Metro office boom faltered in 2007

The Baltimore Sun

The streak has ended.

For the first time in three years, the construction of office buildings in metropolitan Baltimore far outpaced the amount of space tenants signed up to lease.

Just 43 percent of 1.8 million square feet of new office space completed in the Baltimore region last year was leased, according to a study by Colliers Pinkard, a commercial brokerage.

The study shows an end to an unprecedented run in which the office market had been both building and absorbing more than 2 million square feet of space per year.

The square footage that found tenants - 781,000 - in 2007 was 67 percent lower than in 2006. At the same time, the market is bracing for even more new space, with 2.6 million square feet currently under development, according to Colliers Pinkard's year-end market report.

Commercial real estate experts blamed economic jitters as well as a reversal of fortunes for tenants in sectors such as residential mortgages, who are abandoning or reducing office space.

The commercial market is facing fallout from tighter credit markets in the aftermath of the subprime mortgage crisis, which could narrow the pool of investors in commercial properties as well as make it more difficult to obtain financing.

"We've had very, very strong cycles, and now are hitting that patch where growth is less sustainable, and that's what happened this past year," said Jeff Samet, a senior vice president with Colliers Pinkard.

The slowdown has hit hardest two of the region's hottest commercial hubs: around Baltimore-Washington International Thurgood Marshall Airport and in greater Annapolis, Colliers said.

In the BWI market, just 29 percent of the 580,000 square feet of new space was leased, the lowest level in five years, driving the total vacancy rate to 13.6 percent, up from 9.9 percent. Construction outpaced absorption as well in the Annapolis market, with the vacancy rate rising 5 percentage points to 7.8 percent.

Samet said developers had planned the new projects based on past and expected growth, especially as demand surged in the post-9/11 increase in government spending for defense and security.

But some tenants, including government contractors, had to make business and leasing adjustments. Some of the larger government contractors, including Computer Sciences Corp., Booz Allen Hamilton Inc. and Titan Corp., put some of their office space on the market to be subleased, Colliers said.

Overall, office vacancies in the metropolitan area rose to 15.2 percent, from 14.2 percent. In addition to the airport and Annapolis, vacancy rates rose in downtown Baltimore, Howard County and the western Baltimore County, Colliers said.

Only suburban northern Baltimore County saw its vacancy rate shrink, from 15.4 percent to 13.5 percent, according to Colliers.

In an uncertain economy, tenants have become much more cautious and slow to make decisions on whether to renew leases or expand them, landlords and brokers said.

"A lot of people we see looking at space and kicking tires, feel they need to be very, very cautious," said Gerard J. Wit, a vice president with St. John Properties, of Baltimore, a commercial developer and landlord in Maryland and five other states. "We especially see that on retail and it's the same mentality for the office people."

Brokers and landlords are seeing fewer leasing prospects, said J. William Miller, a principal and senior vice president of the Baltimore commercial real estate services firm NAI KLNB.

"There's a shorter supply of people looking, and when prospects do surface, the deals are slow," Miller said.

Rental rates are for the most part holding steady, though some landlords are offering incentives to brokers, such as bonuses, to bring them tenants, Miller and others said.

St. John has become more cautious in taking on new projects, Wit said. The company which develops, owns and manages commercial properties and has 15 in various stages of development, typically "on spec," or not for specific tenants, is continuing to buy and prepare land but is weighing carefully when to start building, he said.

Developers who conceived their projects at the height of demand are now seeing the effects of a slower market.

"You start designing and building when you think the market is good, and you then bring those projects to the market, and sometimes it's better than expected, sometimes it's just as expected and sometimes worse," said Steve Shaw, co-director of leasing at Merritt Properties. "Why didn't it all get absorbed? There wasn't enough demand. But that does not mean there will be no demand in the future."

Despite the slowdown, Merritt has not seen much of a change in its overall occupancy rate of about 95 percent and is continuing to build speculative office and bulk warehouse projects, Shaw said.

Over the summer, Merritt completed a 68,000-square-foot, two-story office building at Meadowridge 95, a 25-acre office park along I-95 in Elkridge. The structure - which just got its first tenant, a medical information management company - was Merritt's second building in the park, where four are planned.

The company has had some preliminary talks with prospective tenants for the future buildings but usually holds off on new construction until an existing building is at least 50 percent leased, said Beth Fenwick, a marketing official for Merritt.

Developers likely will continue targeting areas where they expect increased demand from the federal base realignment and closure process, known as BRAC - mostly Anne Arundel and Howard counties, according to a KLNB year-end report on the Baltimore-Washington corridor. More than 500,000 square feet of new office space will be completed this year alone in Anne Arundel, KLNB said.

But increasing land prices will keep overbuilding in check, KLNB said.

Howard County fared best in absorbing office space, the Colliers report showed. The county absorbed 317,000 square feet, an amount experts said would have been higher if not for the collapse of residential mortgage tenants such as Fieldstone Investment Corp. and American Home Mortgage Investment Corp., which left Columbia's vacancy rate the highest in the region at 21.6 percent.

The county is benefiting from new job growth. Some 520,000 square feet of new space was completed and 500,000 square feet of space absorbed in the US Route 1 corridor alone, KLNB said.

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