Long-Term Leased Assets Now More Plentiful, Yet Older

From its peak in 2013, the number of long-term GSA-leased properties declined steadily for four years before stabilizing. But only in the past year has that portion of the property inventory started to recover. This trend was easy to predict because the number of long-term lease procurements initiated by GSA has been improving in recent years. That leading indicator has now manifested itself in a growing number of long-term leased properties, a trend that is likely to continue. Looking closer at these properties, though, reveals another trend reflecting the changing nature of federal real estate investment.

The graph above shows the total number of GSA-leased buildings each month that: 1) had at least 15,000 RSF of GSA-leased space; 2) were at least 85% leased by the federal government, and; 3) had more than 10 years of remaining lease term (without regard for cancelation rights).

From the low point in May 2019 to the present, 29 new long-term leased assets have become available on a net basis. This improvement comes at the right time because increasing amounts of capital are attracted to the safety of long-term, GSA-leased assets. Yet, a lot of the buildings in the above chart–even the ones labeled as lease-construct (i.e. build-to-suit) projects–are now on their second (or third) leasing cycle. As an example, take note of that little spike at the end of the trend. Ten properties were added to the long-term leased inventory in August 2020 but nine of them were due to renewals. Only one of these was a “classic” freshly built asset of the type that investors are questing for.

The good news is that all buildings are generally benefitting from long-term renewals, but the bad news is that these buildings are aging. The primary reason for this is the fact that there have been far fewer new federal buildings breaking ground over the past several years. Also, the 1990s and 2000s saw substantial new construction and many of those initial 10-20 year leases are now rolling over. In earlier times, we’d see a pattern where each generation of leasing results in somewhat shorter terms, on average. But now leases are getting longer, even on renewals. Together, these two factors are creating an unusual dynamic where long-term leased buildings are becoming older.

The aging trend raises some complications because the attractiveness of federal property investments now leans more on the strength of U.S. Government credit and less on the quality of the real estate (which is, well, older). Age is important because even federal workers yearn for new buildings. Though incumbent buildings generally retain their federal tenants, evolving mission needs increase the odds that older buildings will eventually be replaced. Underwriting, therefore, becomes more crucial and that favors experienced investors, which narrows the entry point for new investors and continues to make the government sector less competitive than it could be. Yet, the improved prospect of being able to convert short-term leased properties to long-term ones is attracting a lot more interest among a more entrepreneurial class of government investors.

Methodology: In the first graph, properties with multiple leases are omitted, even if they total greater >= 85% occupancy (there are few of these that also have >= 10 years of remaining term).  This methodology is consistent with previous versions of this graph.  In the second graph, the average building age is calculated on properties no more than 50 years old.  The age of renovated properties is calculated from the renovation date. 

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