HCG CRE 2021Q1 Market Report

The economic impact of the COVID-19 pandemic was still  evident in the South Coast commercial real estate market  in Q1, with virtually all indicators diminished compared to  pre-pandemic levels. However, as the spring progresses,  our brokers report a noticeable growth in activity and  are cautiously optimistic that Q1 will prove to be the  last stagnant quarter of the current cycle. Here are some  summary points on Q1: 

• Transaction value decreased 42% for sales and  30% for lease consideration, compared to Q1  5-year averages. 

• Off-market sales and purchases by owner-users  both dropped substantially, perhaps indicating  “pandemic fatigue” in demand 

• Lease transactions and gross absorption  decreased 25% and 44% respectively compared  to Q1 5-year averages. 

• The available inventory of 263 spaces for lease is  the largest on record. 

• On the positive side, deal velocity picked up later  in the quarter—combined transaction value grew  from $15M in January to $55M in March—and has  continued to advance so far in Q2. 

COMMERCIAL SALES  

The remarkable story of 2020 was the unexpected surge of  51 commercial sales in the second half of the year, in the  midst of a slumping and uncertain pandemic economy. By  contrast, the first quarter of 2021 brought a pronounced  downshift in transactions, with just 15 sales closed, a 30%  decrease against the quarterly 5-year average.  

Similarly, the dollar volume of $54 million was 42% lower  than the prior 5-year average. Furthermore, the quarter’s  three highest priced sales were a senior care facility (160  S Patterson Ave, sold for $14 million), an RV park (7368  Hollister Ave, sold for $10 million), and a school campus  (260 San Ysidro Rd, sold for $5.7 million). The core  commercial types of retail, office and industrial proper ties represented just $21 million in sales, a drop of 72%  compared to the 5-year average. 

Among the handful of office sales was the multi-tenant  building at 5951 Encina Rd in Goleta, purchased by an  investor for $4.8 million. Also of note, the former Enterprise  Fish building at 225 State St traded hands in February for  the second time in 6 months, purchased by an investor  for $3.6 million with Silver Air on board as the long-term  office tenant. 

Owner-users played a more limited role, producing four  of the 15 sales, including the aforementioned education  property in Montecito purchased by Laguna Blanca  School. There were fewer off-market sales as well, the  largest of which was the senior care property at 160 S  Patterson Ave in Goleta mentioned above. 

The decrease in sales echoes the dip in momentum in Q1  of 2020, which also produced 15 sales. While the result is  the same, the context is very different now, one year into  the coronavirus pandemic. A year ago, the economy was  heading into the recession, while today there is a sense of  emerging from it. Based on properties already closed or  under contract in early Q2, we anticipate that the coming  quarters will see both buyers and sellers showing renewed  interest in making deals. 

OFFICE LEASING 

Santa Barbara 

Following the successful lease of the former Saks building  to Amazon, downtown Santa Barbara is seeing new  examples of retail space being repositioned as office.  Pacific Retail—which owns most of Paseo Nuevo—is  marketing the former Macy’s building at 701 State St as  office space for large tenants over 20,000 square feet.  Efforts to lease the building, especially the upper two  floors, to retail tenants have not borne fruit, so they are  pivoting to office. In another retail-to-office conversion,  Silver Air inked a 10-year lease for the 5,740 sf former  Enterprise Fish restaurant building at 225 State St. 

Santa Barbara’s vacancy rate increased to an unprec edented 9.5% with the addition of 701 State St to the  office market. The number of spaces is also at a record  high at 108 availabilities. So why convert retail space to  office, when office vacancy is already at a historic high?  The simple answer is that downtown retail space has proven harder to lease than office space. In addition, there  is a wide consensus that the State Street corridor has too  much retail space given trends in consumer behavior,  whereas the saturation point for office space in the central  business district is open to debate. Also unclear is the  long-term impact of widespread remote working during  the pandemic on office use, and therefore how demand  for downtown office space will recover as the public health  situation continues to improve.  

On the plus side, there are indications that Santa Barbara  office leasing is gaining momentum. The Q1 transaction  count of 28 represents the highest quarterly deal flow  since 2019. Gross absorption was also relatively robust at  82,000  sf, essentially even with the prior 5-year average  on an annualized basis. Much of the transaction volume  was professional office space in downtown Santa Barbara,  such as NovaLaw’s lease of 4,376  sf at 200 E Carrillo St,  and Thyne Taylor Fox Howard’s lease of 2,831  sf at 205  E Carrillo St. There were also some notable renewals:  Impact Tech secured 11,534 sf at 223 E De La Guerra St;  CrossnoKaye expanded to two floors in the Granada  Tower; and Anticouni & Associates renewed 3,111 sf at  201 N Calle Cesar Chavez.  

Goleta 

Goleta office leasing has been in a lower gear for the past  four quarters with volume trending about 40% below  pre-pandemic levels. The vacancy rate of 6.0% is about  one percent higher than a year ago, but still near the  low end of the recent historical range. The two largest  vacancies are 7414 Hollister Ave, vacated by LogMeIn, and  326 Bollay Dr, vacated by Inogen following their move to  the new building at 301 Coromar Dr in Cabrillo Business  Park. The latter is Goleta’s first delivery of a new office  building in nearly 10 years. 

