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Friday, Aug 12, 2022
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Uncertain Future at the Office

This month, Farmers Insurance entered the fray to re-evaluate its office space needs for the future.

The insurer is seeking to sublease parts of its roughly 500,000-square-foot headquarters in Woodland Hills. JLL’s Richard Bright, Grace Robinson and Scott Becket are marketing spaces at 6301 and 6303 Owensmouth Ave., which are leased to Farmers until 2027.

Farmers – which has 1,900 employees in Southern California and saw 98 percent of its employees working from home in the pandemic – joins a growing list of companies grappling with efficiency after the pandemic has led to more remote workforces and less demand for physical offices.

BMW Design Works abandoned its 75,000-square-foot location in Thousand Oaks for 20,000 square feet in West Los Angeles. Developer Cruzon bought the building as an investment and will lease it in the life sciences market.

MedPoint Management cut its 110,000-square-foot space in Woodland Hills in half by embracing a hybrid workforce situation and relocating to offices at the Sherman Oaks Galleria complex.

In Santa Clarita, Mercury Insurance and Princess Cruises each put up their headquarters for subleasing.

Even prior to COVID in 2018, Anthem left its longtime 448,000 square foot occupancy of the Warner Landmark tower at 21555 Oxnard St. where it had been since 1977 and moved into another Warner Center space at 21215-21255 Burbank Blvd., slimming down to 169,000 square feet. The entire Oxnard Street building is still available for lease.

But the direction of office leasing isn’t straight downhill. Data from Colliers International shows that San Fernando Valley office vacancy declined in the fourth quarter to 16.9 percent, compared to 17.5 percent in the previous quarter. But the numbers are still higher than 15 percent at the end of 2020 and the 11.1 percent in the fourth quarter of 2019.

In the two years since the pandemic started – comparing fourth-quarter data from 2019 and 2021 – office vacancy has grown in the East Valley submarket from 9.9 percent to 21.9 percent; in the Conejo Valley from 11.5 percent to 23 percent; and in the Antelope Valley from 1.6 percent to 8.8 percent, according to data from Colliers International. While these are the biggest jumps, all submarkets in the region have moved toward higher vacancy.

At the other extreme, Burbank vacancy increased marginally from 8.1 percent to 8.2 percent, according to Colliers.

Meanwhile, in the last two years, lease rates have gone in different directions. For the overall San Fernando Valley, rates were $2.70 a square foot at the end of 2019, compared to $2.67 in the most recent quarter, a drop of 3 cents. The West San Fernando Valley submarket registered the biggest decline from $2.68 to $2.46 a square foot. Burbank, the most expensive submarket in the region, showed the largest gain from $3.53 two years ago to $4.03 in the most recent quarter, according to Colliers.

Eager landlords

“Right-sizing is the way to go,” said Mike Tingus of Lee & Associates L.A. North/Ventura. “We were getting there. This COVID only got us here quicker.”

Woodland Hills-based broker Rick Pearson at Cressa said that because of pandemic-induced volatility creating closures and re-openings in various industries, there has been a delay of the office submarket returning to significant growth. And across the board, Pearson said, “Downsizing is what’s going on.” 

For Pearson, who represents tenants in office deals, this is a good time for his clients to negotiate hard.

“Landlords are eager to make deals right now,” Pearson said. “Rates have dropped over the last 12 months. Concessions have gone up.”

But while landlords have a problem filling their properties, tenants also face tough decisions.

“The problem is most of our clients aren’t ready to make long-term deals and that’s where you get the most deals (from landlords),” Pearson noted. “The smart decision is to do the short lease for one or two years.” 

Pearson said that’s a common strategy for tenants, even if they stay at the same address. “Every tenant who has a lease up, if it’s easy to shave some space down, are doing it,” he added.

One of his clients, Feedonomics, went virtual during the pandemic and is barely using its 16,000 square foot offices in Woodland Hills.

“They don’t need any of their space,” Pearson said of the data optimization technology company for e-commerce.

“Heading into the pandemic, we’re about 200 employees,” said Feedonomics Chief Executive Shawn Lipman. “Two-thirds were in Woodland Hills. Even though we’re a global company and supporting people all over the world, we wanted to bring people to the office.”

Lipman was even going to lease another 5,000 square feet in the same business park at Warner Center Lane.

However, things changed during the pandemic.

“Since then, we’ve grown to 350 people and two-thirds of the people are not in L.A. anymore,” Lipman said. “What we found is the need to have everyone under one roof is not necessary. On the contrary, we’ve been able to find more talent by not restricting talent to L.A.”

From a scaling and global growth perspective, the move to a more virtual format has worked for Feedonomics.

“The pandemic became the catalyst,” Lipman said. “(We learned) how do we train people remotely. We have some senior executives that we hired that we haven’t even met yet (in person).”

Lipman was able to back out of the additional 5,000 square foot lease. He has also found that “very few people want to go back to the office all the time.”

“What we realized now is that we would never need that space,” Lipman said. “We never needed that many people in the office at the same time.”

The nature of the office dynamics has changed.

“We have very few people begging to go back to the office,” Lipman said. “We don’t see any of the benefits. And we’re definitely not mandating a return to the office.”

Lipman believes this will happen more across the industry with office real estate.

“The need to have the space to house all your people, that’s not going to happen,” Lipman said. “Companies will need less space for sure.”    

Big Commerce, a public company, purchased Feedonomics in July 2021. Even that transaction was completed virtually. The purchase price was $145 million, according to S&P; Global Market Intelligence.

