Maryland DC

Virginia
Washington, DC
3RD QUARTER 2011

Uncertain Times Creating Excellent Opportunities

C
Metric

FEDERAL GOVERNMENT GRIDLOCK CONTRIBUTING TO LACKLUSTER DEMAND GROWTH

Like much of the United States, a stagnant economy is burdening job creation in the Districts private sector. With the exception of law firms, there has been very little employment growth in private sector industries. Even more significant to the Districts economy is the gridlock in Congress. The bulk of the Districts economic activity is derived from Federal Government employment and spending. Partisan negotiations on how best to deal with the economy while reducing the federal deficit is yielding little progress. Moreover, what is being accomplished is resulting in the defunding of certain government initiatives. Congress has let a number of leasing prospectuses languish as legislators try to reduce federal spending. This inaction has decreased the number of agencies looking for office space in the District. While this is creating some pentup demand, Congress is in the process of implementing new, more efficient and stringent leasing guidelines. As a result, future space requirements from the Federal Government could be much smaller than historically experienced leading to reduced demand. Also, there is a natural lull in law firm leasing activity. Most large law firms in the District are in the middle of their current leases. Only three firms have leases with over 90,000 square feet of space rolling during the next three years. As a result, the majority of the law firms will not be looking for space over the near term, and when they do reengage the market, they are expected to take less space. The way corporations and law firms are utilizing their space is also impacting demand for office space. Real estate decisions that were made in the past were predicated on business models that have changed. Real Estate executives are under pressure to rework the office footprint to match current

urrently, there is a high level of uncertainty in the District of Columbia office market. Both tenants and landlords are being impacted by a cadre of political and economic issues. As a result, business plans are being reevaluated and adjusted to align with the uncertain economic climate.

QUICK STATS
Washington, DC
Change From: Value 3Q 2010

Inventory Net Absorption Leasing Activity Vacancy Rate Rental Rate Deliveries Under Construction

139,910,405 1,203,216 11,181,355 11.3 % $ 49.72 1,155,967 1,860,615

DEMAND VS. SUPPLY FUNDAMENTALS

5,000 4,000 14% 12% 10% 8% 6% 4%
Overall Vacancy Rate Net Absorption Change in Inventory

EMPLOYMENT GROWTH
Professional & Business Services Communication/ Media Government Finance, Insurance & Real Estate Other

3,000 SF (thousands) 2,000 1,000 0 (1,000)

0 1,000 2,000 3,000

2%
3Q 2007 3Q 2008 3Q 2009 3Q 2010 3Q 2011

(2,000) (1,000)

(2,000)

3Q 2005

3Q 2006

0%

2010

WASHINGTON, DC
and future needs while also saving money. For example, law firms have been hiring new employees over the last 12 months, but they are requiring less space as they seek greater efficiency. There is a clear trend to smaller partner offices, electronic storage en lieu of large stacks and more open floor plans. Also, corporations in general are looking to implement new workplace solutions with an eye to telecommuting and hoteling. All of these changes are leading to a reduction in the size of the requirements resulting in slower demand growth for office space. So far this year, demand for office space has been increasing, but at a much slower rate than typically seen in the District of Columbia. Net absorption, the primary measurement of demand, has averaged 166,151 square feet per quarter since the beginning of the year. This is significantly lower than last year, when net absorption averaged 760,057 square feet per quarter, and over the last ten years, when it averaged 321,514 square feet. There is every indication that new demand will remain below historical levels over the next few years. This should continue to drive a favorable tenant environment for the foreseeable future. Most building owners continue to feel the competitive pressures in the marketplace. Many recognize the changes in the office leasing landscape and are focused on making deals happen rather than risk holding vacancy over a long period of time. As a result, landlords will be aggressive with pricing, concessions and tenant-friendly lease provisions until economic and political conditions change. Of the space currently under construction, only two projects have any significant blocks of space available. There is 149,633 square feet of space available at 1000 Connecticut Avenue, NW. This 394,145-square-foot building is expected to deliver during the second quarter of 2012. The building is anchored by Arent Fox. Also at City Center, two buildings, totaling 462,528 square feet, are expected to deliver during the second quarter of 2013. City Center is currently completely available. While a few other buildings including 440 1st Street, NW and 900 New York Avenue, NW may break ground in the next few quarters, the amount of space under construction is expected to remain below the historical average. Additionally, most projects that commence will not be available until 24 months after construction starts. As a result, tenants currently in the market are largely limited to the existing blocks of space, or will have to bear the expense associated with preleasing space in a new development project.

