Economy
The Alberta economy is rapidly deteriorating due primarily to a gouging in the price of oil over the last year. A barrel of Western Canadian Select (WCS) oil is selling for as low as $20/bb, a price point which is not profitable for many Canadian operations. This, coupled with uncertainty about future government regulation in the oilfield has created a nightmarish situation in most sectors of the Alberta economy. The unemployment rate has creeped up from 4.7% to 6.9% over the last year, largely driven by layoffs in the commodities sector. All of this has led to an unbalanced commercial real estate market.
Market Overview
Vacancy in the industrial market increased slightly from 5.1% in Q3 to 5.7% in Q4. The market saw 639k square feet (sf) of positive absorption this quarter; driven almost entirely by the completion of the 625k-sf owner/user Home Depot Stocking Distribution Centre. The 6 month future availability rate now sits at 8.3%, up from 5.8% in Q4 2014. While the industrial market may be somewhat insulated from oilfield shocks, it clearly isn’t immune to them. This year has seen a consistent rise in available space and a marked decline in leasing activity from 2014. A flood of sublease space has increased the sublet share of vacancy from 10.7% in 2014 to 18% in 2015. The number of options available in each market and size range has greatly increased, giving tenants much more flexibility in negotiation - shifting from a landlord dominated market to a more tenant favorable market.
Net rental rates have decreased marginally in the market but significant cuts to face value rates have yet to be seen. Landlords appear to be more comfortable offering large tenant inducement packages and periods of free or discounted rent on the front end which suggests an unwillingness from the landlords’ perspective to accept that the prevailing market conditions may persist through 2016. Total leasing activity for 2015 came in at 4.9 million square feet (msf), a significant decline from 2014 which saw 8.7 msf in leasing. The total leasing number for 2015 was propped up by 1.8 msf of activity in Q4. This was due to a number of large completed transactions in which included: Smuckers (400k sf), DIRTT (174k sf) and Brewers Distributors (160k sf). Sales of owner/user property have dropped off significantly. The impact this has had on pricing has yet to be determined as there were few transactions in 2015 to compare year over-year. The same holds true for the land market where activity has grinded to a halt. Even so, prices appear to be propped up because the City of Calgary owns the majority of land available and is not willing to negotiate price.
Outlook
Calgary should see a continued shift towards a tenant dominated real estate market in 2016. There are no signs that the price of oil will rebound in any meaningful way, perhaps finding a bottom in Q2 2016. Once this has occurred activity should pick up rapidly as tenants try to secure deals before the economy rebounds, resulting in increased rental rates. Landlords will have to settle in to a new reality where aggressive lease provisions and inducements are the only way to quickly eliminate vacancy risk in their portfolios.
Key takeaways:
• Vacancy predicted to hit 8.3% mid-year 2016
• Total leasing activity drops from 8.7msf in 2014 to 4.9msf in 2015
• Completion of 625,000 square foot Home Depot center large contributor to positive absorption in Q4
• Sublet share of vacancy rises from 10.7% in 2014 to 18% in 2015
• Great time for tenants to renegotiate lease terms, including tenant inducements, prior to lease expiry