When you mention Houston real estate to someone from out of town, their first thought often turns to the glut of empty office buildings in the nation’s energy capital. While Houston’s office market is certainly facing challenges—high vacancy and a substantial amount of sublease space—the situation is more nuanced than the headlines suggest. To highlight some of the market’s brighter spots, Realty News Report spoke with Kevin Roberts, President of Southwest Executive Leadership at Transwestern. Roberts oversees Transwestern’s Southwest operations, including Houston, Austin, San Antonio, New Orleans, Denver and Salt Lake City, managing brokerage and property management activities and serving on the company’s Board of Directors and Executive Committee.
Realty News Report: Houston’s office vacancy is at its highest point since the 1990s and sublease supply remains historically high. At midyear 2017, how would you describe the state of Houston’s office market?
Kevin Roberts: Transwestern believes we are approaching the market’s bottom. Some submarkets are already better positioned for recovery than others. The full effects of the sublease inventory remain to be seen, but it’s a major factor. Take west Houston: nearly 54 percent of available sublease space has less than three years remaining on the term and functions effectively as direct space, meaning the landlord often ends up funding tenant improvements, paying commissions and covering free-rent periods. That dynamic will likely push effective rental rates downward and force landlords to offer more attractive concession packages. In submarkets where sublease blocks are large and have extended terms, sublessors are sometimes structuring buyouts or absorbing deal costs themselves so landlords can re-market the space directly.
Realty News Report: Are newly constructed office buildings performing well?
Kevin Roberts: There is a clear flight to quality where new Class AA buildings are being delivered. For example, downtown buildings completed after 2010 have averaged about 92,000 square feet of absorption per quarter since 2011, following the deliveries of 811 Main and Hess Tower. By contrast, buildings completed before 2010 have averaged negative absorption of roughly 53,000 square feet per quarter over the same period. We remain in a tenant’s market and likely will be for some time as the market digests abundant space offered on attractive terms, lower energy prices that influence corporate decisions, occupancy efficiencies and job growth that isn’t driving office demand. The last wave of office acquisitions was led by deep-pocketed institutional investors with long horizons; their financial strength has allowed them to invest further in assets during this downturn to enhance tenant experience while seeking to maintain face rents.
Realty News Report: The Energy Corridor in West Houston has an outsized amount of vacant and sublease space. What do you see happening there?
Kevin Roberts: The Energy Corridor will face intensified competition for a limited pool of tenants as sublease terms decline to the point where subleasing is no longer viable. As sublease availability diminishes, landlords will compete more aggressively for tenants, which will increase downward pressure on direct rents and lead to larger concession packages.
Realty News Report: How would you assess the downtown office market?
Kevin Roberts: The central business district is one of Houston’s most dynamic submarkets. The growth of activity east of Main Street has transformed downtown from a tunnel-focused, nine-to-five environment into a street-level live-work-play district that draws people downtown. The best buildings are capturing a disproportionate share of absorption. Established properties and complexes are investing in major renovations to activate street-level spaces and create distinct environments. For example, the Allen Center’s $45+ million renovation is reshaping the tenant experience by introducing a curated street-level program and new dining options. Many Class A towers from the 1970s and 1980s need significant redevelopment to remain competitive; some owners may conclude it’s more practical to let those buildings transition to Class B.
Realty News Report: Is it wise to allow a property to decline to Class B?
Kevin Roberts: At Transwestern, we believe the best way to protect long-term asset value is to compete at or near the top tier. There will always be a market for value-oriented downtown alternatives, and well-located properties with flexible base building systems can successfully serve those tenants. However, buildings with structural challenges—inefficient floor plates, awkward column spacing, limited parking or poor location—will struggle. The sale and potential renovation of Houston Center, if pursued by its new owners, could significantly enhance the eastern downtown momentum.
Realty News Report: Are we seeing a new definition of Class A space?
Kevin Roberts: Yes. Since 2010, the region has absorbed over 33 million square feet of office space, and property class distinctions are shifting. Former trophy assets must now improve services, efficiencies and amenities to compete. At the same time, multiple generations are reshaping workplace preferences and fueling activation trends, including the expansion of co-working. How these trends evolve over the long term remains to be seen, but they’re already influencing how Class A is defined.
Realty News Report: With negative absorption, high vacancy and heavy sublease supply, what will it take for the office market to recover?
Kevin Roberts: Houston’s economic performance through the energy industry restructuring has been notable. The region has added population and jobs, posted strong single-family home sales, and benefited from consolidation and diversification—factors that reinforce Houston’s appeal as a place to live and work. That said, recent job growth has not predominantly come from sectors that drive high office demand. For the office market to fully recover, energy-sector hiring will need to rebound as the industry adjusts to a new pricing environment. Upstream and energy services firms are adding jobs, often beginning near production sites before shifting back to Houston; when that cycle reverses, it can accelerate office demand quickly.
Realty News Report: Why are investors renewing interest in major Houston office properties?
Kevin Roberts: Investors across the risk spectrum have shown strong interest in Houston office assets. Contributing factors include the local economy’s resilience, opportunities to acquire assets at values favorable to replacement cost, and overheated pricing in other major markets. New buyers are entering Houston at levels not previously seen, driven by the belief that the market may have reached its low point and by the potential for attractive returns as conditions normalize.