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A Rise In Law Firm Pre-Leasing Helps Drive DC’s Trophy Office Overabundance, Tenant Leverage

The Dupont Circle fountain

U.S. law firms on average reduced their office footprints by 22.2% in 2016, down from a historical average of 976 SF per employee. The downsizing has affected development and leasing in D.C., where legal services are the third-largest industry. 

In April, law firm Goodwin Procter agreed to lease the top three floors of JBG Smith’s upcoming 1920 N St. NW development in Washington, D.C. When the firm moves to the trophy property in Q4 2019, it will shrink its footprint from 108K SF to 80K SF. Developers have adjusted to this shift by accepting more pre-leases from lead tenants requiring less floor space. The smaller lease sizes have led to an overabundance in trophy and Class-A office supply on lower floors, setting the stage for increased competition among owners and greater tenant leverage. 

Law firms are among the few groups that can afford rising trophy rents, JLL Senior Vice President Bobby Blair said. When developers look to build new properties, they often market to law firms interested in finding spaces that display branding and status

“Owners used to want more than half the building pre-leased by a tenant," Blair said. "Now you are seeing, with the last couple of leases signed, that it is less than 35% of the building signing, and firms are taking the top floors, leaving these owners with significant space on the lower portion.”

Trophy asking rent across all floors remains high, with a direct average ask of $84.75/SF, while 4M SF of new Class-A (non-trophy) product priced above $75/SF is on the market, according to JLL’s Skyline Report. With trophy vacancy at 10.3%, tenants have a large selection and an opportunity to get a better deal on the lower half of buildings.

Small to midsize law firms, Fortune 500 companies and high-end associations are the tenants most likely to sign a lease for these floors, Blair said. He also expects owners to break up floor plans for multiple tenants in an effort to drive near-term absorption and compete with nearby properties. 

Earlier pre-leasing timelines in D.C. have continued to affect demand. Tenants with 2022 expirations for their current spaces have already begun searching for their next offices in new trophy development. For bigger companies, owners are willing to make those deals in advance. 

“Building owners in D.C. are snatching up tenants with expirations five years out," Blair said. "This reduces the demand that would naturally affect the market in the coming years.” 

Spec development in the core is only 30% leased, and with 1.9M SF still under construction, the Skyline Report forecasts vacancies to continue to rise, causing net effective rents to decline anywhere from 7% to 10%. Higher concessions, free rent and tenant improvement allowances are on the horizon.

“We don’t see any economic or near-term, macro-level event that is going to change the existing leverage the tenant has in today’s market,” Blair said. 

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