.”

That leverage — which tells a current landlord that they may have the tenant’s commitment now, but not forever — brings the lease expiration closer and encourages landlords to negotiate extensions today.

“I love being able to communicate that trend to our clients,” Klein says. “There are abundant opportunities for tenants with good credit to renegotiate very early at good rates.”

There are other opportunities for office users that may want to relocate within the Chicago CBD this year. While a move is most often driven by a tenant’s need, it can sometimes come down to price. And if rental rates decline far enough, it will spur activity. While it is jump started by low rates, such activity is good for all involved as the industry deals with the lull in activity.

“I won’t say it is going to be a great year, but there will be some decent activity,” Klein explains. “Tenants with good businesses will have a chance to capitalize on current market conditions.”

Click here to download a high-resolution JPEG of the above Indianapolis chart.

©2009 France Publications, Inc. Duplication or reproduction of this article not permitted without authorization from France Publications, Inc. For information on reprints of this article contact Barbara Sherer at (630) 554-6054.