Strong economy revs up 'Big D' real estate market as employment boom drives office, retail sales.

The strongest economy in more than a decade has revved up Dallas' real estate market with new deals. Office construction has increased tenfold in 1997, as developers scramble to get more product in the construction pipeline.

Widespread apartment development has yet to catch up with demand, and starts are up almost 80% this year.

Investors are upping the ante in the income property market, with average office sales prices up about 50% this year.

Tenant appetite for industrial and retail buildings also remains high. Despite nagging paranoia about the return of speculative building and worries that rising rents and sales prices may slow transactions, analysts remain bullish about Dallas.

"We could ask questions about overbuilding, but things seem to be staying in control," says Jeanette Rice, an economist with Dallas-based Amresco Inc. "There is demand for everything that's being built right now, and there is no sign of that slowing down."

"As long as our employment growth continues at its current level, the real estate market will be good," Rice says.

At midyear 1997, the Dallas-area employment market had increased by more than 90,000 jobs since June of 1996. That made Dallas the fastest growing employment center in the country.

"We are close to the highest point since our highest all-time job growth, which was in 1984," says Ron Witten, president of Dallas' M/PF Research Inc. "A year ago, we were concerned that the Dallas economy was going to weaken. Not only has it not weakened, but it has picked up."

The employment boom in Dallas has driven office vacancy rates in many areas to single-digit levels, fueled record home sales and kept retail sales high.

"Both the office and industrial real estate markets in Dallas have been dramatically affected by the continued strength and good health of the area's economy as new jobs are being created by both internal and external growth," says Jerry Fults, president of FultsOncor Inc.

Even Dallas' downtown area has bounced back, shaking off a glut of office space and attracting new investors.

Two corporate relocations to the Dallas area during the past year -- Union Pacific Corp. from Pennsylvania and Blockbuster Entertainment from Florida -- both benefited the central business district with large leases.

But it's the suburbs where most of the development activity is under way. At the end of the second quarter, more than 3 million sq. ft. of office space was under construction in Dallas' suburbs. That's up from only about 1.2 million sq. ft. of construction at the start of the year.

"Citywide office construction activity has gained momentum as expected," says Reagan Dixon, Cushman & Wakefield's senior managing director. "Total square footage under construction has increased 150% over the past six months."

"Fortunately, a lot of the new space has significant preleasing," Dixon says. "Given the absorption we are seeing, the amount of construction so far isn't out of hand."

Office development starts When the last round of Dallas office development wrapped up, some forecasters predicted that there was enough surplus space on the market to last until after the turn of the century.

But even the most pessimistic analysts concede that Dallas' real estate market has worked off the excess of the 1980s.

Citywide office vacancies in Dallas have dropped to about 12%, with many suburban business districts now enjoying single-digit vacancy rates.

A shortage of large blocks of empty office space has sent tenants scrambling to find locations and caused developers to queue up to start new projects.

Most of the office starts are now concentrated in three suburban locations -- in the Las Colinas community near Dallas-Fort Worth International Airport, along the Dallas North Tollway in far north Dallas and in the northern suburbs of Richardson and Plano. And several new office projects are also being marketed for the central city.

About 2 million sq. ft. of office space was absorbed in the Dallas area during the first half of 1997. That compares with about 4.5 million sq. ft. of absorption for all of 1996.

Real estate brokers say the volume of leasing this year would have been higher, but many tenants are waiting for new buildings to be completed.

"The tenants really don't have many choices," says Fults. "If they want space, many of them are going to have to wait for new projects. About 35% of the space in those buildings is already preleased."

With the lack of available space, Dallas office rents have jumped by almost 20% in the last year. Citywide rents now average about $19 per sq. ft. annually, with most new buildings quoting rents between $22 and $26 per sq. ft.

"The truth is, I'm not sure we have ever gotten the rates we are getting today," Fults says. "There just aren't any rent concessions today like in the 1980s. Back then we were giving away a year's free rent."

So far tenants are taking the higher rents in stride. But brokers say there's a fair degree of sticker shock for businesses that haven't been in the office leasing market for several years.

