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This article by Kathleen McGinn Spring was prepared for the January 28, 2004 issue of U.S. 1 Newspaper. All rights reserved.

Progress 2004, Measured Foot by Foot

A commercial real estate broker is in a unique position to take the pulse of a region. His business cuts across every single industry. He knows when telecom service companies seek to trade 50,000 square foot offices for 12,000 square feet of space. He is aware of where, when, and at what pace warehouses are being built. He gets calls from brokerage houses looking for offices suitable for back office operations, and from ex-pharmaceutical executives in search of start-up space. He knows which industries are in decline, and which are on the ascent in any given year.

Gerard Fennelly, owner of commercial realty company NAI Fennelly, has just published a report that provides a detailed picture of just what is going on in every sector, and every geographic sub-section, in the greater Princeton area. He discusses the big trends on Thursday, January 29, at 4:30 p.m. at the Hyatt Regency, Princeton. Also speaking is Alec Taylor, vice president, principal, and chief operating officer of Matrix Development. Taylor is responsible for overseeing the development, construction, marketing, and leasing of Matrix’s industrial portfolio.

Rounding off the roster of speakers is Peter Linneman, the Albert Sussman Professor of Real Estate, Finance and Public Policy at the Wharton School. He is also principal of Linneman Associates, which provides strategic and financial advice both to large corporations and to high wealth individuals.

On Wednesday, January 28, the day before the NAI Fennelly real estate round-up, the New Jersey chapter of the National Association of Industrial and Office Properties holds its annual forecast meeting at 5:30 p.m. at the Meadowlands Sheraton in East Rutherford. Speaking at that meeting are Charles Klatskin, chairman and CEO of Binswanger/Klatskin; Donald Eisen, executive managing director of Cushman and Wakefield; Robert J. Rudin, executive vice president of CB Richard Ellis; Jerrold Bermingham, managing director of National Realty and Development Corp.; and Joseph Riggs, president of K. Hovnanian Companies Northeast.

As both meetings convene, commercial vacancy rates in many parts of New Jersey are just beginning to back off historic highs. There are bright spots, but also areas of concern. The trend that Fennelly is homing in on — and somewhat disturbed by — is one that could affect the face of the entire greater Princeton area.

“The biggest trend,” says Fennelly, “is the exporting of jobs.” He points to the creation of computer software as a prime example. “The software industry has gone overseas,” he says, going on to recount the story of a recent conversation with a friend. “He was a programmer at IBM,” he says. “He knows guys who have been out of work for four years.”

In fact, it’s interesting that Fennelly uses a chat with a former IBMer as an example. The Wall Street Journal has just published excerpts from secret IBM internal communications that give details about imminent plans to send thousands of programming jobs overseas, where salaries are 75 percent lower.

“They have to re-invent themselves,” says Fennelly of programmers like his friend, who is looking into opening a Rita’s water ice stand.

In addition to anecdotal evidence of the shift in some jobs, Fennelly is seeing the empty offices these shifts leave behind. “It’s the just the beginning of the problem,” in his view. We are just seeing the first in what may be a long string of job shifts. Fennelly is convinced that job exportation is going to be one of the biggest trends across the country in the coming years.

He is not so sure of the impact the shift will have in the Princeton area. “Is it going to affect us dramatically?” he asks. “Maybe not.” But, after pausing for just a moment, he adds, “but maybe.” It’s hard to tell where job shifting will end, but he says that every “remedial” job, which he defines as a job that would just as easily be done elsewhere, is in jeopardy.

Of the shifting of these prestigious white collar jobs as a megatrend, Fennelly says, “the paradigm has just started.” Does it carry over to engineering, radiology, architecture? he muses. He’s not sure yet, but doesn’t see a lot of barriers to sending many of these professional tasks overseas.

There are other trends in the greater Princeton area, many of them positive. Fennelly sees increased investment in biotechnology resulting in expansion for a number of companies. He also sees some positive effects from consolidation in the pharmaceutical industry. Executives who have been downsized are renting space, hiring employees, and starting new companies. “These people have a lot of life left in them,” he says. “They want to start businesses.”

