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2023 Outlook: JLL’s Lloyd Low Gives Insight on Leasing in the Pacific Northwest

Courtesy of Zhifei Zhou
JLL, Puget Sound, Seattle

By Kate Snyder

As the first quarter of 2023 continues taking shape, so too do projections on how the rest of the year might ultimately play out in the Pacific Northwest’s real estate leasing market. With more than 15 years of experience in agency leasing, Lloyd Low, executive vice president at JLL, offered his perspective on the outlook for leasing in the Pacific Northwest over the coming year during a recent interview with The Registry. Low’s career has focused in particular on the downtown Seattle core and surrounding submarkets, with more than seven million square feet currently represented.

Leasing has been difficult in 2022, but what trends can you say have emerged that are of note?

Trends that have emerged in the Pacific Northwest in 2022 is the emergence or re-emergence of professional service firm deals (law, engineering, financial services). When tech is booming, oftentimes those deals are preferable for landlords, especially as the tech sector matured and there were numerous companies with good balance sheets and future expansion was expected. The more open/collaborative buildout was less expensive to construct and more reusable for future tech leasing.

Currently, leasing demand is lease expiration driven. For the service firms who have remained relatively stable with their footprint and feel comfortable at their current size, we’ve seen a number of deals stretch beyond a typical 10-year term in an effort to minimize or eliminate out-of-pocket cost exposure and lock into below-market rental rates. In some cases, certain owners are willing to provide the large TI allowances while still keeping the term lengths shorter (~5 years) in order to land new deals but also allow for a mark to market sooner.

While the flight to quality has been well documented across markets, there has been a growing disparity in performance based on vintage product. Availability in existing buildings constructed after 2010 has gradually decreased over the past two years while availability in properties built pre-2010 has risen sharply, closing 2022 8.9 percentage points above the newer product. This divergence has also impacted rates, with the premium paid for the new product over space constructed pre-2010 widening by 12.5 percent since Q4 2019.

What do you think will happen in 2023 in terms of leasing rates? Will landlords succumb to growing vacancies and cut more deals than they did in 2022?

Certain owners with large vacancies to fill will become more aggressive if they haven’t already. Some, especially long-term holders, have adjusted underwriting to allow for “chasing” deals, in an effort to capture market share and stabilize cash flow. As we see patterns evolve related to big tech putting more space on the sublease market or allowing leases to expire, rates will continue to reduce. That said, Seattle was on a steep rate incline trajectory for a number of years, reducing the gap between Bay Area rents and our peers in the west coast markets. To that end, rates will be more stable in class A+ and trophy buildings, but commodity class A and B/C buildings will face steeper reductions.

What characterizes a successful leasing deal these days, and will that evolve in 2023?

Successful leasing, like beauty, is in the eye of the beholder – it will be asset specific, and focused on whatever solves the owner’s unique needs. If the focus is on cash flow, capturing market share with an emphasis on credit tenants will be the priority. If the owner is value driven, then being able to creatively structure deals to hold face rates by providing other incentives to capture the tenant will be paramount. Either scenario likely entails providing a TI Allowance that is higher than we’ve seen in this market historically.

What are you seeing with renewals? Are companies still shrinking their footprints, and what is affecting their decisions?

In most cases, tenants are trying to be smart with their leased footprint while accounting for more hybrid or remote workers. Many law firms, if their space hasn’t been renovated for several years, are shifting to more uniform-sized offices and thus reducing their footprint by being more efficient. Tech companies, categorically, have been reducing their size as they’ve been more adaptive to remote/hybrid work models. Still, many tenants are pushing for shorter-term renewals to buy time if they are struggling to map out their RTO strategy.

What surprised you the most over the last 12 to 18 months? Do you think that trend will continue into 2023 and beyond?

The rapid rise in demand and corresponding rental rate increase in the life science sector, followed by the abrupt fall off in demand and resetting of rates- albeit with a “floor” much higher than in past cycles. Life science owners’ willingness to fund TI allowances at $450 per square foot in connection with a “turnkey” buildout and $90+ per square foot NNN rental rate.

The tech sector’s relative inability to implement an RTO strategy, specifically with the large tech companies. Since many of the small to mid-sized tech tenants tend to follow suit based on how the larger firms behave, this has stifled decision-making to a point where companies seem scared to make decisions. Municipality tenants not mandating an RTO in an effort to demonstrate leadership and stimulate downtown Seattle and support the struggling retail providers. I’d expect to see more uniformity and clear decision-making on RTO strategies hopefully being implemented by Q2/Q3 of this year.

How did 2022 end for you and your firm? Was it as expected or were there some surprises along the way, too?

Solid- the Pacific Northwest experienced a flurry of deals to end the year, perhaps unexpectedly.

As you look at the market dynamics in 2023, what do you think will be the most significant things that will define the industry in the coming year?

Return to office will be significant this year. Many building owners understand that in order for employers to successfully implement an RTO strategy they will largely depend on the physical real estate. Is it new/fresh/exciting? Does it provide the types of amenities and services that employees can get excited to get back into the office setting? Experienced management and providing programs that engage with the tenant bases and keep them involved and connected with the operations and amenities buildings offer. To that end, the flight-to-uality dynamic will separate building classes even more than in years past with the class A+/trophy assets clearly being the beneficiaries.

Is that worrisome? Why or why not?

It is if you own a commodity class A product with limited ability to upgrade the asset, or for class B/C building owners. These owners will still need to enhance their buildings as best they can, while still offering aggressive economic packages to attract new users or keep existing users.

What opportunities do you see in the coming year, and how are you and your firm preparing for the year ahead?

Working in conjunction with capital markets to assist clients with debt/equity financing and repositioning. Looking at opportunities to potentially convert lower class assets to new uses, like residential.

The most basic opportunity is to demonstrate to our clients a positive attitude and willingness to work extra hard through challenging times. Our owners and individual asset managers are under a lot of pressure. They need information and data more than ever to make decisions, We can make sure they know we are here for them 24/7, we’ve educated them on specific market dynamics, they understand their competitive sets’ strengths/weaknesses and tendencies better than ever before and have them prepared to be nimble and ready to execute a specific leasing plan based on the goals they’ve set forth.

A year from now, what do you think we’ll be talking about?

Interest rates, Amazon and Microsoft.