HOUSTON OFFICE MARKET — 2^nd QTR 2015

Houston, having one of the healthiest population and employment growth rates among major U.S. cities as well as being ranked second on Fortune 500’s list of headquarter locations, has maintained one of the most stable commercial real estate markets in the nation over the past ten (10) years. With its population growth, affordable housing and cost of living, young educated work force and a thriving energy industry, Houston faired the 2008 global recession better than all of the nation’s largest employment bases. Houston was also first to recover all jobs lost in the recession. The overall office market turned positive in 2010 with absorption just under 2 million square feet citywide. The citywide total absorption from 2011 through 2014 totals just over 21,300,000 square feet. This year started strong for the overall market with total citywide absorption just over 1.7 million square feet through the first quarter 2015.

The Houston office market continues to benefit with the growing local economy supported by midstream and downstream energy, the Port of Houston, NASA and the medical sectors of the economy. The overall citywide vacancy rate is 11.6%, which is up from 10.8% at year end 2014. We anticipate rental rates to continue to level off in the central, northern and western submarkets for the second half of 2015. Shown below is the outlook for positive job growth (projected at 2.8% for 2015 and increases to 3% in 2016) and limited new office supply over the next two (2) years.

Houston is the energy capital of the world, so with the price of oil decreasing from $100.00 per barrel to $50.00 per barrel from August 2014 to March of 2015, the industry reacted quickly. Capital spending for new exploration and production were diminished across the board anywhere from 10%-50% in 2015. This has forced a reduction in new drilling programs and oil service providers have had to adjust their work forces. The bright spot in this decline has created an expansion with the midstream companies (storage pipeline) and downstream companies (refining and distribution). In addition, with a continued low natural gas has created a 90 billion dollar renovation and expansion in the petrochemical industry along the Gulf Coast.

There are currently 12 million square feet of office properties under construction citywide. The new Exxon Mobil campus (3.5 million square feet), Anadarko’s 600,000 square foot addition to their headquarters, as well as Southwest Energy (600,000 square feet), Nobel (500,000 square feet), Phillips 66 (1,100,000 square feet), Shell (600,000) and BP (200,000 square feet), all have buildings recently completed or close to completion. The remaining 8.5 million square feet that is currently under construction is 70% preleased. Most of the new construction is located in the western submarkets (Westchase and Energy Corridor) as well as The Woodlands submarket in north Houston. There is another 4 million square feet of recently proposed office projects that were announced in the last half of 2014, most of these projects have been put on a hold status.

Absorption continues to be steady in the first quarter 2015. Most of the positive absorption occurred in the Energy Corridor (348,287 square feet) and The Woodlands (1,656,550 square feet). The submarket that has the most negative absorption was Greenspoint with 575,000 square feet vacated by Exxon. This was anticipated by Exxon and more space will be vacated this year as they continue to take occupancy at their new corporate campus south of the Woodlands.

The absorption numbers took a beating in the second quarter this year due to Exxon Mobil vacating 1.8 million square feet in the CBD and Greenspoint submarkets. In addition, there were 2.7 million square feet of new deliveries in the second quarter. This brings the year-to-date citywide absorption to a positive 731,030 square feet.

 

 

Houston Citywide Office Market
2n^d Qtr 2015

 

Class	Inventory	Total Vacancy	Overall Vacancy	YTD Net Absorption	Avg. Asking Rate
A	128,078,700	16,260,302	12.7%	1,961,762	$34.71
B	122,697,033	17,027,903	13.9%	-1,346,388	$21.65
C	39,575,383	3,542,164	9.0%	115,656	$16.45
Total	290,351,116	36,830,369	12.7%	731,030	$27.90

 

Rental Rates

Citywide rental rates increased on all asset classes through year end 2013, ending the year at an all time high of $25.43 per square foot. Through year end 2014, the citywide average increased to $27.24 per square foot and through the second quarter 2015, rental rates have increased to $27.90 per square feet. Class A rental rates have increased slightly to $34.71 per square foot. The Class B market had a slight improvement going from $21.35 per square foot at year end 2014 to $21.65 per square foot through the second quarter 2015. The Class C market increased from $16.38 per square foot at year end 2014 to $16.45 per square foot through the second quarter 2015. With limited and decreasing new supply under construction, we expect rent rates to hold steady in all northern and western submarkets through 2015.

