In the final quarter of 2012, several investors made big bets on the future health of the Aspen downtown commercial core. These investors bought investment properties with capitalization rates — a common measure of investment real estate values — in the low 4 percent range, and redevelopment sites at land prices over $1,500 per buildable square foot.
In order to make sense of these types of values, an investor would have to have a very bullish outlook for the future of commercial space in downtown Aspen. The question is whether these outlooks are justified. The answer is they may very well be.
In the past year, the Aspen commercial downtown core has seen a significant drop in commercial vacancy rates for both retail and office space. In early 2012, the commercial vacancy rate in downtown Aspen stood at roughly 6.2 percent, with about 66,000 square feet of both office and retail space looking for tenants.
This was a significant decline in the vacancy rate since it peaked at about 10 percent in the summer of 2010. When you looked at the vacancy rates in just the downtown core, the area south of Main Street between Monarch and Original streets, the vacancy rate was closer to 3.6 percent. At that time, landlords were getting between $125 to $145 per square foot, net of expenses, for prime retail locations, which was about 30 percent less from the market peak in 2007 and 2008.
Today, the overall vacancy rate for Aspen commercial space is about 4.5 percent, or about 48,000 square feet split roughly 50/50 between office and retail vacancy. When you look at only the downtown commercial core, the vacancy rate drops to about 3.3 percent.
But when you also remove all vacant retail and office space that isn’t considered the prime locations or quality, the vacancy rate drops to under 1 percent. In short, the best office spaces and retail locations are for the most part 100 percent leased, and all that remains are the lesser retail locations and lower quality older office space.
Besides the decline in the vacancy rate, there also have been an escalation in rents. In recent months, new retail leases have been signed at rental rates in the $150 to $180 per square foot range. This is roughly a 20 percent increase from what was considered the top market rents in early 2012. An increase in office rents, particularly for class A space, is likely to follow in the near future since good quality office space is becoming scarce.
Although there are some new buildings currently planned and under construction, they are unlikely to have much of an impact in keeping rents from moving up. Primarily, this is because 45,000 square feet of new space currently being built represents less than 4 percent of the total inventory of commercial office and retail space, and is mostly replacing old existing commercial space.
Over the past 40 years, Aspen commercial office and retail rents have escalated at roughly a 7.1 percent annual rate. This is a rate of increase that’s more than double the rent increases seen during the same period in most major cities around the country. The primary reason why Aspen has experienced this rate of commercial rent increases over the years is the lack of land and the political constraints on developing new commercial space.
So, in answering the question of whether the recent high prices paid for Aspen commercial buildings and sites are justified, it depends on the likelihood that Aspen is about to experience another round of significant commercial rent increases over the next few years as the existing supply of available space diminishes.
William Small, JD, CCIM is the managing director of Frias Commercial Real Estate. Email him at email@example.com.