There weren’t a lot of transactions in Q1, but some of  them were worth noting. Asylum Research signed a  long-term lease on the 38,401 sf at 7416 Hollister Ave, part  of the former LogMeIn campus purchased by Majestic  Asset Management in 2020. Asylum will move from  6300 Hollister Ave, where it has been for about 17 years.  Advanced Scientific leased 11,579 sf at 125 Cremona Dr,  the former Medtronic building which was also recently purchased by Majestic. Biond Photonics leased 8,975 sf at  27 Castilian Dr; the building is fully leased following Toyon  Research’s lease of the balance of the building in 2020. 

Asking rates have held steady at a relatively high average  of $2.10 per sf gross, and achieved rents have not softened  during the pandemic. The healthy pricing fundamentals  stem from strong demand, ongoing improvement of  spaces by “value-add” owners, and the name recogni tion of companies like Google and Microsoft burnishing  Goleta’s reputation. 

Carpinteria 

Carpinteria’s office market was very sedate in Q1, with  the only lease of note being Somera Capital’s signing of  3,100 sf at 1145 Eugenia Pl. Most of the availabilities are  class B or class C space, and demand has been sparse. 

RETAIL LEASING 

The pandemic has, not surprisingly, contributed to an  expansion of Santa Barbara’s retail inventory, which stands  at a historic high of 71 spaces available. However, two  years ago there were 70 spaces available, so the market  isn’t in uncharted territory. 

Santa Barbara’s 4.6% vacancy rate is also a new high mark,  exacerbated by the vacant 149,000 sf Sears building at La  Cumbre Plaza now on the market for lease. The building is  offered on a short-term basis, preserving the owner’s flexi 

bility to sell to a developer, and there has been growing  speculation about the prospect and feasibility of trans forming the property into a mixed-use or other residential  concept. The rest of the mall continues to contend with  empty space totaling approximately 29,000 sf. 

The downtown State Street corridor has seen a modest  recovery of vacancy since the peak two quarters ago. The  storefront vacancy rate on the 400 to 1400 blocks is 13.9%,  down from 18.0% six months ago. While any improvement  is welcome, there are still an alarming 27 vacancies in the  five-block stretch from 600 to 1000 State St. Demand from  national retailers for downtown space is virtually nonex istent, and all of the recent leases were signed by local or  

regional concerns. In Q1, Caje Coffee leased the former  Coffee Bean space at 811 State St, which will be their fourth  location on the South Coast and third in downtown Santa  Barbara. In the Funk Zone, Mollusk Surf Shop renewed its  space at 205 Santa Barbara St. Permitting is reportedly in  progress for a climbing gym in the former Staples building  at 410 State St, which would advance the evolution of  State Street as a place to do things rather than buy things. 

There were four retail leases in Goleta in Q1, mainly in the  daily needs centers. For example, Sleep Number leased  2,334  sf in Hollister Village, while Jersey Mike’s leased  2,036 sf in Fairview Shopping Center. Old Town will have  a new craft beer and wine taproom called Centennial Beer  Hall in the former Mercury Lounge space at 5871 Hollister  Ave. Storke Plaza next to Target is being renovated and  rebranded as The Grange. While Goleta’s vacancy rate of  2.7% is relatively high, there is a growing supply of tenants  looking for space in Goleta, and transaction volume is  likely to strengthen as the year progresses. 

INDUSTRIAL LEASING 

Santa Barbara’s industrial vacancy has leveled off at  1.5%, which is about a 50% expansion compared to  pre-pandemic levels. The relatively elevated rate is due to  two large vacancies: 25,050  sf at 436 E Gutierrez St and  12,500  sf at 411 E Montecito St, which have both been  available for about eight months. 

There were three Santa Barbara industrial leases in Q1.  Cutler’s Artisan Spirits leased the former Telegraph Brewing  space at 10,600 sf at 418 N Salsipuedes St. Ocean Fathoms  will be operating its underwater-wine-aging business out  of 3,778 sf at 125 S Quarantina St. In addition the renewal  of their retail space mentioned above, Mollusk Surf Shop expanded into 2,738 sf of adjacent industrial space at 208  Gray Ave in the Funk Zone. Asking rates for industrial space  in the Funk Zone is getting up around $3.00 gross per sf  and higher, which is comparable to asking rates for retail  storefronts on State Street across from the Apple Store. 

For Goleta industrial, Q1 generated just three small leases  totaling about 9,000  sf. Both asking and achieved rates  have held steady during the pandemic. Goleta’s vacancy  rate has decreased since a year ago but is still relatively  high at 5.4%, owing to 102,000  sf available at 30 S La  Patera Ln. 

Carpinteria’s industrial leasing has been in a prolonged  trough with only nine transactions completed during  the past eight quarters. Currently, more than half of the  available space is for sublease, including two spaces  totaling 38,000  sf offered by Procore. There were two  transactions in Q1, the larger of which was a renewal of  
Cutler’s Artisan Spirits leased 418 N Salsipuedes St in Santa Barbara. 8,200 sf at 6383 Rose Ln by Earth Science Naturals.