Q3 2011 | DOWNTOWN OFFICE RESEARCH REPORT | THIRD QUARTER 2011 | DOWNTOWN CHICAGO | OFFICE CHICAGO OFFICE MARKET OVERVIEW Stable But Vulnerable Six consecutive quarters of positive demand in the Chicago CBD offi ce market would seem to insinuate a sustained recovery is on the horizon. Yet, despite vacancy rate decreases, the market remains in a vulnerable state, precariously teetering between stabilization and a second round of market softening. An unmistakable dichotomy exists in the market, with a strong divide in fundamentals based upon tenant size and asset quality. This dynamic has essentially resulted in two contrasting markets within MARKET INDICATORS the CBD – one with fi rming rental rates and constrained space options and another showing an Overall Chicago CBD abundance of availabilities and depressed market conditions. 3Q10 3Q11 Smaller tenants, defi ned as those occupying less than 25,000 square feet of space, are still benefi ting VACANCY RATE 16.1% 15.6% from a plethora of space options and landlords of buildings with high vacancy continue to compete aggressively for these tenants. This segment of the market remains a “tenant’s market” where rents ABSORPTION (SF) -378,946 582,266 and concessions are typically tenant-favorable. On the contrary, larger tenants are experiencing a RENTS $32.14 $31.32 lack of quality space options, resulting in a tightening market with fi rming rental rates. Additionally, over the last two years, an opportunity has existed for tenants to upgrade to higher quality buildings INVENTORY 140,514,843 140,514,843 at reduced pricing. As this fl ight to quality continues, the gap between top-tier Class A space and its Class B and C counterparts continues to widen, further segmenting the market. During the early part of this year, economic indicators seemed to point to potential stabilization, thereby boosting confi dence and fueling modest demand in the CBD. However, recent economic events have once again spurred concerns about the long-term global economic outlook. Uncertainty about our current and future administration, the unknown impact of Europe’s economic crisis and the negative activity experienced in the U.S. fi nancial markets during the last quarter, have left many tenants frozen in their decision making processes and reluctant to make longer term lease commitments. One exception to this trend is large corporate users who are less hesitant to sign long- term leases. These users are taking full advantage of the downturn in an eff ort to realize effi ciencies through space contractions and reduced rental obligations. Further contributing to longer lead times to secure lease commitments are landlord concerns about the long-term viability of tenants. Landlords have begun scrutinizing tenants’ fi nancial statements and business models in an eff ort to project future earnings and determine the likelihood that a company will sustain long enough to meet its leasehold obligations. As landlords continue to demand extra lease securitization, many tenants struggle to fi nd the extra capital required and remain skeptical about signing new leases. Conversely, tenants have also recognized the importance of investigating the fi nancial statements of landlords in a time when many are overleveraged and possess poor ownership structures. COLLIERS INTERNATIONAL | P. 1 RESEARCH REPORT | THIRD QUARTER 2011 | DOWNTOWN CHICAGO | OFFICE Widespread indecision and fears about over-committing have resulted in increased demand for shorter term leases along with a desire for space with existing conditions. Many landlords have responded to this trend by developing spec suites which are usually leased on a shorter term basis and are already built-out, limiting the amount of capital a tenant would need to invest in the space. Tenants continue to quickly absorb this space, buying time while they consider their long-term position. Despite the uncertainties that exist in the market, several bright spots exist in the CBD, namely corporate migration from the suburbs, the mayor’s commitment to fueling job growth and the rapidly expanding technology industry. The CBD continues to successfully attract large users from the suburbs. Increased urbanization levels are anticipated in future quarters as more companies value being located downtown over the suburbs due to direct access to a talented labor pool, the desire for more amenities, and the push for work-life balance. The mayor’s initiative to spur corporate job growth in the CBD appears to be successful as several announcements of long-term employment commitments were made by companies such as GE, Accenture, Google and Motorola. Further, technology and software companies are expanding at a rate unseen in Chicago since the tech bubble in 2000, fueling positive absorption and providing some momentum in the market, particularly in the East Loop and River North submarkets which typically attract a more