Landlords Sweeten Pot for Renters
LANDLORDS SWEETEN POT FOR RENTERS: Office Owners are Slashing Rents, Increasing Incentives to Hold On to Tenants
Original Link: http://online.wsj.com/article/SB125668904222811971.html
Post Date: October 28, 2009
Some of the country’s top office-building owners reported they are cutting rents and increasing tenant incentives to keep buildings filled during one of the worst commercial real-estate markets in decades.
Bloomberg NewsBoston Properties, which owns the GM Building in New York, above, said new tenants are paying 17% less in gross rents.
Boston Properties Inc., owner of the GM Building in Manhattan and other trophy properties, reported Tuesday, after the market closed, that new tenants are paying 17% less in gross rents than the prior tenants who had occupied that space. Boston Properties also reported that occupancy of its total portfolio, which includes 146 properties, declined 2.4 percentage points, to 92.1%, compared with the end of 2008.
The results follow similar releases Monday by SL Green Realty Corp., one of New York’s largest office landlords, and Liberty Property Trust, of Malvern, Pa., which owns more than 700 properties, including office and manufacturing. Their funds from operations, a closely watched metric in the real-estate industry, declined 28% and 10%, respectively, in the third quarter compared with the same period last year.
“While competitive market occupancies continue to erode, we may be seeing the first signs of what will, with no doubt, be a slow market recovery,” said Bill Hankowsky, Liberty’s chief executive.
The office market is getting pounded by the economic downturn as businesses shed workers and put off leasing decisions. In the third quarter, companies vacated 19.6 million square feet of space throughout the country, the equivalent of more than six Empire State Buildings, according to Reis Inc.
Boston Properties reported that third-quarter revenue rose 5.7% to $377.3 million compared with $357 million in the same period in 2008. SL Green’s revenue declined 7%, to $249.6 million, and Liberty’s rose 2.7%, to $187.5 million.
Problems may be on the way. Office buildings often don’t show financial strain in the early stages of a downturn because they are occupied by tenants who have signed long-term leases. As long as the tenants stay in business, their landlords can even see revenue increases because of escalation clauses in their contracts.
The pain starts hitting when leases expire. In tough markets, landlords typically have to spend a lot to retain or attract tenants through brokerage commissions or incentives such as free rent or interior construction. The cost of attracting tenants is a factor that is cutting into funds from operations.
Also, because rents have declined in most major markets, new leases carry lower rents than the leases that are expiring. Nationwide, effective office rents fell 8.5% in the third quarter compared with the same period in 2008, according to Reis. Effective rents take into account the cost of free rent and other tenant incentives.
SL Green during the third quarter beefed up tenant incentives, adding nearly an extra month of free rent, to 6.9 months, and offered new lease signers a construction allowance of $56.19 a square foot, up $23 from the third quarter of 2008. The company said average starting Manhattan rents were $47.31 a square foot, down from $66.78 during the same period last year. Also, the company signed 11 fewer leases in New York during the third quarter compared with a year ago.
“We already knew rents were down, and here is the proof,” said Michael Knott, an analyst at Green Street Advisors.
SL Green Chief Executive Marc Holliday said during an earnings call Tuesday that rents have dropped so steeply partly because there is a large inventory of high-quality sublease space available for leases over 10 years. He predicted that market conditions will improve once that sublease inventory is absorbed. He also said he expected a turnaround in the second half of 2010.
In 4 p.m. composite trading on the New York Stock Exchange, Liberty’s and SL Green’s shares were down 4.2% and 5.3%, respectively.
Victor Calanog, director of research at Reis, said the drop in rents