"When it gets right down to the calculations, it's a rude awakening," says Susan Gwin, director of corporate services in real estate broker Grubb & Ellis Co.'s Dallas office. "Even if they have been keeping up with statistics, it can be an eye-opening experience. Some of them are looking at different products and are trying to get more efficiencies."

But tenants can only do so much penny pinching in an office market where rents have risen by almost 40% since 1992.

"Tenants are being very careful about how they plan and use their space --that's often the first reaction to higher rent costs," says Ka Cotter with Staubach Co. "Tenants are very concerned about costs because every nickel and dime has an impact on their competitiveness."

Until significant new construction in completed, Dallas will remain a landlords' market.

The biggest volume of new space will be hitting the market along the Dallas North Tollway.

Almost 10 million sq. ft. of office projects have been announced or proposed along the tollway. Fortunately, only about 2 million sq. ft. of space is actually under construction.

"So far, there aren't that many buildings under way," says David Gruber, president of Dallas-based MEPC American Properties. "I am hoping that everybody that announces won't go ahead and build."

MEPC American Properties this summer broke ground on a 16-story office tower in its Colonnade office complex on the tollway. The 370,000 sq. ft., stone and glass highrise will join two other towers MEPC built in the 1980s. So far, it's one of the largest office developments in Dallas' suburbs.

"There hasn't been any significant building constructed here in more than 10 years," Gruber says. "It would have been smart to start this project two years ago, but nobody expected rents and occupancy to be where they are today."

CarrAmerica Realty Trust, the Washington, D.C.-based real estate investor, has broken ground on a two-building office complex called Tollway Plaza. Each of the eight-story buildings will contain about 178,000 sq. ft. and are CarrAmerica's first developments in the Dallas area. The REIT has been a big buyer of suburban buildings over the last year.

Other office projects already under way along the Dallas North Tollway include: * Lincoln Place, a 150,000 sq. ft., six-story office building developed by Lincoln Property Co. in the Legacy Business Park; * Landmark Center, a multi-building office project being developed by Champion Partners; * Stonebriar Office Park, a101,000 sq. ft. speculative building developed by Hall Financial Group at the north end of the tollway in the town of Frisco; and * International Business Park, a multi-building, low-rise office park being built by Billingsley Co.

Several other large projects have been announced. Houston-based developer Hines Interests has unveiled plans for a fourth office tower in its Galleria complex at LBJ Freeway and the tollway. The 250,000 sq. ft. office tower would start a new mixed-use addition to the Galleria.

And developer Champion Partners has announced plans for a 300,000 sq. ft. office tower in the Addison Circle development just west of the tollway. "This will be our largest speculative development to date," says Champion president Jeff Swope. "We hope to have it all completed by July of next year."

Granite Properties, a Dallas investor and developer, has speculative office projects planned on LBJ Freeway and at the north end of the tollway at State Highway 121.

Oil company Fina Inc. and soft drink company Dr Pepper/Seven-Up are building new headquarters in the nearby Legacy business park.

Granite is planning a 90-acre office and commercial park at the highway 121 corner, which is also being developed with a new shopping mall and several smaller office projects.

Closer in, Granite Properties has announced a 12-story, 300,000 sq. ft. speculative office tower in its Centre office park on LBJ Freeway. The tower is scheduled to open in late 1998.

"We have both that building and a 200,000 sq. ft. building in Las Colinas under construction," says Granite Properties' president Michael Dardick. "They both should be ready in about October of 1998. We were committed to start the buildings speculatively, but we already have several proposals from large tenants."

The second largest concentration of Dallas office construction is in the Las Colinas community near Dallas-Fort Worth International Airport.

More than 1 million sq. ft. of speculative and single-tenant buildings are under development in the area, which currently has less than a 5% office vacancy rate.

Recent corporate relocation to the area by Omni Hotels and major expansions at the Associates Corp. are adding to the demand for office space. Rents in the Las Colinas area already top $20 per sq. ft.

"Obviously, we think this is one of the best markets in the country to build an office project," says Barry Nelson, Insignia Commercial Group's national development managing director.

Insignia has teamed up with Northwestern Mutual Life Insurance Co. to build a $31 million, 10-story tower in Las Colinas. The 265,000 sq. ft. building is scheduled to open next year. Insignia is the development manager of the project, which will be owned by Northwestern Mutual.

