The Breakdown

Explaining Southern California's economy

US Bank Tower tells the story of downtown LA office market

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When it was announced last week that the U.S. Bank Tower — the tallest building in the U.S. west of the Mississippi and a iconic feature of the Los Angeles skyline — was being sold to a developer based in Singapore for $367.5 million, the fact that jumped out wasn't that the building is more than 1,000 feet tall or was designed by the firm of noted architect I.M. Pei.

It was that the building is only half occupied.

One reason for the vacant offices could be due to the physical layout of the skyscraper's 72 floors. The Los Angeles Times characterized the design as suffering "from its previous success as a bastion of corporate American style in the 1980s and 1990s."

"Much of the empty space for rent reflects a departing era with big offices for executives hogging all the prime window space and bullpen work stations for support staff clustered inside around the elevator cores," the LAT wrote.

When the U.S. Bank Tower was built, in the late 1980s, it was thought that Los Angeles would be an imporant city for Pacific Rim business and commerce. 

It hasn't worked out that way, but that isn't the whole story. Downtown L.A.'s overall office market is just as troubled as U.S. Bank Tower's soon-to-be-former owners, MPG Office Trust, which has been shedding assets since last year in a furious effort to bolster its financial performance.

David Shulman, an economist at the UCLA Ziman Center for Real Estate and the Anderson Forecast, studies the national and Southern California office market and thinks that it's undergoing a major structural shift in the U.S.

"Financial activities and legal services employment, the bedrock of office demand for Class A 
space" — the most prestigious and what the U.S. Bank Tower provides — "are employing about the same number of workers as they did a decade ago! What is worse, the outlook for future employment growth in these two industries is hardly encouraging," he wrote in a UCLA economic letter last year.

"Office vacancy rates are declining at a shallow rate," he said in an interview last week. "And most markets are getting lower rents than they were in the 1980s."

Downtown L.A. hasn't been spared, although the city's "second downtown" —  Century City and westside L.A. — has performed better. 

"I'm not bullish on Downtown Los Angles," Shulman said.

That view runs counter to the impression that downtown L.A. is staging an urban comeback. But the resurgence is more about sports and entertainment venues, restaurants and bars, loft conversions, and hotels than it is about companies that need a lot of floors in tall buildings. Nightlife and streetscapes trump florescent light and cubicles.

In this sense, downtown L.A. and the U.S. Bank Tower are symbols of a national trend: The office vacancy rate continues to be stuck in recessionary doldrums. 

The U.S. rate is currently about 17 percent, far from what developers consider a healthy rate — 5 percent — and distant even from what economists who study the office market think is reasonable, something like 8 percent, said Shulman.

The weak recovery for office space can be chalked up to two key factors: The way that technology has altered work; and the desire of companies to constrain work spaces.

"Technology had changed things," Shulman said. "If everything is going to the cloud, you don't need filing cabinets. Law libraries are becoming obsolete."

But so is the idea that workers require elbow room.

"A lot of corporate users are reducing their space per worker," Shulman said. About 200 square feet per worker was typical in past decades. But in the next five year, he sees that shrinking to 150 square feet and possibly going as low as 100 square feet."

This means that companies can put more workers on each floor that they lease, thereby driving down the overall demand for square footage.

But it also creates serious problems for older buildings, like the U.S. Bank Tower, whch weren't designed to handle more workers in less space on each floor. The elevators can't handle it. And don't even think about the bathrooms.

I contacted several current U.S Bank Tower tenants, but they either declined to comment on why they found the building appealing or didn't get back to me. But at this juncture, no one has announced that they're leaving the building.

The upshot of all this is that Shulman figures the structural vacancy rate will remain elevated for years to come — at least until unused space, like just under half of the the U.S. Bank Tower,  is either eliminated or converted to other uses.

He compares the situation to what existed between 1986-1992, when the nation suffered through  an office space supply glut.

He suggested that there is one possible positive outcome for downtown L.A. and the U.S. Bank Tower:  The new owner, Overseas Union Enterprises, has already or is on the verge of signing a big tenant. 

"Then all of the sudden they'll look very smart," he said. "I've seen it happen before."

Follow Matthew DeBord and the DeBord Report on Twitter. And ask Matt questions at Quora.

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