Anchors are important in any market, and the greater Princeton area has a number, some hundreds of years old, and some quite new. The effect of the anchors is clearly seen in real estate activity. For example, while the selling price for commercial space in the area ranged from just over $90 a square-foot in 2003, the sale price of 13,500 square feet of space at 34 Chambers Street in Princeton came in at $288.89, more than twice the average.

“It’s an anomaly,” says Fennelly of downtown Princeton. “It has something you can’t replace. Having Princeton University across the street creates such value.”

Elsewhere in the area, the growing Robert Wood Johnson University Medical Center in Hamilton is becoming a powerful magnet. “It’s a real boon,” says Fennelly. “The medical demand in that area is tremendous.” Established doctors are taking on new space.“They’re in a place in their practice where they’re very confident,” says Fennelly. “They want newer space.”

The train station in Hamilton, coupled with excellent highway access, is boosting that area as a prime location for offices, too. Fennelly is seeing companies moving up from the south to locate in Hamilton Square. “There’s a lot of activity,” he says. “It’s desirable. Companies want to be centralized, and they can hit a couple of markets from there.”

While space in Princeton Borough is scarce, expensive, and highly desirable, and while Hamilton is building up rapidly, the Route 206 area of Montgomery is in a little slump. The vacancy rate in the greater Princeton area as a whole was 17.65 percent in December, but the rate for the Montgomery area was 22.5 percent. The main factors affecting that market, says Fennelly, are contraction at Computer Associates and the relocation of Opinion Research’s offices. It is a small market, he points out, and it doesn’t take much to tilt vacancy rates one way or another.

Interestingly, he observes that some people just have to have the Route 206 area, while others don’t want to go near it, often preferring space along Route 1. He says drivers for these decisions are not always entirely rational, or at least are not based on thorough analysis. Often, he says, it comes down to “psyche.” The psyche is often that of the CEO, and his reasoning often is based on where he lives.

A fascinating jigsaw puzzle, commercial real estate transactions and trends provide a window into every aspect of the economic life of the greater Princeton area:

Vacancy rates are going down. After peaking at 18.16 percent in June of 2003, the office vacancy rate in the area as a whole is down to 17.65 percent. Fennelly says a prime reason for the drop is a slowdown in corporate contraction — 400,000 square feet in 2003 as compared with 750,000 square feet in 2002, and over 1,000,000 square feet in 2001. He sees the trend continuing, and projects that vacancy will be down to 16.24 percent by June of 2005.

Investment return is strong. The investment market is attaining capitalization rates in the 8.75 to 9.5 percent range for fully leased Class A space with leases of five years or greater.

Replacement costs are up. The cost for replacement of office buildings range from $145 to $180 a square foot. These costs are rising, says Fennelly, because of increased off-site improvement fees, prolonged approval processes, and an increase in basic material costs.

Build out is still 25 years away. “Princeton Borough is done,” says Fennelly. Virtually the only route to a new building in the borough must run through a tear down. Princeton Township is nearly built-out too, but he says that there is “still a good amount of land” in Hamilton, along Route 1, and at Exit 8A, where warehouses are going up at a rapid clip.

“For all the talk of smart growth,” says Fennelly, “we have a 25-year land capacity.”

A big question for the area revolves around the pharmaceutical industry. “Money is moving back to pharma,” says Fennelly, “but a lot of companies are still hurting.” The dislocation of software jobs shouldn’t hurt the greater Princeton area too much, he says, because the area didn’t attract a lot of computer companies. Pharma, though, is another matter.

“I’ve been talking to a lot of people about pharma,” says Fennelly. “It’s a big part of our market.” His prediction is that the job export trend he is seeing will not have too great an effect on the industry. He cites confidentiality, security, and logistics barriers to sending research overseas.

In fact, every trend tends to have a countertrend, and that may be the case with pharma and job shifting. “Indian companies are coming here,” says Fennelly. “They want to be near the big pharmaceutical companies.” As the wheel turns, perhaps Indian biotechs will take up the space where programmers worked before their jobs were sent to India.

— Kathleen McGinn Spring

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