"So far this is the largest speculative building to get going in Las Colinas," Nelson says. "We thought it was important to distinguish ourselves from our competitors and size is one way to do it. The strength and commitment of its sponsors will also provide assurance of its timely completion and delivery to the market."

Opus South Corp. has also broken ground on a 500,000 sq. ft. Las Colinas office complex that contains two, six-story 250,000 sq. ft. buildings. The first building is scheduled to open in mid-1998.

"The Las Colinas market is poised to capture an increasing number of large corporate tenants," says Phil Baker, who is leasing the Opus project. "The fundamentals of supply and demand have tipped in the favor of additional office development. The reputation and credibility of Opus South enable us to enter the marketplace with enormous confidence regarding the quality and timing of the project."

Across State Highway 161 at the intersection of Carpenter Freeway, Archon Group is building a two-building project called Las Colinas Corporate Center. The first of the six-story, 150,000 sq. ft. buildings is scheduled for completion in January. H.D. Vest Financial Services has leased more than half the first phase. "The H.D. Vest lease is the first preleasing deal announced for office space in Las Colinas in a number of years," says Archon Group senior vice president Will Mundinger.

Champion Partners has also begun its office complex, Sierra at Las Colinas. Work is under way on the first 170,000 sq. ft., three-storymultitenant office building in office park.

"We are seeing a lot of activity in 50,000 sq. ft. and larger tenants," says Champion's Swope. "We have our first building completed and are waiting for one large tenants and have several things working. We are breaking ground in October on another 220,000 sq. ft., four-story building."

Other speculative office projects are being built in the Las Colinas market by Macfarlan Real Estate Services and Avex Development Inc.

So far, demand for these new Las Colinas office developments is strong, says Dary Stone, with Faison-Stone Inc., which oversees the Las Colinas complex.

"The base of tenants that we have in this area is so large that we don't have any overbuilding concerns," Stone says. "Plus, there is still a lot of caution in the market not to overdo it. That will keep development to a manageable level."

Major corporate build-to-suit projects are also under development in the Las Colinas area. Koll Real Estate Group is developing a 300,000 sq. ft. U.S. headquarters on Carpenter Freeway for Nokia, the telecommunications firm. And consumer finance firm Associates Corp. is building a three-story, 300,000 sq. ft. credit card operations center in Las Colinas -- another Koll project.

Closer to Dallas-Fort Worth International Airport, Brink's Home Security Inc. and Allstate Insurance are developing new corporate buildings in Woodbine Development Corp.'s DFW Freeport business park.

While construction cranes are popping up in the suburbs, the big news in Dallas in 1997 is the rebound downtown. After years of losing tenants to the suburbs and declining property values, Dallas' central business district has roared back this year with the strongest absorption in a decade and a flurry of skyscraper sales.

"The Dallas central business district is the only sector left with large blocks of space to accommodate major users," says Fults. "That factor plus lower rental rates are driving the activity downtown."

Large new leases have been signed downtown during the last year with Union Pacific, CNA Insurance, Blockbuster Entertainment and Amresco Inc.

Existing downtown tenants like Southwestern Financial Corp., Coopers & Lybrand, the General Services Administration, Transamerica Insurance and the Federal Deposit Insurance Corp. have also signed large leases in new locations downtown.

In all, more than 1 million sq. ft. of absorption was recorded in downtown Dallas in the first six months of 1997 alone.

First-class office space in the central business district is still about 20% vacant.

"A lot of the vacant space downtown is really functionally obsolete," says Charles Anderson, head of Trammell Crow Co.'s Dallas division. "But downtown is really on the road to recovery. We are seeing a lot of activity primarily from the existing tenant base, which is growing."

The Trammell Crow family's Crow Investment Trust has announced plans for a 16-story, 398,000 sq. ft. office tower on the north edge of downtown. The $60 million building will be the Crows' first multitenant Dallas office project in almost a decade.

In the same area, developer Harwood Pacific Corp. is building a 10-story, $30 million office tower in its International Center complex. Dallas law firm Jones, Day, Reavis & Pogue is the lead tenant in the 220,000 sq. ft. building.