VACANCY RATES
During the third quarter of 2011, two buildings totaling 583,067 square feet delivered 75.2% vacant. With new supply outstripping new demand, the overall vacancy rate in the District of Columbia increased from 11.1% to 11.3%.
18% 16% 14%
All Classes Class A Class B

DEVELOPMENT ACTIVITY
While developers have continued to bring product to the market during the economic downturn, limited financing and lackluster demand have kept a number of office projects from breaking ground. At the end of the third quarter of 2011, only 1.9 million square feet of space was under construction in the District of Columbia. Over the last ten years, the amount of product under construction averaged 4.9 million square feet of space per quarter.
4,500 4,000 3,500 SF Delivered (thousands) 3,000 2,500 2,000 1,500 1,000 500 0
3Q 2005 3Q 2006 3Q 2007 3Q 2008 3Q 2009 3Q 2010 3Q 2011
Under Construction Deliveries

12% 10% 8% 6% 4%
3Q 2005 3Q 2006 3Q 2007 3Q 2008 3Q 2009 3Q 2010 3Q 2011

9,000 8,000 SF Under Construction (thousands) 7,000 6,000 5,000 4,000 3,000 2,000 1,000 0

2010 The majority of the vacant space is in Class A product. Over the last ten years, tenants have largely gravitated towards Class A product. This has led to a massive redevelopment of older inventory, removing large portions of the Class B inventory and transferring it to Class A. At the end of the third quarter of 2011, the Class A vacancy rate totaled 13.4%, while the Class B rate totaled 8.4%.

Vacant sublease space continued to decline during the third quarter, with only 1.3 million square feet available. This is down from last year when there was 1.8 million square feet of sublease space, and it is below the 10-year quarterly average of 1.4 million square feet.

2010

OFFICE MARKET
RENTAL RATES
During the third quarter of 2011, the direct average asking rate increased from $47.67 to $49.72 per square foot across all classes of office space. While generic rent growth did occur, the majority of the increase was from the delivery of new space and from the return of more expensive space around Metro Center. The vacancy rate of the properties around Metro Center increased from 8.6% to 9.1% during the quarter. This space is located in one of the most desirable areas in the city and commands some of the highest rental rates. As a result,
$55.00 $50.00 $45.00 $/ SF $40.00 $35.00 $30.00
All Classes Class A Class B

the Class A rental rate increased from $50.90 to $54.12 per square foot across the District of Columbia. In contrast, the Class B rental rate fell from $42.53 to $42.26.

Outlook
With the uncertainty tied to government spending and leasing coupled with a focus on efficiency, new demand for office space in the District of Columbia should remain below what has historically been seen. Both the Federal Government and major law firms will be relativity out of the market over the next few years so their impact will be relatively minor. Also, the economic uncertainty will prompt some firms to either stay put or hold over until they are more certain about their business plans. There is, however, little new available space expected to deliver in the near term. As a result, tenants in the market will largely focused on existing blocks of space in order to address their real estate needs. Despite this, all indications point towards a favorable leasing environment for tenants.

