Office Research

Market Report Second Quarter 2018

Philadelphia Metro Area

Landmark Development Year Marked

By Falling Vacancy and Rising Rents Office 2018 Outlook

Consistent demand drops vacancy to post-recession low. 2.7 million sq. ft. Construction:
Corporate expansions underway in Philadelphia are maintaining a Excluding the Comcast
will be completed
steady pace of hiring and sustaining a need for more office space. Technology Center and the
Demand extends beyond the handful of landmark construction University City Science Center,
projects coming to fruition this year as strong absorption pushes deliveries will top 1 million square
the metro’s vacancy rate down to its lowest level since 2008. The feet, a three-year high.
desire for quality is clear, as vacancy among Class A buildings
rests below 5 percent in multiple submarkets, including Navy Yard 20 basis point Vacancy:
and West Philadelphia. Competition over premium space allows With the largest construction
decrease in vacancy
recently renovated older properties to draw high-profile tenants. projects predominantly pre-
As more upgraded stock is becoming available to rent, the average leased, Philadelphia’s vacancy
asking rate will rise, continuing a five-year trend. rate will dip 20 basis points to
13.7 percent.
Prominent projects open
Price Per this year.
Square Construction activity will
Foot Trends
reach a cycle high in 2018 as developers complete several major 1.8% increase Rents:
developments. Beyond Comcast’s second downtown skyscraper The average asking rent for
in asking rents
Year-over-Year Appreciation

20%science center at uCity Square, there are two other

and the new marketed space will improve to
Camden-area projects that are over 200,000 square feet in size: $24.93 per square foot, following
10%
Subaru’s new North American headquarters in Merchantville and a 1.6 percent rate of appreciation
Camden Tower in Gloucester City. The 175,000-square-foot Axalta in 2017.
0%
Global Innovation Center will also open in Navy Yard later this year,
expanding-10%
the coating supplier’s presence in the metro area.

-20%
08 09 10 11 12 13 14 15 16 17 18*
Investment Trends
• Sales velocity in suburban Philadelphia rose 8 percent year over
Local Office Yield Trends year in March as investors became increasingly interested in
Office Cap Rate 10-Year Treasury Rate properties located outside the urban core. A record number
of trades for the metro was achieved in part by a pick-up in
12% deal activity in Delaware and Bucks counties. Those areas
have received less capital investment, creating more value-add
9% opportunities than found elsewhere in the market.
Rate

6% • The market’s average cap rate for office transactions increased

30 basis points since last April, after falling in six of the past
3% seven similar annual time periods. Initial yields on assets traded
in the past 12 months range from sub-6 percent downtown to
0%
00 02 04 06 08 10 12 14 16 18* mid-8 percent in some suburbs.
• Investors have shown greater attention to medical office
buildings in recent years. Sales velocity for such properties has
improved by a high margin compared to just five years ago.
Within suburban Philadelphia, demand has improved the most
for retail-adjacent medical centers in shopping-centric Exton.
* Cap rates trailing 12 months through 1Q18; 10-Year Treasury up to March 29
Sources: CoStar Group, Inc.; Real Capital Analytics
Philadelphia
1Q18 - 12-MONTH TREND

Employment Trends EMPLOYMENT:

Price Per Square Foot Trends
Non-Farm Office-Using 1.2% increase in total employment Y-O-Y
6%

Year-over-Year Appreciation
20%
Year-over-Year Change

• In the year ending in March, employers added 35,200

3% 10%professionals to payrolls, about 10,000 fewer individuals
than during the previous annual period.
0% 0%
• The metro’s unemployment rate fell 10 basis points to
-3% -10%4.7 percent over the past four quarters and is 60 basis
points above the national level. The comparatively higher
-6% -20%unemployment rate will aid recruiting efforts this year.
08 09 10 11 12 13 14 15 16 17 18* 08 09 10 11 12 13 14 15 16 17 18*

Office Completions CONSTRUCTION:

Local Office Yield Trends
Completions Absorption
700,000
Office Cap Rate square
10-Year
feet Treasury
completedRateY-O-Y
3,000
•
12%Construction activity lessened over the 12-month period
Square Feet (thousands)

