HEARTLAND SNAPSHOT, MAY 2010

Chicago Office Market

The Chicago office market is suffering on the heels of massive job loss, with the greatest fallout in the suburbs. Falling employment directly correlates with falling occupancy as companies require less space. Total employment in the Chicago/Joliet/Naperville, Illinois/Indiana/Wisconsin metropolitan statistical area (MSA) has decreased 7.9 percent since peaking in January 2008. More importantly, employment in the financial and business/professional services sectors has fallen 15.3 percent since peaking in August 2007.

Despite the dismal employment figures, occupancy has only dropped off 1.2 percent in Chicago’s central business district (CBD) and 5.6 percent in the suburbs. This indicates that significant negative absorption is expected to continue as companies align leased space with a reduced workforce. The performance of the office market will lag behind the rebound in the overall economy as long-term lease contracts keep companies from adjusting immediately.

Nonetheless, there are reasons to be optimistic especially in the CBD. Companies have taken a more conservative approach to space planning in order to minimize the risk of carrying underutilized space that would eventually need to be eliminated as leases expire. Also, Chicago’s CBD is becoming more desirable than the suburbs due to its superior transportation access and appeal to a younger workforce. The CBD has been effective in securing new tenants from the suburbs, such as United Airlines, which leased 450,000 square feet at Willis Tower in the fourth quarter of 2009.

The migration of companies to the CBD has brought suburban vacancy to a high level and is expected to rise, as companies reduce footprints, consolidate offices or move out completely. According to MB Real Estate’s Chicago Market Overview, the direct vacancy rate was 16 percent in the CBD and 20.6 in the suburbs at the end of the first quarter. Though there is considerable sublease space available in the CBD and suburbs, the total amount of sublease space has reduced since the end of last year indicating a positive turn in the market.

Though suburban leasing activity increased in the first quarter, the affects on long-term vacancy rates are minimal. Career Education Corporation leased 317,200 square feet at 231 North Martingale Road in Schaumburg, though it will not increase occupancy over the long term as they will be vacating 450,000 square feet in multiple office buildings by the end of the year. A 150,120-square-foot lease at 200 North Martingale Road by the Federal Deposit Insurance Company (FDIC) represents new occupancy and is attributable to much of the positive demand in the submarket. However, FDIC only signed a 3-year lease to deal with current Midwest bank failures.

In the CBD, large deals did not generate much new demand. Two tenants signed direct leases after subleasing Citadel’s space at UBS Tower at 1 North Wacker Drive where Barnes & Thornburg and Northwestern Mutual leased 83,000 and 50,342 square feet, respectively. Other transactions include Kaplan Inc. leasing 76,515 square feet at 225 West Wacker Drive, but consolidating multiple locations, and Ronin Capital leasing approximately 72,000 square feet at 350 West Mart Center.

When strong demand returned to the market in 2006 after the 2001 recession, developers moved to capitalize on it. Speculative construction broke ground, with much of it not delivering until the economy began to falter in 2008. Since then, constrained financing and falling demand have halted construction in the Chicago MSA. No projects are scheduled to break ground in the CBD and limited build-to-suit projects are breaking ground in the suburbs, including a 110,000-square-foot headquarters for General Board of Pension and Health Benefits of The United Methodist Church and Astellas US LLC’s 440,000-square-foot project in Glenview, both developed by MB Real Estate.

There are more than 100 additional proposed buildings in suburban Chicago, but have little chance of breaking ground in current market conditions. Though the suburbs continue to struggle, it is poised to handle the demand for new supply once the market recovers.

— Andrew Davidson is executive vice president and managing director of Tenant Advisory & Corporate Services with MB Real Estate in Chicago.

©2010 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.