 

Historical Average Gross Rental Rates
(2010 – 2^nd Qtr 2015)

 

Class	201 ,	2011	2012	2013		2nd Qtr 2015
A	$28.55	$29.75	$31.02	$32.12	$34.51	$34.71
B	$18.74	$19.14	$19.70	$20.35	$21.35	$21.65
C	$15.64	$15.50	$15.69	$16.16	$16.38	$16.45
Avg. Total	$22.77	$23.01	$24.24	$25.43	$27.24	$27.90

 

 

Net Absorption

The overall citywide absorption through year end 2014 was extremely strong with over 7.7 million square feet of
positive absorption. The submarket leaders in positive absorption were the CBD, Energy Corridor, Westchase and
The Woodlands. The first quarter absorption remains strong with just over 1.7 million square feet absorbed in the first three (3) months of 2015. We expect absorption to decrease in 2015 as an effect of oil prices, staffing levels of upstream exploration companies, and Exxon’s relocation to their new 3 million square foot campus.

Tenants who moved into large blocks of space in the second quarter included Nobel Energy (425,000 square feet in 249 Corridor) and Cheniere Energy (208,000 square feet at Pennzoil Place in the CBD). GE Oil and Gas are moving into 288,000 square feet at Westway Plaza. The three (3) largest lease signings in the second quarter were Transocean for 255,000 square feet at Four Greenway Plaza, CPL Retail Energy for 191,000 square feet at Twelve Greenway and IHI Energy and Construction Company for 191,000 square feet at West Memorial Park II in the Energy Corridor. With a manageable amount of new office development currently under construction and stable employment growth projected, the Houston office market is well positioned to maintain current rental rates in the office market through 2015.

Historical Absorption
(2010 — 2^nd Qtr 2015)

 

Class	2010		201	r 013		2nd Qtr 201
A	1,307,724	2,240,027	4,060,865	4,454,235	6,096,330	1,961,762
B	423,959	1,056,795	1,255,819	567,695	1,462,867	-1,346,388
C	196,643	74,650	-75,836	-42,977	224,193	115,656
Avg. Total.	1,928,326	3,371,472	5,240,848	4,978,953	7,783,390	731,030

 

Office Summary

National and international investors continue to be drawn to Houston due to its strong economic fundamentals which are being driven by solid future employment, population growth, energy and medical sectors as well as one of the busiest ports in the country. The main economic drivers for 2015 will be energy, mergers and consolidations, petrochemical expansion, the medical sector and the expansion and growth of the Port of Houston.

• Houston is the fifth largest office market in US
• Citywide net absorption totaled positive 731,030 square feet through the second quarter 2015
• Citywide average rental rates are $27.90 per square foot (8.8% increase from first quarter 2014)
• Citywide sublease space totals 2,872,000 square feet
• 2 million square feet is expected to deliver in 2015

2015 Office Market Outlook

• Protecting occupancy and maintaining quoted and effective rental rates is the focus for 2015
• The main driver for office demand is job growth, estimated to be 60,000-70,000 new jobs in 2015
• The petrochemical sector, healthcare and the Port will be main drivers for job growth
• Fundamentals remain stable in major submarkets
• Positive job growth and preleased space will drive positive absorption in 2015 (estimated 6 million square feet)
• Increase in property taxes in 2013 and 2014 has increased operating expenses across all asset classes
• Increase in concessions (rent abatement, parking and allowances)

2015 Office Market Highlights

• Cheniere Energy moves into 187,000 square feet at Pennzoil Place
• PGS moves in 125,000 square feet at West Memorial Park I
• CB&I signs lease for 100,000 square feet at 3600 W Sam Houston
• Statoil puts 300,000 square feet on sublease market in Westchase — 8 years remaining
• Worley Parsons puts 275,000 square feet on sublease market in Bellaire
• INVESCO sells 1000 Main for $520 per square foot to Metzler — new CBD record price per square foot
• Exxon Mobil vacates 1.8 million square feet in CBD and Greenspoint
• Nobel Energy moves into 425,000 square feet build to suit
• GE Oil and Gas moves into 288,000 square feet at Westway Plaza
• IHI Energy and Construction Company signs for 171,000 square feet at West Memorial Park II
• Transocean renews for 255,000 square feet at Four Greenway Plaza
• CPL Retail Energy renews and expands for 191,000 square feet at 12 Greenway