There is never a good time for a pandemic, but JLL Canada chief executive officer Alan MacKenzie says things could be a lot worse for the office markets in six major Canadian cities.
“Notwithstanding the Alberta effect of oil and natural gas and what that’s done to office tenants in downtown Calgary, there actually could not have been a better time for COVID to hit against an incredibly healthy office segment — especially in Vancouver, Toronto and Montreal,” MacKenzie told RENX.
He was commenting on JLL’s Q1 2020 reports on the office markets in Vancouver, Edmonton, Calgary, Toronto, Ottawa and Montreal. MacKenzie joined JLL last September after serving as president of Triovest Realty Advisors.
MacKenzie said the office markets outside of Alberta are generally in solid shape owing to: well-capitalized property owners; institutional-quality management; diversified tenant bases; low vacancy rates; and well-staggered new product coming online over the next few years, much of it already pre-leased.
The pandemic shouldn’t change those strong fundamentals, though leasing deals are being delayed across Canada.
“This is not a five-year crisis,” MacKenzie told RENX. “It’s probably a five-month sort of scenario before things start to stabilize.”
Here’s an overview of the six Canadian markets:
Vancouver office snapshot
The Metro Vancouver office market maintained its vacancy rate of 5.1 per cent in the first quarter.
There was 120,000 square feet of new product delivered downtown during the quarter, with another 353,053 square feet expected during the rest of the year which is already 91 per cent pre-leased.
Just under four million square feet is under construction downtown and 65 per cent is pre-leased.
Westbank’s 75,000-square-foot creative space at the Vancouver House development has been completed and leased to Global University Systems, which will take occupancy in the fourth quarter.
Oxford Properties’ nine-storey, 150,000-square-foot building at 402 Dunsmuir St. is scheduled to be delivered this quarter. It’s 100 per cent pre-leased by Amazon.
MPC vacated its space at 1132 Hamilton St., bringing 38,500 square feet to the Yaletown neighbourhood.
Slack left nearly 22,000 square feet at Pacific Reach’s restored 1911 building at 1028 Hamilton St. MPC’s space remains available and Teck Resources is scheduled to take occupancy of Slack’s space in the third quarter.
In the suburbs, PCI Developments completed 105,000 square feet of office space at the First West Credit Union Building at 19933 88th Ave. in Langley. It’s 76 per cent pre-leased, including 62,500 square feet to First West Credit Union.
While office construction continues, some sites have been tracking three to four weeks behind schedule due to supply chain issues. MacKenzie said getting municipal permits is also taking 30 to 45 days longer than normal.
There have also been some leasing delays.
“You’ll typically have a few tenants that have deals that are in conditional periods of time that are pausing for a quick moment to make sure their business continuity plans are in place,” MacKenzie said.
“I don’t think we’re going to run into an extended period of time where there are deals that die in Vancouver. There’s more demand than there is available space.”
Although co-working and tech companies could see slowdowns, MacKenzie said, Vancouver’s outlook remains positive.
The Alberta economy has endured tumbling oil prices, missed projections within the budding cannabis industry and COVID-19, which will all likely affect the Edmonton market through 2020.
Edmonton’s class-A space experienced 15,036 square feet of negative net absorption in Q1 and had a vacancy rate of 17.9 per cent. Class-B space contracted with 27,932 square feet of negative net absorption and had a historically high vacancy rate of 20.5 per cent.
MacKenzie is concerned class-B vacancies could further increase if tenants continue to suffer in the sluggish economy and landlords can’t backfill empty space.
“There was a significant flight to quality from what I call B-class downtown office to the brand new A-class space over the last two or three months,” said MacKenzie.
“That A-class space is leased up and fairly healthy.”
Average asking net rent contracted by 1.4 per cent year-over-year, from $19.14 per square foot in Q1 2019 to $18.87.
While the downtown vacancy increased by 1.4 per cent year over year to 19.1 per cent in the first quarter, Edmonton’s diversified mix of government, technology, natural resources, finance and life science tenants leaves it in a better position for recovery than Calgary’s more oil- and gas-dependent office market.
Calgary’s downtown office vacancy rate increased 200 basis points to 24.6 per cent. The additions of Westbank’s TELUS Sky and the vacated Nexen Building to the market inventory pushed the number up.
“There’s a flight to quality to the AAA trophy office buildings because the rents for those companies that are doing OK have come down significantly enough, and the inducements have gone up significantly enough, to induce them to come downtown,” said MacKenzie.
