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Sacramento Office Market – The Tale of two Sub-markets

What keeps you up at night?  Your kid’s latest Instagram post or their curfew violation?  How about Croatia’s upcoming match versus England?

For me it is Sacramento office leasing and sales.  Last week I got up around 3:00 AM with the question: How have office values behaved in Midtown and Downtown over the last 3 years?  While the criteria for each sub-market is different – Midtown’s office market is much smaller with much smaller deals – I think you can glean some insights and uncover some opportunities. Before I get into the data, I have a recent experience that is relevant.

In March, 2017 I listed a 6400 s.f. office building located at 1419 21st in Midtown Sacramento; the initial pricing was $1.8 Million. The asking price was high – this is known as Unicorn pricing.   Let me make this perfectly clear: Unicorns – like the Loch Ness Monster and Big Foot- are a myth. If a broker begins to tell you that they can sell your property for 30% more than anyone else (without any basis) be wary.

With this being said, the owner still wanted to find the Unicorn, but we agreed that we would not wait too long.  So, within 45 days we reduced the price to $1.5 million. Then after 12 months and three escrows, the building sold for $1.2 million ($185 a foot.)  Given the building’s location, parking and lack of available alternatives, you would have thought the building would sell for more. However the property sold for less because the cost to rehab the building exceeded $65 per square foot.

While Midtown and Downtown are adjacent, they differ in many ways. However, one difference that I thought was odd – but explainable – was the appreciation of values since 2015.

Office Building Sales:

Midtown (buildings over 1,500 SF)             Downtown (buildings over 25,000 SF)

Year                 $/S.F                                        Year                 $/SF

2015                $195                                        2015               $180

2016                $248**                                     2016               $181

2017                $194                                        2017               $224

2018                $185                                        2018               $378

** For Midtown, 2016 was a frenzied year where interest rates were very low and certain brokers really pushed values up with no real logic behind the escalation. There were a few properties acquired by Bay Area Unicorns at relatively high prices.  Midtown’s 2016 price levels raised seller’s expectations, and there are properties still on the market that remain unrealistically priced.

In Midtown, sales comps under 5,000 Square feet averaged $40 a square foot higher.

For Downtown, 2018 started of with a record sales price of $421 a square foot for 621 Capitol Mall. This leads us to the odd but explainable: Why is the appreciation of values in downtown that much greater than midtown? The answer is simple: Sacramento is now on the radar of institutional investors, and Downtown is where they are looking. Midtown lacks institutional product – both from a quality level and from a project size.

Over the years, I have seen that if you have a quality project in a market where lots of inferior properties exist, there is always a flight to quality. We have seen this in the residential arena with market rate housing setting records for rents and sales prices. On the office side, Mike Heller and Mark Friedman have substantiated this theory with projects like Ice Blocks, 2600 Capitol and the mixed-use development where Mikuni’s is located.

So If you own, or you are looking to own, property in Midtown Sacramento, what is the play?

  • As an owner user, I think that if you can pick up well located assets where you are all in (after rehab costs) for less that $250 a foot you will benefit from a steady appreciation and protection from probable rent escalations. Since it can cost anywhere from $25 to $100 a square foot to stabilize a property, the price point is anywhere from $150 to $225 a foot.
  • As an Investor, Midtown is a good place to invest if you buy buildings that are not functionally obsolete, are well located, and have parking.  Depending on hold time and buying motivation (say 1031), I think higher prices can be rationalized.
  • As an owner, you can systematically invest in your property and enhance the value, knowing that the market dynamics support the investment.
  • If you are a seller, then with the right marketing program and with a proactive broker representing you, you can sell your property for a good price by emphasizing the market dynamics, to in essence, “sell the dream.”  However the dream has to be substantiated.

While we are bound to see a downturn in the overall economy, I think that the Downtown and Midtown markets will, in the worst case, flatten out.  The reason for this is Sacramento’s new Value Proposition.

If you are looking to buy, sell or lease commercial property or you are just looking for some objective input,  feel free to call me at (916) 761-1202 or email me at tom@baconcre.com.  Happy to share the underlying comparable information as well.

Talk is Cheap. Downtown and Midtown Sacramento Have the Walk to Back it up!

While the Sacramento commercial real estate market seems white-hot, with property flying off the shelf, most buyers of commercial properties (not to be confused with multifamily) are deliberate and sensible.

Recent sales in Midtown and Downtown certainly show that values are up, and the sales demonstrate that the Arena effect is more than hype, it is real.  This being said, I think there is more to the story than meets the eye.

Long before the Arena, several larger projects were underway or far along in the planning stage.  So while the Arena has stoked the fire, market dynamics were already at work to make Midtown and Downtown dynamic and thriving.  The Arena just put gasoline on the fire.  Properties that were not moving, have moved, and values have escalated significantly.   Midtown was doing well in its own right, with the majority of new development happening there.  But for Downtown, the Arena catapulted it exponentially.

Recent sales to go down in the Midtown and Downtown Markets include:

  • 1234 H Street. A 2 story, 11,000 S.F. Office Building bought for $1,990,000 ($179 per S.F.) by a law firm (professionally represented by Tom Bacon) that will be occupying the top floor.  The building has 22 parking spaces on site.  The ground floor is available for lease at $1.75 a foot.  The prior asking rent was $1.95 a foot.
  • 2831 G Street. A 2 Story, 10,025 S.F. office building was bought by a user group for $1,925,000 ($191 per S.F.)
  • 1001 G Street, 15,500 S.F. on three floors was bought by Tim Taylor  for $2,880,000 ($180/S.F.)  This building has more parking than most buildings downtown and has about 4,000 S.F. available.
  • 1030 G Street is a 6400 S.F. building with covered parking that sold for $1,525,000 or $238 per S.F.

One thing that all the properties have in common:  Great Parking; it just makes life easier.

A comprehensive Comp Study is available.  Please contact Tom Bacon for your free copy, tbacon@kiddermathews.com.

Owner User? Buy the Fundamentals

Don’t Buy the Hype, Buy the Fundamentals

I am the first to promote how all the trends and developments in Sacramento’s central core aka THE GRID are supporting significant increases in rents and property values. If rents weren’t going up, we wouldn’t have market rate housing like Powerhouse 16 developed. But if you are an office user that would like to buy an office building or office condo, don’t forget the fundamentals.

When advising an owner user client in the purchase of a property I recommend that my client, in addition to typical purchase decision items,  consider the following:

  • What is the exit strategy? If for some reason you need to move out of the building, will you hold the asset and lease it out, or will you sell it? Is the property single purpose, or will it appeal to a broad base of potential occupants?
  • What is the replacement cost? What would it cost to build the building from the ground up versus the total cost to buy and occupy? You might buy a building for what seems like a “deal”, but after you finish renovating, your total cost could exceed replacement cost. That’s OK if the property works for you; hopefully market forces will support the investment over the long term.
  • What is the Property worth as a leased investment? Just because you are an owner user doesn’t mean that you should pay an over market price for real estate. Certainly, as an owner user you can justify paying more than what an investor would pay, but be sure to consider what an investor would pay if the building was valued as a leased investment (at market rents.)

Owning definitely has it’s positives, but when the price gets too high, you might be better off as a tenant.  If you end up leasing, the owner gets to take care of maintenance, taxes, capital improvements and assorted management headaches. You can focus your energies on building your business!