The new skyscrapers of downtown Los Angeles dominate the skyline. But it's the frumpy and faded commercial buildings of old that rule today's action in the real estate market.
A leasing frenzy by telecommunications and Internet-related firms has sent rents for so-called Class B and C buildings--older structures in marginal areas--soaring over the past year. In fact, while downtown skyscrapers have lost tenants in recent months, the older buildings have gained new occupants, according to real estate reports.
"Banks, lawyers and accountants are not leaving--but they are not taking up more space," said Whitely Collins, a broker at CB Richard Ellis Commercial. "The only growth we've had in downtown in the last years has come from the telecoms."
The formerly out-of-fashion properties have outpaced their Class A skyscrapers in rent increases. For example, rents for Class A buildings in the first quarter of this year rose 11.6% from the same period in 1999. In contrast, Class B rents soared more than 30%, according to a survey by Grubb & Ellis.
Despite the sharp rent increase, demand for older properties remains strong. In the second quarter of this year, Class B and C buildings added 127,000 square feet of new tenants, according to Grubb & Ellis. Class A buildings, meanwhile, lost a stunning 870,000 square feet as formerly blue-chip corporate tenants--such as Arco--have merged or continued to shrink.
"You've got a lot of start-ups going to Class C buildings," said Doan Nguyen, a Grubb & Ellis research analyst.
Last year, 1.3-million square feet of outdated or obsolete commercial space was leased or purchased for telecommunications tenants, according to Hayden C. Eaves IV, a broker at Cushman & Wakefield. About 500,000 square feet has already been leased this year, and the pace is expected to continue into 2001, he said.
The arrival of telecommunications tenants has met with a mixed response from the downtown establishment. Much of the office space is converted to house racks of high-speed telecommunications equipment that is maintained by skeleton staffs. The small numbers of people in these switching stations could rob downtown of much needed vitality and reduce retail sales, some critics say.
However, supporters say the new telecommunications tenants have come to the rescue of buildings that were mostly empty and waiting for the wrecking ball. The switching stations could also help draw other, more people-intensive technology and communications companies that would be attracted by the area's dense network of high-speed connections.
The large demand for Class B and C buildings has also proved a boon to landlords, some of whom can collect rents that exceed those commanded by space in premium skyscrapers.
In September, downtown landlord Hertz Group reaped a windfall when it sold the University Club, an empty 1960s-era building on 6th Street, to a developer of telecommunications space. The firm, controlled by Judah Hertz, received $5.65 million--almost twice what it paid for the building in late 1997.
"It's been a huge help," Hertz said of demand for switching centers. "I was able to sell [the University Club] for a substantial amount of money because of telecommunication."
But demand for Class B and C buildings that can't be retrofitted for telecommunications is far weaker. Traditional office tenants can take advantage of downtown's high vacancy rate--about 25%--to find bargains in top-tier buildings.
Why would most tenants pay $12 a square foot a year in an outdated structure when they can sublease space in a new skyscraper for $15, said Whitley Collins, a broker at CB Richard Ellis.
"There is very little savings to go to the lowest-quality building downtown," Collins said.