Editor’s Note: This WRAL TechWire’s Commercial Real Estate special report “Follow the Numbers” is supported by commercial real estate firm CBRE Raleigh.
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RALEIGH – When it comes to office space in the Triangle, it’s still a tenants’ market, according to the latest analysis by CBRE|Raleigh. But while still high, vacancy drifted lower in the second quarter, and net absorption turned from negative to slightly positive courtesy of still-firm demand for amenity-rich Class A office space.
CBRE|Raleigh’s 2023 Office MarketView for the second quarter of this year found that direct vacancy fell by a modest 40 basis points (or four-tenths of a percentage point) to 13.3 percent in the three-month period ending June 30. Overall vacancy, which includes unoccupied sublease space, declined by 20 basis-points to 18.1 percent. The Triangle commercial real estate market directly absorbed 199,930 sq.-ft. of office space during the 2nd quarter, compared to 212,000 sq.-ft. of direct negative absorption in the first quarter of this year.
“Absorption can be pretty choppy when you look at it on a quarter-to-quarter basis,” explains Elizabeth Gates, senior research analyst at CBRE|Raleigh. The company is a joint venture among local principals and CBRE Group, Inc. (NYSE: CBRE), the Dallas-based global real estate services and investment giant. Its regional office space analysis considers real estate activity in Durham, Orange and Wake counties.
In contrast to a “painful” first quarter, Gates sees some evidence that the market, roiled by COVID-related work-from-anywhere policies and an overall mood of economic uncertainty, may be stabilizing with regard to tenants shedding space. The year began with a sharp spike in available sublease space, but the number held steady in the second quarter as some tenants sought out sublease opportunities to upgrade their space, reduce costs or both. “Subleased space is usually more affordable, and a tenant can get up and running quickly,” she says. The region’s 4.4 million sq.-ft. of available sublease space in the second quarter represented just over 8 percent of overall inventory. “That number has already ticked down slightly to 4.1 million sq.-ft. since the close of the 2nd quarter, a trend I believe will continue,” says Gates.
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CBRE continues to see a “flight to quality” as Class A properties — typically newer buildings in more sought-after locations with popular amenities like on-site gyms, tenant lounges and shared conferencing, 24/7 security and restaurants within walking distance — continue to perform well. “If anything, it’s becoming more pronounced,” she says. “If you look at some of those premium buildings, a number of those owners have increased their asking rents.” At the other end of the spectrum, landlords are marking down prices for older properties in less desirable destinations. “There’s a tremendous amount of bifurcation in the market,” Gates says.
Indeed, vacancy rates vary significantly across submarkets. Raleigh’s Midtown submarket had a total vacancy of just over 11 percent in the last quarter, while South Durham saw a 23.7 percent rate, CBRE|Raleigh’s data indicate.
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Employers use the allure of Class A properties to bring employees back to the workplace. Earlier this month, video conferencing leader Zoom unveiled plans to require employees who live within 50 miles of a company location to spend at least two days a week at the office. The company, which has a worldwide workforce of 8,400, intends to roll its new policy out over the next two months. Even as the pandemic was a boon to their businesses, Amazon, Google, Meta and other tech giants are now ushering staff back to the world of in-person work – often with pushback from employees.
An easing labor market has provided both corporate and government employers with more leverage to execute return-to-the-office policies, Gates says. After falling to rock-bottom levels, unemployment rates for both the Raleigh and Durham metropolitan statistical areas (MSAs) inched up in June from 3.1 percent to 3.2 percent, according to the most recent figures from the N.C. Department of Commerce. The state’s overall jobless rate was 3.6 percent in June, up two-tenths of a percentage point from May but still well below the 4 percent rate registered in June 2022.
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“It seems like we’re close to settling into something of a steady state,” Gates says of the challenge of re-populating office environments. “I think we’ll continue to see some improvement over the coming months, but it looks like the flexibility [of some remote-work] is here to stay,” she says.
Duke University allows individual departments and offices to set remote-work policies. Its four-person real estate office, for example, allows a hybrid model that blends in-person office time with remote work. “There’s no blanket policy on work-from-home,” says Scott Selig, associate vice president for capital assets and real estate at Duke. Allowing his team to work remotely some days has resulted in a slightly smaller office footprint for his unit, he says.
Selig’s office oversees a portfolio of more than 250 leases spanning 4.2 million sq.-ft. of office, medical clinic, laboratory and warehouse space. Much of that is in downtown Durham, where the university bases its legal and development offices, in addition to leased classroom space, research facilities, computing labs, and finance and I/T operations. Duke’s portfolio is one element of the university’s leadership in downtown Durham’s renaissance over the past 25 years. More recently, it has subleased about 20 percent of its downtown space – including 150,000 sq.-ft. of space at 200 Morris Street to Google’s cloud engineering unit.
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“The next phase of the redevelopment of Durham is going to be driven not by Duke but the technology companies that are moving here,” says Selig, whose career has included work in private real estate development. In addition to Google, Meta and Apple have recently brought new operations to Durham. So too has Clorox, which established an R&D facility as well as divisional headquarters for its Better Health and Burt’s Bees® brands in late 2020. In March, Boston Consulting Group, a global management advisory, opened a new office in Durham.
“Those are all leading economic indicator companies,” Selig says. “They all chose to bring offices to the Durham-Raleigh market post-COVID. I don’t know of another place in the country or the world where that has taken place.”
Matt Gladdek’s career has included five years with Downtown Durham, Inc., an advocacy group for the Bull City’s central business district. Today, as head of economic development for the Greater Durham Chamber of Commerce, he sees the region’s high level of educational attainment continuing to move knowledge-based companies into the Triangle office market. “Duke University was integral to putting Durham on the map and making sure we had the infrastructure to bring companies here,” Gladdek says. “Duke will always be an incredible asset for our area.”
Higher interest rates, persistent inflation and talk of a looming recession have contributed to the softening of the region’s office real estate market, Gladdek believes. “Right now, I think the biggest issue we’re facing in the market is uncertainty and confusing signals,” he says. “We’re in a period of transition, but our strong fundamentals will enable us to come through it.”
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CBRE’s Gates agrees that companies will regain confidence once the broader economic picture becomes clearer. “We’re a region where companies want to be,” she says. But the increasing likelihood that demand for office space per employee will never match pre-pandemic levels makes the work of economic development leaders like Gladdek more important than ever. “It’s going to take more of those arriving companies to fill the space because the footprints are now smaller,” Gates says.
In the meantime, there is little if any capital available for speculative office development. Moreover, her analysis notes that nearly 2.2 million in Class A office space is currently under construction in the Triangle, with much of it set to deliver this year. “There’s strong demand for premium office space, which is the majority of the space being built right now,” Gates says. “There’s just a lot of it that’s about to hit the market at the same time, which is going to push direct vacancy higher in the short term, particularly in Raleigh’s Midtown submarket.”
