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The downtown commercial real estate market took a hit, but suburban office and industrial markets are thriving, studies find

PMG FILE PHOTO - Block 216 is one of the few major sites expected to provide new office space to the metro area by 2023.Portland's market for downtown office space continues to struggle amid ongoing uncertainty about the pandemic's impact on returns to working in offices, and the city's tarnished reputation as an unsafe place for businesses.

At the same time, the suburban market for office space continues to thrive, as does industrial space in and around the metro area, and both are expected to remain strong throughout this year, according to a pair of reports on real estate market performance in the fourth quarter of 2021.

With the majority of office employees still working from home, even more so now because of the highly contagious Omicron variant, leasing in the urban core in the fourth quarter was down 15.1% year over year. Average asking rents in the central business district are down 3.1% year over year, and the urban core remains the hardest hit with 70% of the metro's occupancy losses in 2021, Portland-based JLL property agency reported.

COURTESY PHOTO - Tim Harrison, research manager at JLL Portland.Tim Harrison, research manager at JLL Portland, said construction delivery added to the negative impacts of the pandemic, civil unrest and safety concerns that have plagued the market for the last couple of years.

"What we saw was a lot of smaller and medium-sized companies, and especially in tech, put their decisions on hold until we're over the hump," Harrison said. "A lot of them went into work-at-home mode and let their leases expire."

Impacts on the market

Scott Murphy, executive vice president and shareholder at Portland-based Kidder Mathews commercial real estate firm, noted that break-ins and vandalism at downtown businesses, and business owners' ensuing concerns for their employees' safety, are impacting not only the central business district's attractiveness to business owners but also property owners and investors.COURTESY PHOTO - Scott Murphy, executive vice president and shareholder at Kidder Mathews.

"Investors are very aware of what's going on in Portland and it's a consideration in every one of their decisions right now. It's impacting values, and business owners would prefer to be moving out rather than moving in right now," Murphy said. "It's affecting real estate and decisions about where companies want to work and live, and these are the people who provide jobs. They're not going to make long-term commitments until those issues are addressed."

Kidder Mathews' report for the fourth quarter of 2021 shows office direct vacancies have increased by more than 20% year over year to 11.2% to conclude the fourth quarter. Asking lease rates remained stable at $28 per square foot as landlords offered concessions in order to maintain rental rates. Office sales fell to 74 transactions during the fourth quarter, averaging $241.83 per square foot with cap rates settling at 6%, the report shows.

Major projects underway in Portland include 503 on Tenth and Block 216, for a total of 812.755 square feet under construction. The office space in Block 216 is represented by Kidder Mathews, The Portland Tribune previously reported. With minimal construction in the pipeline for 2022, Kidder Mathews predicts downward pressure on availabilities as tenants absorb existing inventory.

Murphy and Harrison agreed that new taxes such as the Preschool for All and Portland Metro Supportive Housing Services income taxes are impacting the office market as well.

"The City of Portland and Multnomah County have passed quite a number of taxes on employees over the last 18 months, so there is a big benefit to living outside of Multnomah County. That's a part of the conversation in my world every day," Murphy said.

Optimistic for 2022-23

Harrison said he is optimistic that companies that let their leases expire over the last couple of years will likely renew them as more employees return to the office. The JLL report pointed to a few bright spots in 2021, including Ampere's growth into the urban core's fifth largest tech tenant and On Running filling another floor in Tanner Point. Tanner Point being fully leased showcases the increased demand for office space in the Pearl and Northwest submarkets from companies looking for a safer location and better parking options, JLL's report states.

"We do expect a much better performance for the downtown core in 2022 and 2023," Harrison said. "We've had two years of pretty rough data, but if you look at the signs there are green shoots and there are companies now that are signing longer-term deals and renewing their space."PMG FILE PHOTO - Office rents at Kruse Way in Lake Oswego increased 10% in the fourth quarter of 2021, due to rising demand for suburban office space.

Suburban office markets such as Kruse Way and the Sunset Corridor are benefitting from tenants looking outside the central business district. Rents in Kruse Way rose by 10% in the fourth quarter of 2021, the report found. Trends from markets leading a return to the office suggest that there is currently a flight to quality with newer, well-located assets outperforming commodity and Class B&C buildings, according to JLL's report.

As companies look to bring their employees back to the office, buildings that are able to offer access to amenities such as childcare, multiple food options, entertainment and an adequate amount of parking and safety are likely to perform well in the coming months.

"Right now it's an employees' market, so as a company you've got to do everything you can to attract those employees to come work for you. One way to do that is with real estate," Harrison said.

Industrial demand

Portland's industrial real estate market has never been stronger, Murphy noted, adding that it is attracting historically high rents and its lowest vacancy at 3%. The market carried its gains from the fourth quarter of 2021 and is expected to stay strong throughout 2022.

"The uptick in e-commerce is a driver and that will continue," Murphy said. "Every time that number goes up the need for warehouse space is higher, and more stuff is being kept under a warehouse roof than under a retail roof."

Logistics companies also are driving demand, and leasing activity climbed 15.6% from 9.9 million square feet in 2020 to 11.4 million square feet in 2021. The most active submarket clusters for the year were Southeast Portland and the I-5 corridor with 35.8 million square feet and 29.4 million square feet, respectively.

Direct vacancy rates decreased from 22.4%, from 4% in 2020 to 3.2% in 2021. Sales volume dropped 24.2% year over year from 10.4 million square feet in 2020 to 7.9 million square feet in 2021.

Kidder Mathews reported that 4.9 million square feet of industrial space is under construction, and another 1.8 million was completed last year. The Bridgepoint 1-5 development added 677,568 square feet to the Airport Way submarket. Portside Industrial Park added 192,960 square feet to the CBD/West Vancouver submarket. Transportation and warehousing jobs also rose 4.1% year to year to 231,200 jobs.

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