1,500 ending in March, as developers completed 160,000

9%
fewer square feet than in the previous year.
0
Rate • 6%
Buildings with over 100,000 square feet of office space
-1,500 opened in West and North New Castle County as well as
3%
in King of Prussia. All three are fully leased and include
-3,000 the new CSC headquarters in Wilmington.
0%
08 09 10 11 12 13 14 15 16 17 18* 00 02 04 06 08 10 12 14 16 18*

Vacancy Rate Trends VACANCY:

Metro United States 10 basis point decrease in vacancy Y-O-Y
20%
• Vacancy declined to a 10-year low in the year ending in
15% March, marking the fifth consecutive year that the vacancy
Vacancy Rate

rate has dropped.

10%
• Submarket vacancy rates fell in ranges of 400 to 600
basis points in Upper Bucks County and Fort Washington/
5%
Spring House. Lack of construction aided the absorption
0%
of existing space in both areas.
08 09 10 11 12 13 14 15 16 17 18*

Asking Rent Trends RENTS:

Metro United States 1.4% increase in the average asking rent Y-O-Y
8%
• The average asking rate for marketed space rose to
Year-over-Year Change

4% $24.54 per square foot over the past year. In the previous
period, rent growth was 3.4 percent.
0%
• Less available space downtown is reorienting demand
-4%
toward the suburbs, supporting an annual growth rate of
1.6 percent in the average asking rent. Inside the central
-8% business district, that same measure is 0.4 percent.
08 09 10 11 12 13 14 15 16 17 18*

* Forecast
 Office Research | Market Report

DEMOGRAPHIC HIGHLIGHTS

2018 FORECAST JOB GROWTH *POPULATION AGE 20-34 **SQ. FT. PER OFFICE WORKER

Metro 1.3% Metro 21% Metro 303

U.S. Average 1.2% U.S. Average 21% U.S. Average 213

**OFFICE SQUARE FOOTAGE

22% Urban
2018 OFFICE-USING JOB GROWTH POPULATION OF AGE 25+ U.S. Average 32%
*PERCENT WITH BACHELOR DEGREE+
Metro 1.4% 78% Suburban
U.S. Average 2.2% Metro 34% U.S. Average 68%

U.S. Average 29% * 2017

**1Q18

Lowest Vacancy Rates 1Q18 Philadelphia’s Offices Garner Wider Appeal

Among National and Global Investors
Y-O-Y
Vacancy Asking Y-O-Y %
Submarket
Rate
Basis Point
Rent Change • Transaction velocity improved 4 percent year over year
Change
in March, after increasing 25 percent last year.
• The market’s average sale price has grown 35 percent
since its post-recession low of $120 per square foot
SUBMARKET TRENDS

Navy Yard 3.4% -110 $35.12 1.6% in 2010. Now at $162 per square foot, Philadelphia
remains the most affordable gateway office investment
SALES TRENDS

West Montgomery County 4.9% -70 $23.27 3.2%

market on the East Coast.
Sussex County 5.1% -190 $17.40 10.8% Outlook: Low entry costs and high yields will continue
to draw out-of-state investment, which has been on a
Northwest Philadelphia 7.2% 0 $19.56 -5.4% consistent rise since the recession as more buyers hail
from the Midwest and western United States.
Upper Bucks County 8.1% -440 $20.50 -3.0%

Gloucester County
Employment Trends
8.4% 20 $13.63 -1.7%
Price Per Square Foot Trends
Non-Farm Office-Using
West New Castle County
6% 8.5% 30 $23.58 -1.3%
Year-over-Year Appreciation

20%
Year-over-Year Change

Market Street East 3% 8.8% -200 $29.23 3.3% 10%

West Chester 0% 8.8% -40 $22.99 -1.8% 0%

-3% -10%
West Philadelphia 9.4% -270 $18.30 -9.0%

-6% -20%
Overall Metro 13.8% -10 $24.54 1.8%
08 09 10 11 12 13 14 15 16 17 18* 08 09 10 11 12 13 14 15 16 17 18*

