Forget the small stuff. For office landlord Douglas Emmett, it’s the big office tenants that are hurting the bottom line.
For the Santa Monica-based real estate investment trust, a wave of leasing deals with smaller tenants and a record amount of renewals haven’t made up for a lack of demand among large office users, CoStar News reported, citing a regulatory earnings call.
Douglas Emmett executives say growing demand among smaller office tenants doesn’t make up for the chunks of vacant offices abandoned by big companies committed to cutting costs.
“Our small tenant leasing pipeline is better than strong, it’s great,” Jordan Kaplan, CEO of Douglas Emmett, told analysts on the firm’s earnings call. “We’ve seen a fantastic amount of leasing driven by our smaller guys doing a lot of renewing and some new deals.
“But because of some larger ones, we’re not getting the new activity we need to make gains and refill the space when a larger tenant moves out.”
Douglas Emmett, which classifies a large tenant as those that occupy 20,000 square feet or more, signed nearly 215 leasing deals in the first quarter totaling 1.2 million square feet.
About 987,000 square feet were renewal agreements, the second-highest quarter for renewals since the firm was founded in 1971.
Despite the rush to renew, occupancy across the firm’s office portfolio dropped to a little more than 80 percent for the quarter ended March 31, compared to 83 percent a year earlier.
The firm’s office occupancy is expected to take another hit with the exit of Warner Bros. Discovery, which opted not to renew its lease for more than 456,000 square feet at 3400 West Riverside Drive in Burbank, according to CoStar.
The company is Douglas Emmett’s largest office tenant, according to regulatory filings, and makes up 4 percent of the REIT’s total office revenue.
Kaplan expects to refill the offices, once vacated, with a large mix of smaller tenants, rather than one larger user.
More than half of Douglas Emmett’s office portfolio, which covers nearly 18 million square feet between greater Los Angeles and Honolulu, is made up of tenants that lease less than 2,500 square feet.
Only two tenants occupy more than 100,000 square feet, including Warner Bros.
“The large tenant leasing hasn’t picked back up, and that’s our problem,” Kaplan told the analysts. “We’re going to have to see the mindset of these businesses shift from being rewarded for cost-cutting to being rewarded for growth strategies that require new capital investments.
“Large tenants are very cautious whether they think we are in a recession, going into a recession or the cost of capital is just so high that they’re improving earnings by shrinking expenses rather than creating new revenue.”
The last quarter for Douglas Emmett marked a nearly 24 percent rise in leasing activity, Stuart McElhinney, vice president of investor relations, said, while the landlord hiked rents across its portfolio “despite demand challenges for new and large tenants.”
National office vacancy, caused by companies shifting to remote work and shedding record amounts of space, has climbed to nearly 14 percent, according to CoStar.
Tenants collectively returned more than 65 million square feet last year, boosting the total to more than 180 million square feet of move-outs since the start of 2020. At the same time, new leases have shrunk considerably, averaging 20 percent smaller than their pre-pandemic sizes.
— Dana Bartholomew
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