3Q 2005

3Q 2006

3Q 2007

3Q 2008

3Q 2009

3Q 2010

3Q 2011

2010

Lease Highlights Tenant

CareFirst DC Dept. of Mental Health Kelley Drye and Warren LLP U.S. Customs and Border Protection (CBP) Cassidy and Associates U.S. Health and Human Services (HHS) U.S. Department of the Treasury Milbank, Tweed, Hadley and McCloy McGraw-Hill National Quality Forum (NQF)

Building Location
840 1st Street, NE 64 New York Avenue, NE 3050 K Street, NW 90 K Street, NE 700 13th Street, NW 375 E Street, SW 1750 Pennsylvania Avenue, NW 1850 K Street, NW 1200 G Street, NW 1030 15th Street, NW

Submarket / Class
NoMA / A NoMA / A Georgetown / A NoMA / A East End / A Southwest / A CBD / A CBD / A East End / A East End / B

SF
204,314 165,000 107,102 96,000 71,126 58,143 52,028 51,860 43,915 41,217

Lease Type
Renewal/Consolidation Renewal/Consolidation Renewal Expansion Direct New Renewal Renewal Renewal Direct

Select Projects Under Construction Project

4619 41st Street, NW 500 N Capitol Street, NW 1000 Connecticut Avenue, NW 200 Eye Street, SE Broadcast Center One University of New York City Center 1616 Rhode Island Avenue, NW

Submarket / Class
Uptown / A Capitol Hill / A CBD / A Capitol Riverfront / A Uptown / A East End / A East End / A CBD / A

SF
40,107 211,818 394,145 421,017 121,000 75,000 462,528 135,000

% Leased
88.5% 72.1% 62.0% 100% 60.1% 100% 0.0% 100%

Type
Build-to-Suit Renovation Build-to-Suit Build-to-Suit Build-to-Suit Build-to-Suit Speculative Build-to-Suit

Delivery
4Q 2011 2Q 2012 2Q 2012 3Q 2012 3Q 2012 3Q 2012 2Q 2013 3Q 2013

MARKET STATS
Inventory Market
Capitol Hill

Demand
Under Construction
211,818

Vacancy
Overall %
13.4%

Rental Rate
Direct Asking
$ 51.55

Rentable Area
4,972,388

Deliveries*

Net Absorption*
(94,178)

Leasing Activity*
201,010

Sublet SF
14,894

Capitol Riverfront

4,939,180

414,029

421,017

(313,213)

304,267

16.7%

3,000

46.05

CBD

43,351,388

529,145

(524,902)

1,893,111

10.6%

532,854

51.72

East End

45,624,750

169,038

537,528

313,741

2,173,923

9.7%

511,311

53.78

Georgetown

2,966,782

(46,887)

266,210

13.1%

19,570

41.28

NoMa

9,592,427

436,713

725,921

15.4%

11,650

47.24

Northeast

1,164,487

(43,389)

24.0%

30.54

Southeast

461,231

5,952

13,474

5.5%

33.98

Southwest

12,488,649

369,501

2,175,971

14.7%

7,345

48.70

Uptown

9,837,422

140,000

161,107

103,833

329,848

8.4%

70,492

36.01

West End

4,511,701

432,900

291,282

235,219

9.0%

93,758

44.68

Washington, DC

139,910,405

1,155,967

1,860,615

498,453

8,318,954

11.3%

1,264,874

49.72

* Denotes Year-to-Date changes

CresaPartners is an international corporate real estate advisory firm that exclusively represents tenants and specializes in the delivery of fully integrated real estate services, including: Transaction Management, Project Management, Relocation Planning and Management, Strategic Planning, Workforce and Location Planning, Subleases and Dispositions, Lease Administration, Capital Markets, Sustainability, Supply Chain and Facilities Management. With more than 50 offices, CresaPartners is the largest tenant representation firm in North America. Internationally, CresaPartners
Information contained herein is provided, in part, from third quarter sources including: the US Bureau of Labor Statistics and CoStar Group. Even though obtained from sources deemed reliable, no warranty or representation, expressed or implied, is made as to the accuracy of the information herein.

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