Although, in the first quarter, Los Angeles’ technology and media companies led workspace demand amid record-high rents, with West L.A. remaining the region’s hub for tech and entertainment interest, the coronavirus outbreak has put pressure on the metro’s office market, according to a recent Newmark Knight Frank report. Overall, the research shows decelerating leasing market conditions.
In an interview with Commercial Property Executive, NKF Senior Managing Director Jennifer Frisk and Executive Managing Director Ryan Harding discuss L.A.’s office leasing market and the impact of the health crisis so far.
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How have tenants’ needs changed in recent months?
Harding: While tenants’ needs are ever changing, the COVID-19 crisis presents a new construct of what office space utilization is and will become. While it varies from client to client, common priorities during this time include assessing balance sheets and implementing measures accordingly, such as rent deferment and focusing on space utilization to align with the Centers for Disease Control and Prevention’s guidelines upon the reopening of their offices. Physical office spaces will change—some substantially—in a cost-effective, health-conscious manner and with the current and future state in mind.
What is the most challenging part of L.A.’s office leasing market today? How do you manage it?
Frisk: As tenants focus on their business and evaluate the current environment to gain more certainty around their decisions, we are committed to helping our clients create the most value out of new and existing space, by taking a diagnostic measurable approach. As a whole, transactional volume is substantially down, though many tenants are signing short-term renewals if their leases come due, and taking a wait-and-see approach before making a long-term commitment. Yet, we have seen longer-term commitments from a few larger household-name clients.
How has the pandemic impacted office leasing in the metro?
Harding: Commercial real estate generally lags the economy by six to nine months and while we have not seen a change in asking rents at this time, strike rates and landlord concessions are shifting. As many companies have taken a pause, the pace of transactions is in line with the current state of the market, and there are still lease transactions occurring, depending on the company and industry.
Although it is too soon to forecast what the distant future holds, we believe strike rates will decrease by at least 10 percent for any active or near-term transactions, and landlord concessions such as flexible rent negotiations and tenant improvement dollars will increase. Los Angeles is and will remain the entertainment capital of the world with a tremendous amount of investment money and wealth in this county—factors that will likely help this market move, react and recover quicker than others.
What type of office spaces are most in demand in L.A. now? How do you think this will change in the future?
Frisk: Before COVID-19, companies desired creative, collaborative and relatively open spaces with walkable amenities. Oftentimes, this meant that spaces became increasingly populated with as little as 100 square feet allocated per person. De-densification is now top of mind as a result of the pandemic. In the short term, companies may prefer smaller, campus-style projects where tenants are spread out, as opposed to the densification that comes with a high-rise office building, for example.
Landlords that are actively working with their tenants to find mutually acceptable strategies and terms that are fitting for both parties are better positioned than those that are not. Even in a downturn, there are opportunities for tenants and landlords when they communicate.
Do you see more demand for coworking or flexible spaces? What should we expect in the future regarding this office sector?
Frisk: Not yet, not for the flexible layouts of pre-COVID-19 life. We do anticipate a need for flex space. However, as companies continue to create more flexible work-from-home policies, employees will still want the home component to be somewhere other than their house. The coworking model will evolve as social distancing is prioritized, just as it will for the traditional office model. It will look and feel different, but it will remain for the foreseeable future.
What role will safety play in executing new leases in the future? Will it take priority over amenities?
Frisk: Safety and health are the top priorities for tenants and landlords alike. Historically, there is always a flight to quality. Rents go down across the board in a down cycle and tenants obviously go for high-caliber space. Safety is a new critical component of a high-quality building and has already become part of our standard letter of intent and lease document negotiations. While we are looking at a tenant market for the foreseeable future, we will continue to monitor market conditions and negotiate on behalf of clients’ best interests.
How has the current health crisis impacted office leasing prices in the metro?
Harding: We are currently seeing a reduction in office leasing rents and increased financial concessions for tenants. Examples of these concessions include higher allocations of rent abatement, parking relief and tenant improvement allowances, along with, in some cases, termination rights on longer-term leases. The amount of sublease supply and overall office space demand may push these discounts and concessions even further, as we continue to move forward.
What are your predictions for L.A.’s office market?
Harding: Because of our lower reliability on public transportation, compared to the New York City, San Francisco and Boston markets, Los Angeles office space and the surrounding areas will likely fare better than others coming out of this health crisis. While the recovery will take time, we are confident that the Los Angeles market will make a strong rebound—fundamentals will eventually tighten in a positive way, the economy will pick up steam and the mass concern of public health will fade once a vaccine is available.