Two large renovation projects are under way in Dallas' core. St. Louis-based Adam's Mark Hotels paid $30 million to purchase the vacant Southland Center office complex and is converting the two skyscrapers into a 1,700-room Adam's Mark Hotel.

And a Houston investor, Spire Realty, has purchased the 40-story Bryan Tower with plans to remodel the 24-year-old highrise. The Trammell Crow family is also an investor in the venture, and Crow Co. will market the skyscraper. "Spire Realty will be doing all the redevelopment. But we think it's a real opportunity to be involved in the leasing of the project," Anderson says.

Both the Bryan Tower and Adam's Mark projects are located on Dallas' new light-rail commuter line, which connects downtown to residential areasin the southern and northern half of the city.

Along with the increase in leasing, the big news in downtown Dallas this year has been investment sales.

In March, Fort Worth-based Crescent Real Estate Equities paid $162 million to purchase the 50-story Trammell Crow Center office tower -- the biggest buy in the central business district in the 1990s.

Crescent Real Estate also paid more than $120 million to purchase the 60-story Fountain Place office tower.

The real estate investment trust's biggest purchase in the Dallas area this year was a 14-building suburban portfolio acquired from Carter-Crowley Properties. Crescent paid $335 million for the package.

These acquisitions made Crescent the Dallas area's largest office landlord. "So far this year we have purchased more than $1.7 billion in real estate, nationwide," says Crescent CEO Gerald Haddock. "And we're not done yet."

Several more large downtown office building sales are pending, expected to close before the end of the year.

"We're seeing interest from a lot of buyers who aren't normally here," says Jack Minter, with Cushman Realty, which has been marketing the 60-story Bank One Center for sale. "The people who say the investment market is drying up in Dallas will eventually be right. But it's not happening yet. Downtown is a whole new ball game."

Recent sales of several large trophy buildings downtown have increased confidence in the central business district, even though overall vacancies remain much higher than in the suburbs, says Mario Zandstra with Transwestern Property Co.

"There has been a real change in perceptions about downtown Dallas and a jump in building values in the last year," Zandstra says. "That has pushed many owners over the threshold of where they want to sell. But if the fundamentals of absorption and increasing rents weren't there, these deals wouldn't be happening."

Throughout the Dallas real estate market, investors are having to dig deeper in bank accounts at the closing table.

In the office market, for instance, investors paid an average of more than $90 per sq. ft. for purchases in the first half of 1997 - more than a 50% jump from 1996's average sales prices. Office buildings are now selling on average at three times the prices they fetched in 1993, according to a study by Roddy Information Services.

"You have to wonder, where does it stop?" says researcher George Roddy. "So far this year, we've had some huge commercial property sales, with investors paying the highest prices we've seen in more than a decade."

But investors say Dallas income property values -- while up substantially this year -- are still below replacement costs.

"$100 per sq. ft. for a nice Class-A building is still 35% to 40% below replacement costs," says Kevin Brands, who heads the Dallas office of Chicago-based CMD Realty Investors. CMD has purchased a handful of Dallas-area suburban office projects this year. "Deals are harder to come by in Dallas, and there is a lot of competition," Brands says. "The prices are based strictly on rental income -- as rents go up, prices go up."

Equity Office Properties of Chicago this year added to its Dallas holdings with the purchase of the 8080 North Central tower in North Dallas. The 17-story building contains about 280,000 sq. ft.

And Cottonwood Partners, a Dallas-based investment group, just acquired two office towers -- the 16-story Woodall Rodgers Tower on the north edge of downtown and the 20-story Sherry Lane Bank Tower in North Dallas.

"We think there are going to be opportunities to make further acquisitions in the Dallas market, although it's very competitive," says Cottonwood Partners managing director Robert Axley. "We're seeing everyone from REITs to pension investors and foreign buyers after the same assets."

Unlike earlier in the recovery, investors in Dallas properties are now willing to look beyond current returns.

"People are now willing to accept lower initial yields," says Jeff Stone, a top investment sales broker with Cushman & Wakefield's Dallas office. "They expect to move the rent up over the next two or three years. And, we are still selling below replacement cost."

Brakes expected in industrial market With more new space coming on the market than absorption, Dallas-area industrial developers say they are trying to put the brakes on further speculative construction.

