Atlanta and Dallas have led the nation in population growth since 2000, but these Sunbelt metros continue to show stubbornly high office vacancy rates. The two cities added more residents than any other metro area in the country between April 2000 and July 2006, according to recently released statistics from the U.S. Census Bureau. Yet both markets are plagued by high office vacancies due to a steady flow of projects coming on line.

“Demographics do matter a lot. But there are plenty of other considerations that investors need to think about like new supply,” says Bob Bach, national director of market research at Chicago-based Grubb & Ellis. “If a metro doesn't have population growth, it'd better have barriers to entry.”

Part of the problem is that cheap debt financing and rosy economic forecasts have spurred new, chiefly speculative, office projects. Both Atlanta and Dallas grew office supply by 1.1% and 1.3% respectively as a percentage of total inventory in 2006, compared with the national average of 1%.

One enabling factor is that abundant land and development sites envelop both metros. In 2001, for example, the total square footage of new office projects completed in Atlanta and Dallas represented approximately 10% of all office completions across the nation that year.

Atlanta is a case study in how busy developers can dilute leasing demand. The influx of roughly 890,000 new residents pushed metro Atlanta's population up to 5.1 million last July. It was a similar story on the jobs front: Labor growth increased by an average of 4.7% annually between 2000 and 2006, outpacing the national average of just 3.3%.

So why did the Atlanta metro office market post a 19.3% vacancy rate for the first quarter of 2007? Some 3.7 million sq. ft. of office space came on line in the first quarter, and 60% of those projects occurred on a speculative basis.

“Atlanta is still recovering from the last recession because the negative economic growth was much deeper there than in most other cities,” says economist Rajeev Dhawan, director of economic forecasting at Georgia State University's J. Mack Robinson College of Business.

Brisk hiring over the past few years simply hasn't kept pace with the new office supply, he says, notably in the metro market, where the office inventory grew by 1.49 million sq. ft. in 2006, and only 47% of that new supply was pre-leased.

Over in Big D, the nation's second fastest growing metro since 2000 with 842,449 new residents, new supply is also muffling population and job growth trends. With roughly 5 million sq. ft. of new office construction in the pipeline at the end of March, few expect the sickly 19.8% vacancy rate to suddenly contract.

Dallas ranked as the seventh strongest office market for total leasing absorption during the first quarter, with roughly 440,000 sq. ft. in net absorption. Dallas has the largest concentration of corporate headquarters in the nation.

A favorable year-round climate and a high quality of life have attracted many businesses to the sprawling city. Recently Comerica Bank announced plans to relocate its headquarters from Detroit to Dallas, where it will house 200 senior-level employees.

Corporate expansions are critical to any office market, but demand can easily be sidelined by new supply. And to many market watchers, therein lies the rub. As Bach notes, “It's just too easy to build in these markets.”

POPULATION GROWTH: NOT A CURE-ALL FOR SOME OFFICE MARKETS

The office vacancy rate among the top five fastest-growing metro areas averaged 15.4% at the end of March, well above the national average of 13.1%.

Major Metro Population Growth* Office Vacancy Rate 1st Quarter 2007
Atlanta 890,211 19.3%
Dallas 842,449 21%
Houston 824,547 12.9%
Phoenix 787,306 12.6%
Riverside, Calif. 584,510 11.4%
* population growth from April 1, 2000 through July 1, 2006
Sources: U.S. Census Bureau, Reis Inc.