Even as more companies demand employees return to the office, occupancy trends in the U.S. remain well below pre-pandemic levels. As of January 2023, the average occupancy in the U.S. was 49.5%, according to Kastle Systems’ “Back to Work Barometer,” which measures security card swipes in 2,600 buildings in 138 cities.

It’s true that Texas markets have seen a more aggressive return-to-office policy, but weakened demand and higher vacancies remain the key focal point. At the state level, net absorption declined for the third consecutive year and the overall vacancy rate stood at 22.2% compared to 17.5% at the end of 2019. As a result, asking rents have remained under pressure and new supply is slowing to a trickle. While it’s still too early to call a bottom, there are early indications the Texas office markets are nearing stabilization as we enter 2023.

First, while net absorption remains negative, the bad news is becoming less bad, which is the first step to a recovery. Second, the construction pipeline is decelerating quickly and sits below 1.0% in Dallas-Fort Worth and Houston, the two largest markets. Third, nonfarm payroll exceeds pre-pandemic levels in all four major metropolitan areas, a testament to Texas’ business-friendly policies. As a whole, these data points are the green shoots the office market needs to indicate it’ll eventually recover, but make no mistake the recovery process will take multiple years.

Austin

While the long-term investment thesis for Austin remains intact, the near-term supply-demand imbalance is leading to historically high vacancies. The overall vacancy rate increased 190 basis points year-over-year, ending 2022 at 19.7% as businesses grew increasing cautious. For perspective, this level of vacancy easily exceeds the market’s 10-year average of 12.8% and is occurring at the same time the construction pipeline remains one of the highest nationally. Looking at supply, there are 27 buildings underway, representing nearly 7 million square feet. Once completed, the existing inventory set should expand by 9.5%; however, with nearly 60% of the space pre-leased, the actual impact will be more subdued. Nonetheless, we expect direct asking rents will turn negative in 2023, something not seen locally since 2009.

Turning to rental rents, the average asking rental rate for direct office space was $41.99/SF at the end of fourth-quarter 2022, up 4.1% from $40.33 a year ago. Rental rates have trended upward as landlords attempted to keep pace with inflation, but we expect that face rents will begin to decline in 2023, and concession packages will become more generous as landlords favor occupancy over rent growth. Overall, we expect modest rental rate declines in both 2023 and 2024 in the range of 1.5% to 2.0% per annum.

Dallas – Fort Worth

2022 marked another soft year, but from an absorption perspective it appears demand is stabilizing. Despite encouraging signs, the vacancy rate increased 60 basis points year-over-year and stood at 24.2% as occupies gave back 690,000 square feet of space during the year. Moreover, the average occupancy in Dallas is 54%, according to Kastle Systems, which is only slightly higher than the national average. As many occupiers reevaluate their space needs, we expect the local office market will remain under pressure going into 2023.

In terms of supply, the Dallas-Fort Worth office market had a total of 937,000 square feet delivered in 2022 compared to 2.9 million square feet delivered on average during the previous five years. Furthermore, the construction pipeline remains muted with 1.9 million square feet currently underway largely concentrated in three submarkets: Uptown/Turtle Creek, Tollway/West Plano, and Frisco.

Turning to rental rents, the average asking rental rate for direct office space was $29.70/SF at the end of fourth-quarter 2022, up 4.8% from $28.33 in fourth-quarter 2021. With asking rents trending higher for multiple years, we expect they will flatline in 2023 as landlords become more cautious and experience a modest decline in 2024.

Houston

When it comes to the Texas office market, Houston has been a laggard. Prior to 2022, the local office market experienced seven consecutive years of negative absorption; however, a bounce back in the energy sector produced positive absorption for full-year 2022. Despite the improvement, the overall vacancy rate remains elevated at 26.0%, one of the highest rates nationally amongst major markets. In addition, the amount of available sublet space – so called shadow space – stands at 7.8 million square feet. The largest vacancies by submarket remain in: Greenspoint (50%), CBD (31%), Westchase (30%), and Energy Corridor (28%).

On the positive side, workplace occupancy stood at 61% in January 2023, according to Kastle Systems, which is significantly higher than the national average. Furthermore, the construction pipeline is muted. At year-end 2022, Houston had the smallest construction pipeline as a percentage of existing inventory of the four major markets.

Turning to rental rents, the average asking rental rate for direct office space was $30.68/SF at the end of fourth-quarter 2022, up 0.8% year-over-year. In 2023, we expect asking rents to remain flat with landlords to remain tenant friendly by using attractive concession packages, including free rent in an attempt to backfill unused space.

San Antonio

An unusual pattern is forming in what is normally a steady market with a diversified economy. Since the pandemic began, the San Antonio office market has experienced three consecutive years of negative net absorption, something the local market has never seen before. This has pushed the vacancy rate to 17% from 14% a year ago. With minimal deliveries and a small construction pipeline, new supply is not a significant risk. Rather, remote and hybrid work appears to be the main culprit. For example, it was reported in late 2022 that USAA is leaving behind its 565,000 square feet of office space in downtown San Antonio as where and how people work continues to change. The company will consolidate operations into their headquarters located on the Northwest side of the city. This marks a distinct shift in the way companies think about office space and creates another blow to the struggling office market.

Looking at rental rents, the average asking rental rate for direct office space was $24.78/SF at the end of fourth-quarter 2022, up 3.5% year-over-year. With a highwater mark in the rearview mirror, we expect rents will fall in 2023 and 2024.

RubiCrown Commercial Real Estate offers site selection advisory, economic incentives negotiation, tenant representation / brokerage services, and construction project management for users of office and industrial space in North America. RubiCrown’s core mission is to deliver competitive advantages, mitigate risks, and reduce costs related to built and occupied commercial real estate. Robbye Kirkpatrick may be reached by email at robbye@rubicrown.com for an in-depth analysis of your lease or real estate portfolio.