San Diego Business Journal

The surge in new commercial real estate construction that began in 1997 continues fast and furious. By the time 1999 draws to a close, San Diego County will have witnessed more than 13 million square feet in new office, industrial and R & D; completions, the highest amount of new construction ever reported in a single year.

This year's record?breaking activity will bring to 29 million square feet the amount of speculative and build?to?suit space completed in all sectors since 1996 , the same amount of space completed during the 1986?89 building boom.

While this flurry of construction has caused vacancy rates to increase, there are no signs of a long?term overbuilt situation. Research by Burnham Real Estate Services shows that net absorption remains strong in all sectors except research and development (R & D;). This, coupled with the fact that the amount of planned construction is declining, should ensure that any oversupply is temporary.

What follows are highlights of the San Diego County office and industrial markets. All construction figures reported by Burnham Real Estate Services include speculative and build?to?suit activity. Net absorption measures the occupancy of newly constructed build?to?suit to own facilities, as well as buildings available for lease.

Vacancy rates, on the other hand, are calculated on speculative inventory only. Burnham's industrial survey inventory consists of buildings 20,000 square feet and larger; its office survey inventory comprises buildings with a minimum of 10,000 square feet.



INDUSTRIAL MARKET

Studies by Burnham Real Estate Services show that San Diego County industrial building activity has hit a record high this year, exceeding the previous all?time record set during the boom year of 1989. For the three quarters ended Sept. 30, 1999, the countywide industrial market led all other commercial real estate sectors with 6 million square feet of newly completed space. Another 2.8 million square feet are in various stages of building, 1.4 million square feet of which Burnham expects will be finished by year?end. Combined, the 7.4 million square feet of expected industrial completions this year surpasses the 3.8 million square feet of space completed in 1989 by more than 95 percent.

Over the past four years, Burnham research shows that the San Diego County industrial market has added 16.9 million square feet of new space. This compares to 12.1 million square feet completed during the 1986?89 period and represents 30 percent of the county's entire pre?1996 speculative inventory.

This wave of new construction has caused the San Diego County industrial vacancy rate to increase to 13.5 percent, up from 7.7 percent at year?end 1998. Still, demand remains strong evidenced by 2.8 million square feet of net absorption during the first three quarters of the year alone. With just 670,000 square feet of space currently under construction and expected to be completed in 2000, along with only another 430,000 square feet planned, any excess supply should be absorbed with vacancy settling at 12 percent by year?end 2000.

& #711; Development Pushed
To Outlying Areas
The shortage and higher cost of land in the mid?county has pushed development to outlying areas. Over the last two years, 63 percent of San Diego County's total industrial construction activity has occurred in the North County communities of Vista, Poway and Carlsbad. Of these, Vista has added the most square footage with 2.9 million square feet completed and more than 500,000 square feet still under way. Poway follows with 2.4 million square feet completed and another 352,000 square feet are under construction.

Since January 1998 Carlsbad has nearly doubled its speculative inventory base with 2 million square feet of new construction.

The San Diego County submarkets with the highest building activity report higher vacancy rates and net absorption. Vista alone accounts for 40 percent , or 1. 1 million square feet , of the region's 2.8 million square feet of year?to?date absorption, followed by Poway with 988,000 square feet.

Bray Mesa ranks fourth in the county in terms of new construction over the last two years; likewise its absorption activity is strong with 203,000 square feet reported for the nine?month period ending Sept. 30, 1999. The increased activity in Bray Mesa is directly attributable to the expansion of companies doing business in Mexico as well as its land being one of the lowest?priced alternatives in the county.



OFFICE MARKET

The San Diego County office market also reports a decade?high record in new construction. During the last two years of the recent four?year construction cycle (1996 through 1999), the county saw the addition of 6.2 million square feet of new office space representing 15 percent of the market's pre1996 speculative inventory.

As a result, the San Diego County office vacancy rate reached 10.6 percent as of Sept. 30, 1999, up from 9.1 percent at year?end 1998.

As with the industrial market, Burnham Real Estate Services sees no evidence of a long?term office oversupply, evidenced in part by 1.2 million square feet of year?to?date net absorption. Additionally, with 75 percent of space scheduled to be complete by year?end already preleased, the market could see net absorption for the year approach 1.7 million square feet.

Certain San Diego County office submarkets, such as Carlsbad and Sorrento Mesa, are leading the county in new office construction and experiencing subsequent higher vacancy rates. Carlsbad, for example, added 652,000 square feet of new space during the first nine months of the year, causing its vacancy rate to hit 22.4 percent. A surprising 80 percent of the new space built in Carlsbad was speculative, again spurred by land availability.

Sorrento Mesa, with 1.4 million square feet of new construction, reports 19 percent vacancy, up from an all?time low of 2.2 percent in mid? 1998. Unlike Carlsbad, 70 percent of Sorrento Mesa's new construction activity was accounted for by build?to?suits.

& #711; Vacancies Can
Shift Dramatically
Rancho Bernardo office vacancy jumped to 21 percent during the third quarter of 1999, due primarily due to the completion of The Point by Legacy Partners, a 186,000?square?foot project. In small submarkets like this, vacancies can shift dramatically from quarter to quarter during heavy construction periods

due to the timing of finished construction, lease?up and final occupancy.
The Point is already posting strong tenant interest and is close to a large transaction with Motorola.

University Towne Centre (UTC) has seen the addition of nearly 1.4 million square feet since 1997. Despite this, its third quarter vacancy rate of 11.4 percent is an improvement over the prior three months. This solid performance is due to healthy tenant activity which prompted 410,000 square feet of net year?to?date absorption, the second-highest office absorption rate in the county.

Also helping the UTC area's vacancy rate is the fact that fully one?third of the new space added to the market is accounted for by build?to?suits. Tenants are also attracted to the "flex" office product that is dominating new construction in the UTC area. This two?level, steel?frame configuration with tiltup paneled walls offers larger floor plates that work well for technology and back office tenants while still delivering value. As a result, UTC is able to draw tenants that previously preferred R & D; product for economical reasons.

Several San Diego County submarkets posted vacancies less than 10 percent during the third quarter: Downtown (Class A), 9.2 percent; Kearny Mesa, 9.4 percent; Mission Valley, 7.2 percent; Del Mar Heights, 3 percent; Governor Park, 3.3 percent; La Jolla, 3.5 percent; and Scripps Ranch, 9.6 percent.

In conclusion, the outlook for the San Diego County office and industrial markets is quite bright, with healthy demand and gradually slowing construction forecast for 2000. As long as the supplydemand ratio stays in check, and Burnham Real Estate Services believes that it will, any short?term oversupply will be quickly absorbed assuring that vacancy rates stay in manageable ranges.

Hillestad is director of research with Burnham Real Estate Services in San Diego. The Burnham web address is (www.burnhari7realestate.com).