Mercer Commercial Real Estate - "On Sale"?

Mercer Business, Oct 2007 by Hill, Maggi S

As the old adage goes, numbers don't lie. And, according to the most recent reliable and widely disseminated numbers and analysis available, the regional commercial real estate market is, in a word, flat. However, it is important to look behind the numbers, both from a broader and also a historical perspective to obtain a clearer picture of the current and near-future prospects and likely trends in the coming months.

According to the highly-regarded Rutgers-Sitar Regional Report, published by the Edward J. Bloustein School of Planning and Public Policy at Rutgers University, by the second quarter of 2003, the vacancy rate for the direct total office market stood at 9.8% in Mercer County, with the average asking rent here at $24.58 per square foot. Net absorption was labeled "strongly negative", at - 18,417 by the end of the quarter.(1) Class A (the top tier of commercial office space) vacancies were running at 27.4%, and the net absorption rate a dismal -1.7 million-plus.

By the end of 2Q 2006, the direct vacancy rate had risen to 12.5%, and the average rent, which had risen by a couple of dollars in the interim period fell back to the same price of $24.58. The end of 2Q 2007 continued the trend but with a substantial jump in the vacancy rate, to 19.4%, but with an average asking rent rising to $31.21. The QTD absorption rate was - 61,060, with the Princeton market containing approximately 4.5 million square feet of vacant space, and the vacancy rate climbed about 18 percent.(2)

Meanwhile, nationwide, the office vacancy rate averaged about 12% by December 2006, and rose approximately a half a percent by the end of 2Q 2007 in the Philadelphia regional market.(3)

Despite the numbers, local commercial real estate professionals point to new incentives, Mercer's prime geographical location, as well as a diverse, highly skilled and educated labor pool as well as mass transit capabilities as attractive to potential tenants and buyers, which they feel confident will keep the commercial market viable and with continued growth.

"The Princeton Regional office market has the advantage of being a suburban area with a great quality of life, near major metropolitan centers, and with a base of 35 million square feet of space occupied by the top names in the corporate world,"says Aubrey Haines of Mercer Oak Realty. "That space is about evenly divided between owner-occupants and tenants. That means 17 million square feet of space is occupied by companies that have a very long-term view to their operations in the Princeton area. They also provide a client base for many of the service companies in the area that feed from the business flow from these larger owner-occupants. I have heard of no other suburban market in the US that has this high a percentage of owner-occupants."

Tom Romano of Newmark Knight Frank also expressed optimism. "We're not worried. In the past, we've seen blips and we always seem to rebound," he noted. "Developers who looked at this area two years ago saw a lack of Class A space in this market. At that time, most of the Class A space was 12-15 years old. Simultaneously, three developments on Route One and two on Route 95 were built on speculation, all Class A buildings. We have 600,000 square feet on Route One and 400,000 on Route 95, with deals on the horizon that will lead to as much as 50% absorption."

Haines echoed Romano's sentiment. "After the 1999-2000 boom, the market endured a cyclical correction. In the past six years, we have seen a very slow but steady improvement in absorption, the best indicator of market growth. There is sufficient tenant activity in the market to absorb all the new space if all the tenants landed at the same time. We project that the current positive market conditions will continue until the next market peak, which we believe will occur sometime in 2009 or 2010."

And while most experts would agree that speculative building is risky given the current financial markets and conservative lending climate, Jerry Fennelly, of NAI Fennelly said that he doesn't foresee a dramatic decrease in new office construction.

"Developers build for a future event in the office market," Fennelly noted. "Considering it takes 18 months to deliver a building, the developers make large bets that their location or product is superior and will lease faster than anyone else's. A lot has to do with the ability to achieve financing, which is tightening and more difficult to attain. Despite this, construction continues, although half as much as the previous cycle. Until the inventory is leased from this cycle it will be difficult to have rent appreciation. Compounded with the cost of replacement being 40% higher than five years ago, developers will slow their deliveries over the next 12 to 24 months due to the increased incentives and lower rate of returns."

Newmark Knight Frank's Steve Tolkach was more circumspect. "While we're seeing more people coming into the market locally than leaving it, we don't expect some developers to look in the Mercer County market to start a new building right now."