“That is the nature of M&A; now,” Lipman said. “It’s now more common than not for a big percentage of acquisitions to be done virtually. The people who represented us in the sale, we didn’t meet them until about three months after the sale closed.”

Busy broker

“There are a lot of companies looking to downsize,” Pearson said. “They’re just waiting for their lease to come up.”

Another one of Pearson’s clients, Scherzer International, a business-to-business service specializing in background reports, has 15,000 square feet in Warner Center and is seeking to consolidate to 4,000 square feet.

“We’re hoping that we can move by May,” said Michael Scherzer, chief technology officer.

Scherzer International moved into 21650 Oxnard St. in February 2016 with a lease running through 2024.

Now the company plans to sublease its 15,000 square foot space while it maintains a smaller footprint.

“We’re planning to stay with our present landlord Douglas Emmett,” Scherzer said. “The hard part is that we can’t sign a lease for that (smaller space) until we sublease.”

Scherzer International, which has 75 employees at Warner Center and an office in Rocky River, Ohio, a suburb of Cleveland, will operate in a hybrid fashion.

“We have two people who come to the office all week and have assigned desks,” Scherzer said, with the bulk of the workforce working remotely and “hoteling” occasionally at the office. “People who don’t have assigned space, they have laptops and can plug in.”

Once Pearson finds the new 4,000-square-foot space, “we will probably move to our new space within 90 days,” Scherzer said. 

Fiscally, the downsize bodes well for the company.

“We’ll save money from paying less rent,” Scherzer said. “The other aspect, it would let us give more competitive wages.”

Despite the downsizing trend, Pearson has much work coming his way.

“You would think that a broker like me will not have anything to do,” Pearson said. “But on the other hand, every company (is reassessing their space). My business will do very well.”

Pearson foresees more office vacancy coming as leases expire.

“There could be a lot of vacant space in the next two years,” Pearson said. “The landlords will have a lot more vacancies, rent will come down and I’ll be able to negotiate better deals for my clients.”

Slow recovery

The San Fernando Valley office sector is showing signs of a recovery, albeit a slow one.

According to a report from real estate research firm Savills plc on the Greater Los Angeles office sector’s fourth quarter, leasing activity increased to a pandemic high of 3.6 million square feet. This brought total 2021 leasing activity to 11.9 million square feet, up 25 percent from the 9.5 million square feet in leasing activity reported in 2020. 

Yet this figure is still down 34 percent from the 18 million square feet in leasing activity reported in 2019. 

Mike Soto, director of research at Savills, said that a return to the office will be gradual. The Savills study states that a more robust office market recovery continues to depend on the status of the coronavirus as many workers remain at home, especially with the recent Omicron variant and as hybrid workplace strategies and employee flexibility appear to be sticking.

“The market is slowly reopening,” Soto said. “It’s pretty uneven in the San Fernando Valley in general. There are parts of San Fernando Valley where there’s not a lot of vacancy.”

Essentially, the entertainment and tech companies in hubs such as Burbank, where Netflix and Madison Square Garden signed big leases, are the ones looking for more space.

“Burbank is a market that still sees single-digit availability,” Soto said. “Burbank is one of the big content creation areas in L.A.”

According to the Savills study, Burbank had the lowest availability in the greater L.A. market with 10.2 percent during the fourth quarter. By comparison, West San Fernando Valley had 20.5 percent availability while Central San Fernando had 21.1 percent. Los Angeles overall averaged 24.4 percent.

As a result of Burbank’s dense entertainment industry, Soto keeps an eye on neighboring communities such as North Hollywood, Studio City and Glendale where overage from Burbank’s entertainment industry has benefited these submarkets.

However, availability in the North Hollywood, Studio City and Universal City submarket remains high at 32 percent.

“Santa Clarita has still been kind of quiet but there has been a lot of interest from companies looking for soundstages and a cluster for biomedical,” Soto said. “There’s intense focus from investors in life sciences properties. Investors are looking for niche – entertainment production and life sciences in Santa Clarita and Conejo Valley.”

Increasing its life sciences footprint, East Coast investor Oxford Properties purchased the 14-building Santa Clarita Innovation Park for $133.5 million. In Santa Clarita, availability hovers around 22.4 percent, per the Savills study.

Yet outside of entertainment and tech, the return to the office looks uneven going forward.

“There’s the Omicron variant and companies are hiring again so hopefully people come back to the office and the office fundamentals will improve,” Soto said. “We’re seeing employee flexibly, companies allowing employees work from home. A lot of that might be here to stay.”

According to the Savills study, the total availability rate across greater Los Angeles remained flat at 24.4 percent, its highest level in over a decade. Available sublease space ended the year at 8.6 million square feet, down from 8.8 million square feet last quarter but still up 9 percent from a year ago. 

Overall, there’s a lot of touring and tenant inquiry and that will result in deals down the road, Soto said.

“What we saw at year-end 2021 was probably the most optimistic that we’ve seen since the pandemic began,” Soto said. “Underlying numbers in terms of availability are still high. We need to take a while to get back to pre-COVID.”

 

Michael Aushenker
Michael Aushenker
A graduate of Cornell University, Michael covers commercial real estate for the San Fernando Valley Business Journal. Prior to the Business Journal, Michael covered the community and entertainment beats as a staff writer for various newspapers, including the Jewish Journal of Greater Los Angeles, The Palisadian-Post, The Argonaut and Acorn Newspapers. He has also freelanced for the Santa Barbara Independent, VC Reporter, Malibu Times and Los Feliz Ledger.
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