Midtown Madness: Leasing Still Sluggish in Manhattan’s Priciest Market

Midtown Manhattan, the biggest and most expensive U.S. office market, is still adapting to New York’s post-financial-crisis economy, as technology and new media companies flood into the more affordable areas and banks remain wary of expanding in higher-priced real estate.

With construction getting under way on millions of square feet of planned Class A offices on the West Side, much of the leasing action for the year to date has centered on neighborhoods like Murray Hill, the Penn Station area and the Garment District, which are attracting companies that have been priced—or crowded—out of the technology hub in Midtown South, brokers said. Financial companies, traditionally the biggest occupiers of Midtown real estate, remained conservative, pursuing greater efficiency in their use of real estate rather than growth.

“The days of bigger is better are gone,” said Eric Thomas, senior vice president of Cresa, a specialist in tenant representation. “Capital preservation is still key. That’s why renewals still reign in many cases.”

Aerial view looking south over midtown MWhile leasing activity in the first two months of 2013 increased 8.6 percent from a year earlier to more than 2.1 million square feet, the vacancy rate at the end of February edged 0.2 percentage points higher to 10.2 percent, according to Cushman & Wakefield data.

February leasing totaled 830,000 square feet in the Midtown market, short of the five-year average of 1.14 million square feet, according to CBRE figures. Absorption in the first two months of the year was negative 1.32 million square feet, an improvement over the negative 1.59 million square feet in the same period last year. Average asking rents remained the highest in the nation, at $70.25 at the year’s end, ahead of $56.25 in Midtown South, now the second most expensive U.S. market, and $52.08 in third-ranked Washington, D.C., CBRE data shows.

Among the biggest recent lease deals were a renewal by Macy’s Inc. on about 646,000 square feet at 11 Penn Plaza, a new lease on a nearly 44,500-square-foot space at 485 Lexington Ave. by Value Line Inc. and a deal by Univision Communications Inc. on more than 39,700 square feet at 605 Third Avenue—which was an expansion, according to CBRE data. Major new available spaces include 254,000 square feet of AXA Financial sublease space at 1290 Avenue of the Americas, 159,000 square feet at 730 Third Avenue and 88,000 square feet at 125 Park Avenue.

The AXA space added to a glut of available offices in the Rockefeller Center/Avenue of the Americas corridor, which had negative absorption of 1.3 million square feet in the fourth quarter, according to CBRE.

For the past year, financial firms have been “almost out of the marketplace,” and “when possible, they’ve renewed in place,” due in part to the high cost of building space suited for activities such as trading, said Mark Ravesloot, vice chairman of CBRE. He expects the vacant spaces along Avenue of the Americas to be absorbed, as the large floorplates, transportation and amenities in the area attract users. Most of the AXA space is “already spoken for,” he said.

A “flight to value” has driven vacancies lower and rents higher in Midtown’s less expensive submarkets, according to Jones Lang LaSalle. The vacancy rate for Class A offices in the Penn Plaza/Garment District area has dropped to 5.6 percent as asking rents averaged $58.28 a foot. That compares with a vacancy rate of 13.4 percent for Class A space in the Plaza district, JLL found. Rents averaged $79.31 a foot in Class A properties in the Plaza district, an area that accounted for 23 percent of inventory and only 12 percent of the top 25 lease deals this year through March 21.

“The velocity of leasing activity is very good,” said Peter Riguardi, president of JLL’s New York operations. Many of the tenants JLL represents, however, are “chasing same amount of space or less space” when they move, due to a lack of job growth and corporate strategies aimed at making more efficient use of real estate. “The net of all this is [that it’s] not certain we’re going to have positive absorption in Midtown” this year, Mr. Riguardi said.

One beneficiary of the trend toward value is W&H Properties, which controls a portfolio of prewar trophy towers including the Empire State Building, where image licensing company Shutterstock Inc. just signed a lease for more than 80,000 square feet. Thomas Durels, executive vice president of Malkin Holdings, which supervises W&H’s portfolio, said Shutterstock will move from Downtown Manhattan and occupy the 20th and 21st floors.