* Trailing 12 months through 1Q18

Office Completions Pricing trendLocal Office
sources: CoStarYield
Group,Trends
Inc.; Real Capital Analytics
Completions Absorption Office Cap Rate 10-Year Treasury Rate
3,000
12%
nds)
 Office Research | Market Report

1Q18 Office Acquisitions By WILLIAM E. HUGHES, Senior Vice President,

By Buyer Type
Marcus & Millichap Capital Corporation
Other, 1%
Cross-Border, 8% • Fed raises benchmark interest rate, plots path for additional
increases. The Federal Reserve increased the federal funds rate
by 25 basis points, lifting the overnight lending rate to 1.75 percent.
Private, 62%
The Fed noted that inflation has broadly reached its objective, while
the domestic economy is performing tremendously well as tax cuts
Equity Fund
& Institutions, 24% power household spending and corporate investment. As a result,
the Fed has guided toward two additional rate hikes this year, likely

CAPITAL MARKETS
in September and December, while setting the stage for as many
Listed/REITs, 5%
as four increases in 2019.
• Lending costs rise alongside Fed rate increase. As the Fed
Office Mortgage Originations continues to lift interest rates, lenders are increasingly tightening
By Lender
margins in order to compete for loan demand. Despite these
100% efforts, borrowing costs remain on an upward trajectory, which may
Percent of Dollar Volume

CAPITAL MARKETS
prompt investors to seek higher cap rates or pursue greater returns
75% Nat'l Bank/Int'l Bank in secondary markets. However, robust economic growth and
CMBS
Financial/Insurance rising net operating incomes are keeping selling prices elevated,
50%
Reg'l/Local Bank which may widen an expectation gap as property performance and
Pvt/Other demand trends remain positive.
25%
• Lending continues to be highly competitive. While the Fed
0% has committed to tightening policy, global markets and foreign
12 13 14 15 16 17 central banks are keeping pressure down on long-term interest
rates, restraining the 10-year Treasury to the 3 percent range.
Banks, commercial mortgage-backed securities (CMBS) and life
Include sales $2.5 million and greater insurance companies are providing debt for office assets, with
Sources: CoStar Group, Inc.; Real Capital Analytics
leverage at banks typically capped at 65 percent. Meanwhile, life
insurance companies will typically provide capital with leverage
between 60 and 65 percent, with CMBS offering up to 70 percent.
Lender spreads have narrowed in recent months, while 10-year
National Office and Industrial Properties Group loan structures will typically range between 4.25 and 5.25 percent,
depending on tenancy, location, sponsorship and loan-to-value
ratio. Minimum debt service coverage required is 1.3 times expected
Alan L. Pontius
Senior Vice President, National Director | Specialty Divisions
asset revenues, supporting debt yields of 8.5 percent. The national
Tel: (415) 963-3000 | al.pontius@marcusmillichap.com economy should grow strong and office demand should support a
10-basis-point decline in vacancy to 13.7 percent nationally.
Prepared and edited by
Cody Young
Research Associate | Research Services
Philadelphia Office:
For information on national office trends, contact:
John Chang Sean Beuche Regional Manager
Senior Vice President, National Director | Research Services 2005 Market Street, Suite 1510
Tel: (602) 707-9700 Philadelphia, PA 19103
john.chang@marcusmillichap.com (215) 531-7000 | sean.beuche@marcusmillichap.com

Price: $250

© Marcus & Millichap 2018 | www.MarcusMillichap.com

The information contained in this report was obtained from sources deemed to be reliable. Every effort was made to obtain accurate and complete information; however, no
representation, warranty or guarantee, express or implied, may be made as to the accuracy or reliability of the information contained herein. Note: Metro-level employment
growth is calculated based on the last month of the quarter/year. Sales data includes transactions valued at $1,000,000 and greater unless otherwise noted. This is not intend-
ed to be a forecast of future events and this is not a guaranty regarding a future event. This is not intended to provide specific investment advice and should not be considered
as investment advice.
Sources: Marcus & Millichap Research Services; Bureau of Labor Statistics; CoStar Group, Inc.; Experian; Moody’s Analytics; Real Capital Analytics; TWR/Dodge Pipeline;
U.S. Census Bureau