Andrew Neilly
Gallen.Neilly & Associates
PH: 925/930-9848

By Terry Pristin - The New York Times

April 23, 2003 - Nearing completion in this city's East End, a rapidly developing area popular with large law firms, is a new high-end office building that has been grafted onto a Hecht's department store. The six-story white-and-tan building, known as One Metro Center, has a sky lobby and sits directly over the Metro Center subway hub.

What One Metro Center, at 701 13th Street NW, does not have is a roster of tenants. Ropes & Gray, a law firm, has signed a letter of intent for 40,000 square feet, and the newspaper publisher Knight Ridder has signed one for 25,000, but the rest of the building's 421,000 square feet has yet to be spoken for.

No one in the local real estate industry seriously doubts that One Metro Center, the first foray into Washington by the New York developer Tishman Speyer Properties, will eventually find tenants. Indeed, said James A. Evans, a Tishman Speyer managing director, "We are in serious discussions with potential tenants that if successful would bring us to 85 percent occupancy." Still, other developers say, some companies may be hesitating because of the property's unusual features, including limited parking in the building and the fact that a mass-market department store is underneath the offices.

The slow response is also an indication that the Washington office market -- while still highly attractive to deep-pocketed investors and still the only major market in the country with single-digit vacancy rates -- has been softening.

Cassidy & Pinkard, a Washington-based real estate company, calculated that the vacancy rate among office buildings in the city that are not government owned stood at 6.2 percent at the end of the last quarter, compared with 4 percent in 2000. The vacancy rate is higher -- 6.9 percent -- in both the central business district and the East End, the neighborhood east of 15th Street. Cushman & Wakefield, the national real estate services company, said the vacancy rate was still higher -- 7.6 percent at the end of March for the city as a whole, with rates of 8.5 percent in the central business district and 8.1 percent in the East End.

With 3.1 million square feet of space expected to be completed in Washington this year, and another 2.5 million next year, Reis Inc., a commercial real estate market information company in New York, estimates that the vacancy rate could reach 9.2 percent next year.

Rents for large blocks of space have held steady because of their scarcity, but smaller spaces are going for 5 to 10 percent less than last year and tenants are exacting more concessions from landlords, said Mary S. Petersen, director of market analysis for Cassidy & Pinkard.

Hossein Fateh, a principal of DuPont Fabros Development, which owns four buildings in Washington, said he was getting annual rent of $27.50 a square foot for space that fetched $30 only a year ago. "Deals that took 30 days to conclude are now taking 90 days," he said.

Even with more spaces going begging, Washington is still in an enviable position. The average first-quarter vacancy rate for the nation's major cities was 16.3 percent, said Lloyd Lynford, president of Reis Inc.

The nation's capital, of course, has certain built-in advantages: a major, permanent industry that is supported by armies of lawyers and lobbyists; height limitations that restrict buildings to 12 stories; and a lack of vacant land, particularly in the central business district, the area bounded by P Street and Constitution Avenue, to the west of 15th Street. But the bounce that was expected to come from the new Department of Homeland Security has not materialized, even though its headquarters will be in Washington.

Despite the weakening leasing market, Washington continues to be very popular with investors. In January, the Kaempfer Company and Real Estate Capital Partners, a German investment group, bought Executive Tower, a 122,930-square-foot building at 1399 New York Avenue, for $62.8 million. The $510-per-square-foot price set a record and was nearly double the 2002 average of $277 a square foot, as calculated by Cassidy & Pinkard.

But the wedge-shaped 11-story building is far from typical. In a city that lacks skyscrapers, where space overlooking a small park can add $4 a square foot to the annual rent, 1399 New York Avenue offers views of the White House. Its blue-chip tenants include Bloomberg L.P., which pays $62 a square foot for the two top floors, a record rent for Washington. (Earlier in April Kaempfer was acquired by the Vornado Realty Trust, the New Jersey-based company that is building Bloomberg L.P.'s New York headquarters.)

Another property, which offers prized river views -- Washington Harbour, a 537,259-square-foot office, retail and condominium complex on the Potomac River in Georgetown -- was sold for $185 million in March to Broadway Partners, a real estate investment company based in Greenwich, Conn. The price of the transaction, one of the largest in recent years, was an increase of more than $30 million over what the seller, the Shorenstein Company of San Francisco, paid in November 2001.

Scott J. Lawlor, Broadway's chief executive, said four law firms occupy most of the office space and have assured him that they will stay.

Washington Harbour is 15 minutes by cab from the city's commercial center, which has expanded since the mid-1980's to the East End, a once-decaying neighborhood. Just south of the new convention center, the neighborhood is home to the MCI Center sports arena, which opened in 1997, and the city's dwindling Chinatown.

The neighborhood is awash with construction projects, including Gallery Place, a mixed-use complex on Seventh Street, next to the sports arena, that Akridge Real Estate Services, a Washington-area developer, hopes to complete next March. The East End is being marketed as a 24-hour community, not just a business district. Seventh Street is now lined with Irish pubs and Indian and Chinese restaurants, and many small buildings have been renovated.

In the central business district, space is so scarce that the law firm of Wilmer, Cutler and Pickering recently took the unusual step of signing leases for 525,000 square feet of space in three separate buildings -- 1801, 1899 and what will become 1875 Pennsylvania Avenue -- that will be linked internally. The building in the center will replace two smaller buildings and will be entirely occupied by the law firm, said Anthony M. Lanier, the president of EastBanc, which bought the middle properties in 1998 in a joint venture with the Mark Winkler Company.

Some investment advisers remain sanguine about the investment market, saying foreign investors, in particular, will continue to view Washington as a safe place to put their money. "The market is not easy to get into," said John C. Norjen, a senior vice president at CB Richard Ellis, "but once you own here, you can get out whenever you want."

But others worry that the properties commanding prices of $400 a square foot or more will not hold their value as interest rates rise. "In 2007," Mr. Lanier predicted, "we're going to be buying buildings for less than we're buying them now."