A Look at GSA Rent Growth

Portfolio investors of GSA-leased properties will be pleased to learn that GSA gross rents have, on the whole, performed reasonably well in the past ten years. GSA leases typically do not contain rent escalations–in fact, in many leases rent declines after the firm term due to TI deamortization. Despite this, nominal rents across GSA’s leased portfolio have increased, on average.

The chart below shows that nominal GSA gross rents (for leases >=5,000 RSF from 3/2007 through 3/2017) have increased on a per-square-foot basis over the past decade, albeit that trend has been petering out.

Perhaps more important, during the same 10-year period GSA rents have held their own against inflation. If we index inflation to the most current month in the trend, we can see that real GSA rents have remained pretty steady, notwithstanding the 2009-2010 “hump” due to short-term Census-related leases. The rent at the current end of the trend is, in fact, a few cents greater than the inflation-adjusted rent 10 years prior.  That is good news for federal portfolio investors looking to provide a vehicle for low-risk property investment.

The more pertinent question is whether treading water against inflation is “good” performance. While sophisticated comparison against a variety of other real estate sectors is beyond the scope of this article, we did compare GSA rents against the office sector average.

The chart below compares inflation-adjusted GSA rents against average office rents in the 20 U.S. metropolitan areas that house most of GSA’s property inventory (tabulating this data for the entire nation was beyond the limits allowed under our CoStar license). We can see that overall office sector rents have increased modestly since 2013, yet that rally has not compensated for the pronounced collapse brought on by the Great Recession.

Why have GSA rents proven to be so resilient? One reason is that they generally increase upon renewal. This is because unique requirements make many federal tenants captive in their buildings because there may be few, if any, options for them to relocate. Further, though federal lease renewals typically require full and open competition, GSA adds the cost of relocation and replication to competing bids. Therefore, the incumbent lessor can conceivably offer the highest rent and still score more competitively in the price evaluation.

Another factor buoying the GSA rent trend is that in the years leading up to and through the Great Recession a record number of new buildings–most of them build-to-suits– were delivered. These facilities were usually more special purpose than the average building and also more expensive.

Finally, GSA never truly took advantage of softening markets during the recession. The federal government had ample opportunity to do so due to a huge pile-up of near-term lease expirations. Yet, GSA and its tenant agencies were faced with intensifying budget pressures and the need to develop long-term plans for workplace consolidation and realignment. So, instead of executing new leases at lower rents the government more often signed short-term extensions at continuation rents, or higher.

While GSA rents have performed well over the span of 10 years, the second half of that decade was different than the first. As the graph above indicates, GSA lease rates provided great counter-cyclical growth through the Great Recession but they have lost ground to inflation over the past six years. This can largely be explained by the fact that budget austerity has shut off the pipeline of new (more expensive) build-to-suits almost completely. But, the weakening is also probably due to a truism of GSA leasing: federal procurements are competitive and GSA rents are ultimately going to settle in line with “market” rents, especially for rank-and-file leases.

Investors will be encouraged to see that current GSA rents have remained solid as compared to 10 years ago, outperforming the office sector. These same investors will recognize, however, that past performance is no guarantee of future results, especially as GSA rent growth appears to be weakening.