We routinely get asked “why are rates so expensive in Pioneer Square?”
Since 2009 vacancy rates have dropped from 24% to 7% and rental rates have skyrocketed from $18 to above $30. Startups who have traditionally made up a large part of the neighborhood are starting to get priced out and companies that are renewing their leases are experiencing severe sticker shock. So what the hell happened?
If we turn back the clock to 2009 Pioneer Square wasn’t much of a leasing market. Amazon was getting ready to vacate a huge space at the Union Station campus near the stadiums and move to their new campus in South Lake Union. Starbucks decided against occupying an entire building they built for their expansion at 505 First Avenue. Smith Tower was saddled with huge vacancies due to a complicated operator-lender dispute. And the surrounding brick & beam buildings were struggling because companies weren’t being funded or growing.
The high office vacancy trickled down to street level spaces. Retail was declared dead when Elliott Bay Books closed its doors and relocated to Capitol Hill. The gritty street life from the social service centers and weekend party crowds made Pioneer Square a pretty bleak place for business. Owners were desperate to fill vacant spaces and rates were at an all time low.
As the market began to improve big tech companies such as Intel, Getty Images, Attachmate and Cobalt gobbled up the Amazon vacancy at Union Station. Sharebuilder and EMC Isilon leased the vacant Starbuck’s building. Dolce Vita and Regus leased big spaces at Smith Tower. Most importantly, startups and growing tech, the heart & sole of the neighborhood returned and started filling up the brick & beam buildings. The retail tenants soon followed. Occidental Mall suddenly had destination spots such as London Plane & Bar Sajor. Ill Terrazzo Carmine’s opened Intermezzo Café along the street front of 411 First Avenue. Not to mention the literally dozens of new happy hour and restaurant spots that opened in the last 24 months.
In a normal real estate cycle you can expect to see rents increase slowly over time then suddenly spike when inventory gets too low. However, in this cycle we saw the spike sooner than expected.
Why? In 2013 thanks to the success of our tech and startup companies, Seattle became part of the “sexy-six”. Global office investors added Seattle to the list of top office markets to buy in, along with New York, San Francisco, Boston, Washington, D.C., and Los Angeles. As to be expected these buyers were especially attracted to areas that were considered “hip” and “up-and-coming” (aka: Pioneer Square).
An astonishing 21 of the 74 “brick & beam” buildings in Pioneer Square/Waterfront submarket have sold since 2009 (this doesn’t include a handful of projects that sold multiple times). These new owners needed to immediately increase rates to justify their purchase price and the expensive seismic updates frequently required by the city. In addition, investors often “re-position” buildings by spending additional money on updating lobbies, common areas, HVAC & electrical systems, and additional rental rate increases are required to pay for this investment. To put it in perspective here are three recent sales:
Grand Central: Purchased in 2013: $11.5 / Sold in 2014: $16.5M (30% increase)
Olympic Block: Purchased in 2005: $14.6M / Sold in 2015: $22.4M (35% increase)
51 University: Purchased 2010: $6.9M / Sold in 2013: $32.5M (79% increase)
As a general rule of thumb, a 10% vacancy rate is considered a “neutral market” for tenants & landlords. Pioneer Square’s vacancy rate is now a meager 7% (very landlord favorable) but it’s probably closer to 5% (extremely landlord favorable) after factoring in pending transactions and spaces that are considered “un-leasable”. Most of the good spaces have multiple tenants competing for them. We are also seeing landlords hold smaller space off the market so they can consolidate entire floors, which hurts startups because landlords need long term leases and high rental rates to justify the costs to deliver these spaces.
Constructing new buildings to add supply won’t be an option for most young companies because new construction buildings require 10-year leases for large amounts of space (+ 1 floor increments) at very expensive rates ($47 -$50). Therefore, proposed new office developments such as Hawk Tower and 450 Alaskan Way will bring large companies to the neighborhood and continue to support retail but offer no relief to startups.
So yes, the bad news is rates are likely to continue to go up in Pioneer Square due to the combination of low vacancy and new owners. However, there are a lot of positives to look forward to. The neighborhood is night and day improved from where it was in 2009; retail is booming, the streets are safer and real estate is growing. Also, new sophisticated owners are listening to tenants and adding amenities & better infrastructure to the commercial office buildings. Our historical district is finally becoming a 24-hour neighborhood and Seattle is officially on the map as one of the hottest cities in the nation… which can only be a good thing for business, right?
If you find yourself competing for space make sure your broker can clearly explain what your business does, how you plan to make money and why you want to be in the building. You’d be amazed how often landlords lose interest and don’t offer their best terms to companies they don’t understand. Especially when they are sitting behind a desk in San Francisco or Chicago.