diversified tenant base. In general, tenants perceive the market to be in a state of flux and expect landlords to consistently respond in an aggressive way by “giving away space.” While landlords with exorbitantly large vacancies still need to remain competitive, the majority are in a holding pattern, maintaining rates and waiting out the downturn, a trend that may initially appear inconsistent with market fundamentals. As a result of the extended period of inconsistencies that has persisted in the market, many landlords are experiencing “down-market” fatigue and are somewhat weary about continued aggressiveness on rents and concessions. Instead, Landlords have begun pursuing specific deals as opposed to offering aggressive terms across the board. Sustained job growth will be the real catalyst for a market rebound and until that occurs, the market will likely continue to labor along the bottom. Tenants, particularly those that are creditworthy, should continue to remain proactive in evaluating options as the market dynamic will turn rather quickly once landlords sense any shift in fundamentals. Once leasing velocity returns to more normal levels and market conditions improve, rental rate increases and reduced concession packages will inevitably follow. COLLIERS INTERNATIONAL | P. 2 RESEARCH REPORT | THIRD QUARTER 2011 | DOWNTOWN CHICAGO | OFFICE VACANCY AND ABSORPTION NNetET Ab sorptionABSORPTION & Vacancy & VACANCY CENTRAL BUSINESS DISTRICT During the third quarter, the overall Chicago CBD Central Business District vacancy rate further descended to 15.6 percent, 4,000,000 3,695,540 18.0% 3,468,456 down from 15.8 percent in the prior quarter. For 16.0% 3,000,000 16.00% 15.90% 15.60% the first time in a year, the direct vacancy rate 14.0% 14.40% 2,000,000 fell, ending the quarter at 14.0 percent. Sublease 12.0% Vacanc vacancy remained steady during the quarter at 11.90% 11.90% 1,000,000 582,266 10.0% 1.6 percent. 392,470 0 8.0% y -218,477 6.0% Square Footage The CBD witnessed positive 264,468 square feet -1,000,000 of net absorption, bringing the year-to-date total 4.0% -2,000,000 2.0% to positive 582,266 square feet. Positive -2,204,759 absorption was reported in three of the five -3,000,000 0.0% 2006 2007 2008 2009 2010 2011 YTD submarkets during the quarter, with the West Source: Costar; Colliers International Research Loop showing the strongest gains. Submarket Vacancy Rates 2009 - 2011 20.00% 18.0% 17.6% LEASE AcTIVITY 17.4% 17.5% 17.1% 17.1% 15.7% 15.2% Leasing activity remained strong during 1the4.8% third14.9% quarter as a number of sizable tenants formalized14.7% their leases. Five leases 15.00% 14.3% 14.3% greater than 100,000 square feet were signed in the third quarter alone,1 3four.1% of which were renewals. The largest lease transaction was PricewaterhouseCooper’sy renewal of 278,000 square 1feet0.2% at 1 N. Wacker Drive, located in the West Loop. 10.00% Also during the quarter, Vacanc Fifth Third Bank expanded and renewed 218,000 square feet at 222 S. Riverside Plaza in the West Loop and the American5.0 Bar0% Association renewed and contracted to 201,000 square feet at 321 N. Clark Street in River North. The year-to-date total leasing transactions exceeding 100,000 square feet currently stands at 14, a marked improvement from this time one year ago when only six transactions of this size had been consummated by the end of the third quarter of 0.00% 2010. Central Loop East Loop North Michigan Ave. River North West Loop 2009 2010 2011 RECENT ANNOUNCEMENTS OF MAJORSource: C Costar;BD Colliers International ResearchThe leasing landscape should remain active in the coming EXPANSIONS BY EXISTING TENANTS quarters as several large users are evaluating space options and Tenant Growth Plans Timing numerous corporate expansions have recently been announced. 1 N. WACKER DRIVE Continental Holdings 1,300 Employees End of 2012 Accenture 500 Employees Mid-2012 Central Business District -Asking Gross Face Rates 400 Employees End of 2012 JP Morgan Chase $45.00 Motorola Solutions 400 $Employees40.00 End of 2012 Class A Average $35.00 Accretive Health 100 Employees In Process Class B $30.00 500 Employees End of 2012 ClassC Ernst & Young $25.00 GE Capital 1,000$2 0Employees.00 In Process $15.00 Groupon 500 Employees+ In Process $10.00 222 S. RIVERSIDE PLAZA $5.00 $0.00 2006 2007 2008 2009 2010 2011 Source: Costar; Colliers International Research COLLIERS INTERNATIONAL | P. 3 RESEARCH REPORT | THIRD QUARTER 2011 | DOWNTOWN CHICAGO | OFFICE CHICAGO CBD SIGNIFICANT LEASING TRANSACTIONS OF THIRD QUARTER 2011 Tenant Address Class Submarket Size (SF) Deal Type PricewaterhouseCoopers 1 N. Wacker Drive A+ West Loop 279,000 Renewal Fifth Third Bank 222 S. Riverside Plaza B West Loop 218,000 Renewal/Expansion American Bar Association 321 N. Clark Street A River North 201,000 Renewal/Contraction Edelman 200 E. Randolph Street A East Loop 178,000 Renewal/Expansion Integrys 200 E.