Indeed, there have been fewer bulk warehouse building announcements this year. But the amount of industrial space in the development pipeline remains substantial.

At midyear 1997, more than 13 million sq. ft. of warehouse space was being built in the Dallas area, according to studies by FultsOncor Inc.

Last year for the first time since the early 1980s, developers added more new industrial space to the Dallas market than they leased.

More than 12 million sq. ft. of warehouse space was completed in the Dallas area in 1996, compared to about 9 million sq. ft. of net leasing.

Fortunately for developers, warehouse demand in 1997 has run almost double last year's rate. In just the first half of the year, tenants leased almost 8.9 million sq. ft. of additional space.

"We knew things were going well, but we were frankly surprised that the numbers were so strong," says FultsOncor's Tommy Pearson. "It reflects the fact that so much new product is there."

However, warehouse vacancy rates in the Dallas area have risen from 7.1% to about 7.9% this year because of the flood of new properties on the market.

"Fortunately there continues to be good tenant demand," says Marc Myers, a partner in the Dallas development firm of Myers & Crow Co. The developer has a 330,000 sq. ft. speculative building under construction in the Northgate industrial district in northeast Dallas, and another 255,000 sq. ft. warehouse being built in Farmers Branch.

"A lot of the absorption is from companies moving from good space to brand new space," Myers says. "Landlords are enticing them, and people are upgrading at basically the same price."

New bulk warehouse space in the Dallas area now rents for between $3.15 and $3.35 per sq. ft. annually.

Trammell Crow Co. is developing a four-building, 27-acre office and industrial park north of Dallas on State Highway 75 in Allen. The Enterprise Business Center is being developed in partnership with San Francisco-based Meridian Industrial Trust.

In Dallas' new State Highway 190 corridor, Centre Development Corp. is building a 55-acre office and industrial complex. The long-time Dallas builder just added 45 acres to its development tract.

"We can build up to three-quarters million sq. ft. in that location," says Centre Development's Al Blaine. "Our plans call for up to eight industrial and tech buildings."

Large build-to-suit warehouse and distribution projects are also being built in the Dallas area by Blockbuster Entertainment, Kraft Foods, J.C. Penney and Federal Express.

Bradford Cos., the Dallas-based real estate service firm, is building two large industrial projects. The 217-acre Waters Ridge Business Park in Lewisville will contain more than 3 million sq. ft. And Bradford's 41-acre Gateway Estate Business Center in northeast Dallas will have about 832,000 sq. ft. in four buildings. The project is being built for Northwestern Mutual Life Insurance.

Finding affordable industrial sites has become the big problem for Dallas warehouse builders, says Blain England, Bradford executive vice president.

"That's what is going to restrict supply and keep rents from falling - the lack of affordable, readily developable land," says England. "The construction is slowing down just in time. The market is pretty balanced right now, and with luck it will stay that way."

Retail construction down After three years of widespread building, developers are putting the brakes on new shopping center starts this year.

Retail construction in the Dallas area is down almost 40% this year, with only about 600,000 sq. ft. of new space completed in the first half of 1997.

With the slowdown in center openings, absorption is also down. About 900,000 sq. ft. of net leasing was recorded in the first half of this year, according to studies by M/PF Research Inc. That is about a 14% decline from absorption in mid-1996.

With tenant demand moderating, developers are wise to cut back on building, says Witten of M/PF Research.

"Retail sales at this stage in the economic expansion are going to be less buoyant," Witten says. "That calls for a little more moderation in construction."

Retail sales were up almost 11% in the Dallas area last year, but they are forecast in single-digits this year.

With the slowdown in building, retail building occupancy in the Dallas area rose by almost a percentage point to about 89% at midyear. That's the highest occupancy rate since the mid-1980s.

At the same time, average retail rents are up 5.4% this year to about $12.40 per sq. ft.

Vaughn Miller, who heads Henry S. Miller Commercial's retail division, says the slowdown in building is positively impacting rents. "Rents have been hovering near this level for some time," Miller says. "When we get the rents up, I think you will see more properties selling."

