[The following article is published with permission from the author, S&P Global Market Intelligence.]
By S&P Global Market Intelligence
If an aspiring young techie is seeking San Francisco Bay Area-level employment prospects without the Bay Area-level cost of living, it is likely he or she is weighing moving to, or is already in, Austin, Texas.
Austin has long had footing in the technology industry, but the city has matured in the last few years to become a national stronghold in its own right, a destination market for the Apples, Googles and Oracles of the world rather than a mere pressure-valve expansion market.
Tech companies see the same benefits that the workers who are moving there in throngs do: lower costs, abundant intellectual capital, high quality of life, and some urban density but also room to breathe. Earlier in March, reports emerged about a Silicon Valley startup offering $10,000 to employees to relocate out of the Bay Area, where the cost of living is prohibitively high, even for dual-income households.
Austin’s appeal as a lower-cost choice is, at the end of the 2017 first quarter, still strong, but the value gap by many accounts is narrowing. Investors are crawling over each other for a piece of the market, while tenants are jostling for space downtown, where the big tech names want at least a small foothold for employee recruitment and retention.
In 2016, Austin office sales overall were up 38.1% year over year, driven by an influx of foreign capital rarely seen outside gateway markets on the coasts, while office markets nationally cooled, RCA data showed. In an interview, Jeff Coddington, senior vice president of the Jones Lang LaSalle capital markets team in Austin, said Swiss, German, Israeli, Italian, Korean and Middle Eastern money has flowed into the market over the last 24 months, primarily focused on core properties in the city’s central business district.
“We have one of the most robust economies, certainly in the central U.S., if not the U.S. in total,” Coddington said.
The city’s unemployment rate stood at 3.5% at the end of 2016, compared to the national average of 4.8%.
Leah Gallagher, who handled investment sales in Austin for the last five years for commercial real estate services firm Transwestern, described Austin as a “blueberry in a bowl of tomato soup” — a glowing counterpoint to Houston’s tepid scene and a gem even at the national level.
“[Austin] is on the radar screen of almost every acquisition associate nationwide,” Gallagher said in an interview. “All of the economic fundamentals just make sense for acquisitions in the Austin market.”
Austin office cap rates in 2016 reflected record-high pricing in the city’s CBD, where the average cap rate was 5.8%. Meanwhile, the average suburban cap rate was 6.4%.
“Some of these buildings downtown have fetched prices that no one ever thought they would fetch,” Jeff Graves, a research analyst at Cushman & Wakefield, said in an interview.
Sky-high valuations have fueled huge increases in property taxes, and therefore operating expenses, costs typically passed on to tenants in the form of rent hikes. For CBD office buildings, OpEx has climbed nearly 50% in the last five years and, at the beginning of 2017, was at an all-time high average of $20.33 per square foot, according to Cushman & Wakefield.
But industry observers say high OpEx is not causing tenant bleed, but rather a game of musical chairs. Tenants who don’t want to pay the high rents of the CBD — average class A office rent there rose 11.8% in 2016 and hit a record high of $53.05 per square foot — or the only slightly more modest rents at The Domain, a high-density multi-use development operated by Simon Property Group Inc. in the so-called Northwest submarket, are moving to historically less active areas such as the Northeast and Southeast submarkets.
The Austin office market saw 460,000 square feet of net absorption in the 2016 fourth quarter, and the Southeast submarket recorded the largest uptake, Cushman & Wakefield said.
The city’s vacancy rate stood at 8.2% at the end of 2016, down from 8.8% at the end of the third quarter. The CBD vacancy rate was 6.2% at year-end, and 5.8% among the class A buildings in the submarket.
Radnor, Pa.-headquartered Brandywine Realty Trust, among SNL-covered real estate companies, has the largest number of office properties in the Austin market, at 18, followed by Glendale, Calif.-headquartered PS Business Parks Inc., which has six, according to SNL data. Atlanta-based Cousins Properties Inc., with five properties in the market, has the greatest concentration in the CBD, however.
By square footage, Brandywine is the largest player in the Austin office market, with 3.85 million square feet, followed by Equity Commonwealth and Cousins Properties, with 1.96 million square feet and 1.91 million square feet, respectively.