Expect more of the same this year in the Louisville office market, two local experts told Insider Louisville, as rental rates climb in a tight environment and outside investors look for acquisition targets.
The absorption rate — or the rate at which office space is occupied — will keep steadily rising, while the overall vacancy rate will continue its slow decline, according to the experts. Despite dropping slightly in 2016, rental rates for offices are expected to increase in Louisville as well.
2017 “will be a continuation of those trends,” said David Hardy, managing director of CBRE‘s Louisville office. “I think rental rates will continue to firm up as demand remains high.”
Also, expect additional office property acquisitions this year as more out-of-town investors see value in the Louisville market, said Doug Owen, senior vice president of office brokerage for Jones Lang LaSalle in Louisville.
“Louisville is a viable market for out-of-state investors,” he said.
Both CBRE and JLL recently released reports that looked at the Louisville office market’s performance during the fourth quarter and the year as a whole.
In 2016, 11 office properties sold for a total price of more than $150 million, according to the JLL report. Acquisitions in 2016 included the $30.4 million sale of Hurstbourne Business Center and the $20.6 million sale of Spring River Business Park.
“The acquisitions we’ve seen as of late are opportunistic because you can’t get the value in the larger markets that you can in Louisville,” Owen said. “Out-of-town investors see opportunity here, and they see lower risk.”
However, he noted, acquisitions will continue only as long as building owners are willing to sell. Because of the strong market, office building owners may be more inclined to hold their properties.
Suburban versus downtown offices
The suburban office market absorbed 329,700 square feet in 2016, and downtown only absorbed 33,112 square feet, according to the separate reports from CBRE and JLL.
Occupancy rates and demand have always remained high in suburban neighborhoods, Hardy said.
As an example, he noted that the first two office buildings at University of Louisville’s Shelbyhurst campus were mostly leased before they opened. “That’s a very strong sign of the market,” he said.
The third Shelbyhurst office building hasn’t done as well as the first two, which could indicate that the suburban office market may be cooling, Hardy said, but he doesn’t see it as an indicator of a major decline.
In fact, Hardy argued that more new office construction is needed to handle the current demand in suburban markets.
Developers are breaking ground on at least three Class A office buildings in the suburbs this year, but they won’t come online until 2018 “so it doesn’t really solve anybody’s problems for this year,” he said.
The amount of growth Louisville is seeing, including the development of new hotel and apartment projects, as well as the strong industrial market, may help bolster development of more office buildings, Hardy said, particularly if the city can successful attract new companies.
“Things are happening here, and that paves the way for new investors to test out the markets,” he said. And “we are hopeful with some of the pro-business dynamics at the state capital right now that that helps us recruit new businesses.”
Less available office inventory in the suburbs could become a positive for Louisville’s downtown office market. The downtown market is more capable of accommodating companies that need a lot of square footage, and the development of downtown during the last several years has made the Central Business District a more appealing place to operate, he said.
“There is transformation and opportunity,” Owen said, pointing to the Omni Hotel Louisville and convention center renovation.
Rental rates also are cheaper downtown because demand historically hasn’t been as high, he said, adding, however, that the rental prices are probably about even in many cases because companies must pay for parking downtown.
Still downtown, “there’s a good chance that I as a tenant would be able to strike a more aggressive deal,” Owen said.
The average rental rate in the suburbs for Class A office space is $20.96 per square feet compared with $19.37 per square feet downtown, CBRE reported. JLL’s report had slightly different numbers — $22.12 per square feet in the suburbs compared with $19.42 per square feet downtown.
The Central Business District is growing, and downtown office building owners are putting in amenities, including large conference centers, fitness centers, bike racks and break rooms with televisions and Wi-Fi, to entice tenants.
“Companies are evaluating what positives the building can add to their employees,” Owen said. “Now the question is: Why not go downtown? We continue to see new restaurants, new shops opening almost on a monthly basis.”
Being located downtown also can serve as a tool to help companies attract and retain young talent.
“Increases in millennials working in metros could drive a shift toward downtown as companies are looking to attract the younger workforce and create a place where younger people want to work,” Hardy said. “It’s a totally different vibe to be a downtown tenant, and a very good vibe.”
Despite the momentum downtown, the vacancy rate in the Central Business District is expected to tick up this year as PNC Bank will officially move out of PNC Plaza on Jefferson Street and consolidate all of its operations in National City Tower.
“That certainly was not great news in a downtown that has endured the loss of the several anchor tenants,” Hardy said.
Owen was less concerned about the shift, saying that with all the construction activity downtown, the building could be purchased and renovated or redeveloped into something other than offices.
“It could be a real attractive option,” he said.