The supply of Dallas-area retail space will take a leap later this year when the Grapevine Mills outlet and entertainment shopping mall opens near Dallas-Fort Worth International Airport. The 1.9 million sq. ft. Grapevine Mills cost $200 million to build and will contain about 300 stores. Arlington, Va.-based Mills Corp. developed the project in a partnership with Simon DeBartolo.

Lincoln Property Co. has broken ground for its Lincoln Park power center adjacent to the NorthPark shopping mall in North Dallas.

Trademark Cos. of Fort Worth has started work on a 21-acre shopping center in near Dallas-Fort Worth International Airport in Las Colinas. The Las Colinas Village shopping center will contain 200,000 sq. ft. of space.

Cencor Realty Services Inc. has finished development of its Willow Bend Market, a 13-acre, 131,826 sq. ft. community shopping center located on the Dallas North Tollway. The strip center is anchored by grocer Tom Thumb, the Interior Store, Blockbuster Video and Texas Commerce Bank.

"We're still seeing a good amount of construction, but it's all anchored," says Herbert Weitzman, president of Dallas-based Weitzman Group. "Otherwise you can't get new projects financed."

Developers start new apartments Following a slowdown in 1996, developers have rushed to start new apartment projects in the Dallas area this year.

During the first seven months of 1997, Dallas-area apartment starts were up almost 90%. The jump in apartment construction -- regardless of the strong occupancy rates -- has given rise to new worries about overbuilding.

"Since 1996, the question in the apartment market has been overbuilding -- when are we going to see it and how long is it going to last," says Witten. "We're relatively late in the cycle now."

Even so, developers have started almost 7,000 apartments this year.

Luckily, Dallas' strong job growth has kept demand for apartments strong. More than 8,000 additional units have been rented so far this year. Based on just what's in the development pipeline, M/PF Research is predicting that almost 26,000 new apartments will open their doors in the Dallas area in '96 and '97.

Occupancy rates at midyear were about 95%, with rents increasing an average of 5% to just over $600 a month.

Developers say strong competition and a lack of attractive building sites will keep construction in check.

"The big problem now is availability of good sites," says David Ward with Dallas builder JPI. "We're out turning stones looking for locations."

Several large apartment projects are under way in the Dallas area, including: * JPI's 540-unit North End apartment complex on Field Street, which is scheduled to open in early 1998; * Windsor Residential Cos.' 272-unit Greyson's Gate community on Frankford Road, due to be completed this fall; * The second 312-unit phase to The Barnes Cos.' St. Andrew's apartment complex under way near LBJ Freeway and Greenville Avenue; * Columbus Realty Trust's second 450-unit phase of Addison Circle apartment complex in Addison; and * Lincoln Property Co.'s 338-unit apartment complex in its Lincoln Park mixed-use development in North Dallas.

Steve Brown is the real estate editor of the Dallas Morning News.

Submarket; Vacancy; Class-A rental range Dallas CBD; 37%; $15.50-$22.00 LBJ Freeway; 6%; $17.50-$25.00 Quorum/Bent Tree; 6%; $17.50-$23.00 Las Colinas; 5%; $20.00-$28.00 Central Expressway; 12%; $10.00-$21.00 Stemmons Freeway; 12%; $13.25-$17.50 Richardson/Plano; 6%; $15.75-$22.00 Oak Lawn/Turtle Creek; 13%; $21.00-$32.00 Other; 9%; $14.50-$25.00

Source: FultsOncor; Jamison Research Inc.

2nd Quarter '97; Dallas Area; Ft. Worth Area Existing units; 313,114; 119,178 Quarterly unit adsorption; 3,480; 1,040 Avg. gross occupancy; 94.7%; 93.9% Change from year-ago quarter; 1.0; 0.2 Avg. quoted monthly rent; $604; $525 Change from year-ago quarter; 7.1%; 4.2%

Source: M/PF Research

Submarket; Occupancy; RevPAR Dallas CBD; 59.8%; $65.98 Market Center; 64.8%; $71.84 N. Central Expressway; 62.0%; $44.11 Love Field/N. Stemmons; 72.2%; $53.20 LBJ/North Dallas; 74.0%; $69.05 Southeast Dallas; 74.4%; $31.12

Source: PKF Consulting