Friday, July 8, 2011

Tenants Jump into Office Market Early

by Natalie Kostelni

"Morgan Lewis & Bockius’ lease at 1701 Market St. isn’t scheduled to expire for another three years but the prominent law firm is already evaluating its options in the Center City office market.

“It’s not so early,” said Eric Stern, a partner at Morgan Lewis who is head of its real estate department. “In the world of big leases, three years is certainly not too early to be looking around. … We’ve got to be out in front of it. You simply can’t wait until the 11th hour.”

Morgan Lewis, which occupies 280,000 square feet at 1701 Market, isn’t alone.

Nine big downtown office tenants totaling more than 1.5 million square feet — enough to fill Comcast Center and then some — have started to have early conversations about their office prospects and begun to assess what space is or, what they fear, isn’t available. In some cases, such as Morgan Lewis, leases don’t run out until 2014. For others, it’s five years out.

Companies get an early start on office searches for multiple reasons.

“The market for good trophy-class space is fairly tight so if tenants want to do something there aren’t many blocks out there. In some cases, staying put may be the only option.”

Some options available for top-tier contiguous blocks of office space include Three Logan, 1818 Market, Centre Square, and some pockets in Commerce Square. Three Logan is close to cinching up a couple of large deals that could make it less of an alternative.

“There are times going into the market five years early makes sense, and that’s why it seems there are so many tenants looking.” Sometimes lease expirations some times come in bunches. “Today, there are so few places to put a 200,000-square-foot tenant that a lot are getting an early start for fear there aren’t going to be places available for them,”

The Center City office market has steadily been improving this year.

Vacancy has edged down to 14 percent at the end of the second quarter from 14.9 percent during the same period last year with positive absorption of 87,293 square feet of office space. It has experienced three consecutive quarters of increases in office occupancy and a resurgence of tenant demand, particularly for Class A space, according to the research. Eventually, rents will rise and tenants will no longer be driving deals, which is why some firms are trying to seize on current market conditions.

Even as big blocks are scarce and the Central Business District begins to tighten, the market can unexpectedly shift.

“People panic but things happen to free up Class A office space,” citing GlaxoSmithKline moving to the Navy Yard, Wolf Block going under, Unisys Corp. never moving into One Liberty Place and Day & Zimmermann relocating from 1818 Market St. to 1500 Spring Garden St.

Some tenants are starting out a tad too early. Two years is typically adequate to conduct a comprehensive search and three to three-and-a-half years for moving into new construction, noting no new office tower is on the horizon. It’s also difficult to predict where tenants land and possibly open up offices that had not been available. Such moves can trigger something akin to a checkers match among tenants and buildings.

Others try to get a jump on lease negotiations to use to their advantage.

“Some of it may be to create leverage with a current landlord if you threaten to leave.”

Large lease transactions these days take much longer than they used to, Stern of Morgan Lewis said. Aside from planning and designing space and negotiating lease terms, lenders are more involved than ever.

“The prominence of the lender’s role in the long-term disposition of space in a building is far greater today than it was five years ago and adds to the time for planning for a renewal or a new lease,” Stern said.

Though Stern didn’t address it, by being out in front of its lease situation Morgan Lewis is trying to ensure against a repeat of what ensnared the firm when it moved into 1701 Market. The firm had been at One Logan Square and its lease was scheduled to expire August 1998. It let an August 1996 deadline to renew at One Logan lapse as it tried to negotiate lower rents and other issues with the landlord. It wanted to stay at One Logan but after an arbitration and a series of other unforeseen events, reluctantly relocated to 1601 Market in the fall of 1998."

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