Although not quite as robust as the previous year, the Orange County office space market continues in a positive direction

As we are in the tenth year of expansion, some say the writing’s on the wall. That may be true, but the Orange County office space market has a unique set of fundamentals that have helped the area over-achieve when compared with the state and the rest of the country. Among the key factors that contribute to the county’s performance are a strong employee base (including a highly educated work force), a diverse business sector, an abundant amount of modern top-tier office product and a prime coastal Southern California location. These factors, among others, are why multiple Fortune 500 companies have a presence in Orange County. Almost 200 of them have offices located within the greater Irvine / Irvine Spectrum submarket. Companies such as Allergan, Western Digital, Pacific Life, Ingram Micro, Broadcom, and Spectrum Group International all call Orange County home.

Go “Figure”

The county’s continued positive direction is evident within the key fourth quarter statistics. We have 12-month deliveries of 1.0 million square feet with 200,000 square feet of net absorption. OC’s office vacancy rate at 11.23% still bodes better than our 10-year average of 12.47%. The rental growth, though below 2017, is still positive at 3.8% for the year. As you’d anticipate, Newport Beach still tops the “High Rent District” averaging $3.34 PSF (some “Top Shelf” properties are fetching north of $5.80 PSF). Unlike the single-business-sector bubbles of the past like the dot.com or mortgage waves, the vast business diversity in the Orange County office space market, including education, health services, life sciences, technology and professional services, ensures we won’t see a catastrophic market drop due to any single sector interruption. The conservative office development environment is also reassuring. Compared with previous years, a prudent 1.21 million square feet of office is under construction and this should help mitigate large vacancy / absorption swings we’ve seen from previous years. All said, if we are indeed nearing the end of an expansionary cycle, then at least the market fundamentals of Orange County make it strategically poised for a “soft landing” if not a modest continuation of the growth of the last 10 years.

MARKET OVERVIEW:

While our national economy continues to trend positively as we roll into 2019, the Orange County economy is leading the way with impressive growth trends across the board. As we approach the second longest expansion, there continue to be no signs of an imminent downturn; however, many are speculating one solely based on the length of prior cycles. Orange County’s labor market has been extremely tight since mid-2016, with the unemployment rate currently standing at 2.8% — creating challenges for many firms trying to expand. The Orange County office space market continues to be healthy. Occupiers continue to seek onsite amenities and attractive workspace so they can attract/retain talent. Another office trend is the coworking environment, attractive to large and small firms, which incorporates a collaborative work space and is an entirely different model than the historically traditional office environment. Landlords can continue to push rents and improve tenant retention by enhancing onsite amenities and services, while providing flexibility for their tenants.

Vacancy Rates

The vacancy rate has largely held stable as construction accelerates above the Orange County office space market’s historical average. Net absorption has picked up after a sluggish start to the year, helping to mitigate supply pressures. Vacancy in the Orange County office market was 11.23% at the end of the fourth quarter of 2018, down 40 basis points compared with the prior quarter, and up 5.55% compared to the previous year. Expect vacancy to trend downward in 2019, based on steady job growth and consumer confidence, coupled with many tenants in the market currently shopping for space.

Lease Rates

The average asking full-service gross (FSG) lease rate per month per square foot in the Orange County office market was $2.73 at the end of the fourth quarter, a 3.80% increase from this time last year and a $0.01 increase from the third quarter. The highest rates were in the Airport Area Class A buildings where rental rates averaged $3.11. Anticipate asking rental rates in Orange County to continue to modestly rise throughout 2019 based on the strong level of current demand from a variety of industries.

Transaction Activity

The fundamental demand driver is the healthy economy. The strong employment base maintained by a diverse tech field and financial and business services provides stability that was not present during the recent past. In the fourth quarter 2018, 4.77 million square feet of total transactions (sale and lease) were recorded, up from just over 3.88 million in the third  quarter. The healthy level of activity during the fourth quarter offers a reminder that the Orange County office market remains on solid footing.

Economy

The unemployment rate in Orange County was 2.8% in November of 2018, down from a revised 2.9% in October 2018, and below the year-ago estimate of 3.1%. This compares with an unadjusted unemployment rate of 3.9% for California and 3.5% for the nation during the same period. The professional and business services sectors propel the economy. Orange County is also the third-most diverse high-tech sector in the nation, behind only San Jose and San Diego. Almost 200 Fortune 500 companies have space in one of the Irvine submarkets, and innovation firms including Blizzard Entertainment, Broadcom, Edwards Lifesciences, and Google have a significant footprint in Orange County.

Construction

Since 2014, more than 4.7 million square feet has been delivered in the Orange County office space market. More than 57% of that, or 2.7 million square feet of space, is within South Orange County. Some of South Orange County’s most notable speculative projects have delivered in Irvine Spectrum. Total space under construction checked in at 1,215,520 square feet at the end of the fourth quarter 2018 with the most notable from Lincoln Property’s Flight @ Tustin Legacy, a spec project that is expected to start delivering at the beginning of 2019. In Irvine, the redevelopment of the former warehouse at 2722 Michelson should wrap up by the second quarter of 2019, with 155,000 square feet of new space, already committed to from Anduril, and Spectrum Terrace, 352,511 square feet, an ultra-modern campus nestled on 73 acres of open space in the heart of SoCal’s innovation hub.

Absorption

A growing number of successful companies are strategically downsizing to save money, improve collaboration, and boost productivity. During 2019, expect demand for office space to remain steady due to new hiring demands offset by implementation of more efficient layouts. Orange County is a hub for a diverse base of employers, including those in tech, healthcare, and finance. With one quarter of negative absorption during 2018, the office market prospers, having experienced 240,267 square feet of positive absorption for the year, while vacancy decreased slightly and asking rents increased.

FORECAST:
Lease Rates

Expect an overall modest increase in pricing in the coming quarters. We expect the average asking lease rates to increase by 3% over the next year. Steady demand for office space is pushing up rents in Class A buildings in all Orange County cities. Rents for Class A office space in the Orange County office space market are forecast to rise 3% this year, to $3.21 per square foot.

Vacancy

Across the Orange County office space market, net absorption was negative in the fourth quarter, increasing the overall vacancy rate. Tenants continued to downsize their space, while other industries like business services, nonprofits, and coworking companies have increased demand for space. With the availability of existing office space declining, we expect the vacancy rate to drop to 11% by year end.

Overall

The Orange County economy remains strong and poised to continue its momentum though 2019. According to the Chapman University forecast, California continues to generate more job growth than the rest of the country, 2.0% versus 1.6% for the United States. That trend will be slightly stronger in Orange County. Chapman predicts Orange County’s job growth will be 2.2% this year, a net increase of 35,000 jobs. Between job growth and a low unemployment rate, the Orange County office market looks healthy and prepared to continue thriving.

For more information on the Orange County office space market and how to capitalize on real estate opportunities to grow your business, contact Stefan Rogers 949.263.5362 / srogers@voitco.com.

Click HERE to download Voit’s Q4 2018 Orange County Office Space Market Report.