Industrial booms, but office-space vacancies rise amid higher rents

As patients go, the Houston real estate market is facing a mixed prognosis.

The latest quarterly assessment of the market from real estate services firm NAI Partners found ongoing strength in the industrial market and persistently high vacancies in the office sector. Retail, meanwhile, hummed along, though there were concerns that rising rental rates could slow the pace of leasing.

The office market continues to be marked by musical chairs, as gleaming new buildings lure tenants even as they add to inventory. Older buildings in turn go through makeovers to compete with the new batch of Class A product.

“Companies coming in that have growth plans want to look at the newer buildings with enhanced amenities,” said Griff Bandy, an NAI partner representing office tenants.

The result is a Houston office vacancy rate that hit 21.6 percent in the third quarter, according to NAI. The 51.1 million square feet of available space on the market includes 3.5 million square feet of sublease space.

The dynamic is marked by employers looking to gain more common-area amenity space populated with collaborative areas and

conference centers shared among all building tenants. At the same time, they are seeking less space per person as they continue to move toward more open office environments. The tenant experience at office properties, which increasingly offer coffee shops on-site and amenities within walking distance, is a key component for attracting and keeping employees.

“Tenants try to increase their experience in the property and then decrease their square footage,” said David Bateman, senior vice president for office project leasing at NAI Partners.

Concessions aplenty

Continuing to diversify the economy beyond the energy sector will be necessary to absorb office space, Bateman said.

Landlords are still handing out free rent and money to build out office space to get tenants to sign leases, with one month free rent per year of term common, the brokers said.

“Concessions are still plentiful, and tenant improvements are a part of that,” he said.

Tenant improvement allowances topped out at about $5 per square foot not long ago, but today landlords are willing to contribute upward of $7 per square foot to move the occupancy needle, Bandy said.

Industrial growth

On the industrial side, the Houston market is healthy, with an overall industrial vacancy rate of 6.6 percent, according to the real estate services firm, which cautioned that it could be on the verge of becoming overbuilt.

About 18 million square feet of dock-high distribution space is under construction, which has contributed to a vacancy rate of about 11 percent for Class A product. The dock-high buildings are built four-feet above ground level for truck deliveries.

“I don’t think it’s time to completely stop the construction of the dock-high distribution centers, but I do think it’s time to pump the breaks a bit,” said Travis Land, a partner in the industrial services division.

Rising property taxes, which are part of the expenses passed on to tenants, along Beltway 8 and other popular corridors have some tenants looking at alternatives at lower-valued properties without a Beltway address. They are also considering older buildings, Land said.

Retail slows

Retail development, outside of in-fill urban neighborhoods and suburban communities such as League City, Kingwood and Katy, has generally slowed across the Houston region.

“Retail has been pretty under the radar for development,” said Jason Gaines, head of retail for NAI Partners.

Rising rents are a concern to tenants with rates up more than 20 percent in the last few years.

“There’s definitely some rent fatigue starting to set in,” Gains said. “Tenants are looking for rent relief.”