Mr. Durels said the first 21 floors of the tower are now leased to just four companies—Li & Fung USA, the Federal Deposit Insurance Corp., Coty Inc. and Shutterstock—as a strategy to consolidate spaces in the building and lease full floors to “quality tenants” pays off.

In addition to the Empire State Building, W&H properties include modernized prewar buildings along the Broadway corridor, where a diverse mix of tenants is entering what was formerly known as a fashion district. At a number of its properties, W&H is in “serious negotiations with several legal and advertising firms looking to expand their footprint to accommodate new hires,” Mr. Durels said. He suggested that price is an important factor, with activity “strong” for properties that rent for $49 to $50 a foot, and “sluggish where asking rents are north of $70.”
SL Green Realty Corp., New York’s largest office landlord, leased almost 458,000 square feet of space in its buildings in the first two months of the year, including a 151,000-square-foot lease by Eisner Amper at 750 Third Avenue. The real estate investment trust reported having another 600,000 square feet of space in its deal pipeline.
“Our results and activity since January have far outpaced our expectations,” Chief Executive Officer Marc Holliday said in a press release.

Brokers and developers expressed confidence that demand will be sufficient to fuel the expansion of the Midtown office market to the West Side, where more than 16 million square feet will be built in coming years by developers including Sherwood Equities, Moinian Group, Brookfield Office Properties, Extell Development Co. and Related Companies.

Jay Cross, president of Related Hudson Yards, said the initial 1.7-million-square-foot tower—the first of the West Side projects to break ground—is attracting interest from “every sector” and that financial companies are “getting more active.” While the big banks and investment firms remain uncertain about making moves in the short term, he said, most of them currently occupy older buildings and are starting to make long-term plans to relocate to newer space, which will create demand for the West Side projects even if the banks are consolidating operations.

For a big financial company, moving “is like turning a super tanker,” he said. “It’s not inappropriate for them to begin thinking about where they’re going to be in five years.”

Related Hudson Yards’ first tower, scheduled to open in mid-2015, will be anchored by Coach Inc., which will own its space as a commercial condo. Related plans a total of six million square feet of office space in the mixed-use development, including a 2.4-million-square-foot office tower that won’t come online until 2018. A mixed-use building coming online in 2017 will include additional office space as well as hotel, residential and retail space and an Equinox gym.

“The large-block tenants—north of 300,000 square feet—are considering it,” said Jared Horowitz, executive director at Cushman & Wakefield. “Tenants that size typically do look out that far.”

Other planned developments at Hudson Yards include 2.5 million square feet of office space by Sherwood, 1.8 million square feet by Monian, 1.78 million square feet by Extell, and four million square feet by Brookfield, which has broken ground on the platform over the West Side rails for its project.

While those offices are likely to find tenants, some brokers said, the bigger issue is who will rent the spaces that are vacated in the westward migration. Some speculated that the planned conversion of the Sony Building at 55th Street and Madison Avenue to hotel and residential use will be the start of a Midtown trend, similar to the transformation older office buildings have undergone in the Financial District.

One rumored candidate for conversion is 650 Madison Avenue. That property is being marketed by Eastdil Secured, which brokered the sale of the Sony Building for $1.1 billion to developer Joseph Chetrit. Eastdil didn’t respond to a request for comment.

Still, some brokers said the financial companies may be on the verge of jumping back into the market for more space, which would help reduce vacancies in the Rockefeller Center/Avenue of the Americas area and in the expensive Plaza district.

“We’re all optimistic,” JLL’s Mr. Riguardi said. The improving stock market and business climate suggests that companies may soon increase spending on technology and hiring, he said.

“Activity is slowly picking up,” Mr. Horowitz said. Once the market is cleared of cheaper sublease space, direct leasing is likely to pick up, eventually leading to increasing rents.

He even sees potential demand for space with asking rents in excess of $100, at properties including 650 Madison Avenue, where C&W is the leasing agent.

“We’re seeing activity from brokers representing financial institutions,” Mr. Horowitz said. “The rents aren’t scaring them.”

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