“Bankers Hall and other first-class projects aren’t suffering quite as much and they’re receiving the majority of the demand that’s in the marketplace. It’s Beltline, suburbs and B-class that’s being hit very, very hard.”
The downtown market recorded 232,909 square feet of negative net absorption in the first quarter as Oxford’s 286,000-square-foot Devon Tower sub-lease space was formally brought to market.
“Even though there’s a lot of sublet space on the market, even more sublet space could come on the market as tenants pull back or go out of business,” said MacKenzie.
Toronto’s office vacancy reached a new record low of 1.9 per cent, driven by smaller transactions of less than 20,000 square feet. Strong leasing activity continued in new development, led by Google’s occupation of all of Carttera’s 400,000-square-foot 65 King East.
Spaces joined B+H Architects at Menkes’ The Permanent at 320 Bay St., leasing roughly 60,000 square feet on three floors.
IBM is the latest tenant to sign onto Cadillac Fairview and the Ontario Pension Board’s 16 York, leasing about 60,000 square feet for its first major downtown office.
Kevric’s 99 Atlantic is now fully leased, with the addition of Sony Music’s 19,000 square feet and Blue Ant Media’s 38,000 square feet.
New construction starts in Q1 totalled 430,000 square feet.
The Ontario government has halted office construction until at least May 6, so building completions will be delayed. MacKenzie noted some contractors may be reluctant to return to work when the shutdown ends, due to concerns about the pandemic.
“The labour issue is going to cause instability and further delays,” he predicted.
Near-term, heightened pressure is expected for certain industries, including co-working and physical-product-based businesses, as well as for landlords with exposure to short-term leases.
MacKenzie said Toronto’s strong fundamentals, with historically low unemployment and vacancy rates, put it in good shape to “withstand all of the forces of COVID-19.”
Suburban demand outpaced Ottawa’s largely stable downtown office market, pushing vacancy to its lowest level since 2013 at 6.6 per cent. Average Q1 rents rose 3.6 per cent year-over-year, driven by downtown class-A and suburban assets.
Despite complaints about performance issues after the launch of Ottawa’s Confederation Line LRT in the fall of 2019, it’s been a significant driver of activity.
Suburban move-ins primarily led absorption in the first quarter, specifically in Ottawa East, as the federal government began occupying new expansion space along the LRT.
Conversely, class-A buildings in the core were the only downtown office assets to record positive net absorption, totaling more than 82,000 square feet in occupancy gains.
Historically low unemployment, a low vacancy rate and a diversification of the tenant mix in recent years will provide some buffer to the uncertainty caused by COVID-19.
As the seat of the federal government, Ottawa also occupies a somewhat unique position. In past crises, the government has injected financial stimulus in order to prop up federal leasing activity.
“This is a market that at times can look and feel a little bit like Edmonton, except it’s not exposed to oil and gas,” said MacKenzie.
Following a very active 2019, the Montreal office market experienced 336,498 square feet of positive net absorption in the first quarter – 90,000 square feet higher than the 10-year average.
Class-A buildings made up 95.3 per cent of this absorption.
More than half that leasing activity took place downtown, with tech being an important demand driver.
Software company Behavox is taking 50,000 square feet at Ivanhoé Cambridge and Manulife Real Estate’s Maison Manuvie.
Hospitality company Sonder is leasing 50,000 square feet at Allied Properties REIT’s newly renovated 425 Viger, where Google will also occupy space by the end of year.
While office construction has been shut down by the Quebec government due to COVID-19, Montreal is experiencing its largest office boom in 20 years. More than three million square feet is being developed in response to historically strong demand.
Half of the new office buildings are build-to-suit; the other half are speculative. The pre-lease rate is at 46.4 per cent, leaving 1.7 million square feet of new availability over the next three years.
Uncertain demand due to the pandemic may stall pre-leasing for current projects, increase vacancy rates, offer favourable opportunities to tenants and delay new development launches.
Montreal’s vacancy rate of 9.4 per cent makes it potentially more volatile than Toronto and Vancouver, which have much lower rates.
MacKenzie said since the city entered its boom phase later than those other two markets, it hasn’t had time to experience the same benefits.
JLL maintains an inventory of tenants looking for space. MacKenzie said there’s a backlog in Toronto while Montreal has a shallower demand pool, so its new space might not be absorbed as quickly.
Montreal’s diversified economy, however, has made its office sector resilient in previous financial crises.