Downtown Detroit office rates still a bargain

July 2017

The rent is not too damn high — at least from a historical perspective.

While downtown office rates have been creeping upward in recent years amid a constriction of available space and more demand in the central business district, tenants are actually paying less per square foot than for most of the last two-plus decades.

The relative bargains are a reminder that the downtown rebound is a somewhat recent and sudden development and suggest that rents still have room to rise.

Crain's analyzed downtown Detroit office rates provided by the Southfield office of Newmark Knight Frank (formerly Newmark Grubb Knight Frank) for each quarter for the last 22 years. Those rates — overall average asking rate, and the average asking rates for Class A and Class B space — were then adjusted to today's dollars.

Adjusted for inflation, the average office tenant paid a peak price of $34.34 per square foot during the fourth quarter of 2000, 65.5 percent more than the current average rate of $20.76, according to Newmark Knight Frank data.

It's almost as deeply pronounced for Class A space — which has the best amenities and finishes. Today's Class A rental rate is $24.36 per square foot, but in the third quarter of 2001, tenants paid inflation-adjusted rent of $38.12 per square foot, 56.5 percent more than now.

And Class B office space reached an inflation-adjusted high in $36.88 per foot in the first quarter of 2001, 84.5 percent more than the current rate of $20.21 per square foot.

While tenants are paying higher rates generally as buildings are rehabbed and quality office space availability declines, rents have primarily stayed in the $20 to $26 range, depending on the year.

"I can't think of too many things that cost what they did in 1998," said Peter McGrath, an associate broker in the Southfield office of Colliers International Inc.

So if you're a downtown office tenant, you actually are paying less per square foot than was the case for most of the last two-plus decades.

Steve Morris, managing principal of Farmington Hills-based brokerage firm Axis Advisors Inc., said downtown's vacancy rate was in the mid 20s from 1995 until Dan Gilbert, the founder and chairman of Quicken Loans Inc. and Rock Ventures LLC, started bringing thousands of his employees there early this decade.

"The rental rates remained flat from 1995-2011 as a result of lack of demand from suburban-based firms and new firms opening in Detroit," Morris said. "Detroit's Class A office buildings — the Renaissance Center, One Detroit Center and 150 West Jefferson — all held their rent around $20 to $22 (per square foot) until 2016, with modest annual increases."

Some smaller tenants like nonprofits and law firms have felt the squeeze as rents have slowly risen in some of their buildings, Morris said.

"Tenants don't realize that they really are getting a pretty good deal," he said.

The fact that rents have remained largely static for so long has made it difficult to financially justify building new office buildings downtown, said Andy Farbman, CEO of Southfield-based Farbman Group.

"Wages and materials today cost more than they did back then, so the yield on cost is still kind of behind what it should cost to build new buildings," he said. "If you're in other CBDs that are building brand new, whether it's Milwaukee or elsewhere, those rents are materially higher than the rents that are being achieved in downtown Detroit today. That's just math."

He also said that companies are using their space differently, putting workers into smaller spaces. For years, the rule of thumb was that the average office tenant needs about 250 to 300 square feet per worker. But Farbman and others have said that figure is shrinking, with some tenants needing perhaps just as little as 110 square feet per worker.

But brokers agreed that even though rents have ticked upward, the central business district still is less expensive than other downtown markets around the country.

"When compared to other markets, the Detroit central business district is still a great value, even in light of the fact that rates are increasing $3, $4 or $5 a foot from building to building," said Sam Munaco, president of Advocate Commercial Real Estate Advisors of Michigan LLC, which is based in Southfield and has an office in Chicago.

"Some of these clients are sticker shocked that they'll have to pay more, but supply is very low and demand is through the roof."

David Friedman, CEO of Farmington Hills-based Friedman Integrated Real Estate Solutions LLC, pointed to the First National Building, now owned by Gilbert.

"We managed that 10 years ago," he said. "That building had so much deferred maintenance. Today it's new everything, and you're talking night and day."

Source Article:  Crain's Chicago