Long Island: The Insulated Market

Jesse Serwer is managing editor of Real Estate New York, from which this article is excerpted.

In the Long Island office market, $30 per sf isn’t just the magic number, it’s the only number developers of new space want to think about these days.

“In order to construct a new class A office building on Long Island today, you need to achieve that hurdle rate of $30-plus per sf in order to justify construction with the high cost of building and land here,” says Brian Lee, executive managing director of Newmark Knight Frank’s Long Island office. “But, as long as you continue to see positive economic growth, and hiring by corporations, then you will see more new construction and more buildings reaching that platform.”

No one submarket on Long Island reigns supreme, according to Brian Dugan, a senior managing director with CB Richard Ellis who heads up the firm’s Long Island region. According to Dugan, all of the established markets known for their office facilities and convenient locations are fetching about the same rents.

“Top of the line space is going for $32 to $35, normal is space going for about $31, lower-end space is in the high $20s,” Dugan says. “Garden City, the new buildings in Melville, class A buildings in Hauppauge are all getting those highest rents. All the submarkets are doing about the same volume of business, so it really depends on what kind of building and what kind of location.”

As it has for years, Long Island remains insulated from the ups and downs of New York City and other suburban markets in the Tri-State region due to the fact that a large percentage of commercial tenants are locally based businesses which have grown within the confines of the island.

But, with Manhattan office vacancy reaching historic lows and little new space being added to the market there, Long Island-based brokers are expecting a wave of city tenants to begin looking eastward within the next year.

One drawback that may or may not be stopping outside businesses from making a long-term commitment is the lack of housing options for entry- and middle-level professionals. That dearth may soon fill in, however, as two major mixed–use projects–Reckson Associates and the Lighthouse Development Group’s Nassau Hub project, and Jerry Wolkoff’s proposed redevelopment of the Pilgrim State Hospital campus–promise to address this need by developing work force housing and other housing targeting post-grads and twentysomethings.

Long Island closed out the Q3 ‘06 with a 10.8% overall vacancy rate, down .7 percentage points from the second quarter, according to Cushman & Wakefield. Class A space, meanwhile, experienced an increase in availability due to the completion of the We’Re Group’s 50 Jericho Quadrangle, a 136,156-sf building which came online with over 89,000 sf of available space.

While Long Island, like the city, is clearly more of a landlord’s market than a tenant’s market right now–rents continue to slide upwards while vacancy remains somewhat static– tenants are feeling a squeeze, though it’s hardly on the order of what’s happening in Manhattan.

“It is getting a little tougher for tenants, especially on larger blocks of space,” admits Dugan. “But, overall it is very stabilized out here. Tenants don’t have a lot to choose from but there’s enough because tenants around here are generally relatively small-sized so they can always be accommodated in the existing stock.”

This year’s largest lease was also one of the year’s first: in a deal brokered by Newmark Knight Frank and announced shortly after New Year’s, Citibank grabbed 203,000 sf at Reckson Associates’ newly completed 305,000-sf 68 S. Service Rd. The deal brought the building, perhaps Long Island’s highest quality office property at the moment, to approximately two-thirds occupancy significantly ahead of forecast.

“We’re seeing a lot of financial institutions moving to Long Island to service the population–mortgage companies have been opening up offices here,” Lee says. “Wachovia, Commerce and Washington Mutual are a few of the banks that have been opening branches and regional offices here.”

While the Island won’t see a massive amount of development going on at any one time, eight planned or current projects could add as much as one million sf to its class A office space inventory, which currently hovers at around 14 million sf, according to Cushman & Wakefield. “We don’t have two million sf projects coming online–we’re just a stable, solid community,” Rosenberg says. “New buildings get built, they get rented, they create new revenue streams, they raise the bar and they always get filled up. But it’s not like we’re putting a couple million sf a year on.”

New office projects in the area include the second phase of Lalezarian Properties’ the Granite Towers project on Marcus Avenue in Lake Success. Identical in size to the adjacent building completed in the first phase, the spec building consists of 150,000 sf of class A space. In Suffolk County, East Setauket-based Tritec Real Estate Co. is currently developing 102 Motor Pkwy. in Hauppauge, a 200,000-sf class A office tower featuring an underground walkway and an upscale restaurant.

“It’s not like the ‘rah rah’ 80′s, where you saw cranes everywhere and structures going up left and right,” says Lee. “Developers and the banks will not take on that much risk. There’s a much different environment today with financing of spec office buildings. With the personal liability for the developer, no one is willing to take that much risk.”

Investment-wise, Lee says, “there’s a lack of product and very high pricing, but you can see it slowing down. You still have a favorable interest rate environment, but sellers are asking a tremendous amount of money.”

One area where the Long Island economy has been showing its strength is the industrial market. “Our current vacancy rate is 1.2%,” says Mitchell Rechler, co-managing member of Rechler Equity Partners, which owns and operates 5.6 million sf of industrial space in the Tri-State Region, mostly on Long Island. “We’re 98.8% occupied–you can’t get much higher than that.”

While the vacancy rate for all industrial space on Long Island was a slightly less impressive 5.9% at the end of the third quarter, according to Sutton & Edwards/TCN Worldwide, that number is near historic lows (though slightly higher than it was one year ago.) As in the office market, the strong demand continues to come from homegrown companies with expansion needs rather than national businesses expanding into the region. “

Despite the strength of the industrial market, don’t expect much in the way of new development, Rechler says, due to the lack of desirable locations left.

The strongest sector when it comes to new development is health care, and particularly assisted living, according to Lee. “Everything on Long Island is homegrown,” Lee says. “As the population is getting older, they are building more assisted living. As they are doing that, people are moving out of their homes, and newer, younger families are moving in.”