Will Outsourcing Temper
Office-Market Rebound?

Will outsourcing of U.S. jobs overseas throw a monkey wrench into a U.S. commercial real-estate recovery?

It's a question that's sparking heated debate. But one thing is clear: Outsourcing will slow growth in demand for commercial office space, meaning the industry won't rebound as quickly as many hoped.

Big companies -- from Intel Corp. to Motorola Inc. to International Business Machines Corp. -- have been moving jobs abroad, and the trend is expected to continue. The moves, coupled with still-high national office vacancy rates, have kept outsourcing a hot topic at numerous real-estate conferences and the subject of a flurry of research papers.

Research firm Reis Inc. expects absorption of space to fall 26% from its peak to an average 68.7 million square feet over the next three years, due partly to outsourcing.

Dire Predictions

Last month, Forrester Research Inc., a Cambridge, Mass., technology research firm, revised upward its previous forecast for the number of white-collar jobs that would be shifted offshore by 2015 to 3.4 million from 3.3 million.

Around the same time, a survey by Chicago-based real-estate services firm Jones Lang LaSalle Inc. showed that 80% of real-estate executives for major companies said they were likely to increase their offshore call centers and computer services over the next five years. Two-thirds said they were likely to increase offshore back-office functions.

"There's a clear impact on the real-estate sector from the offshoring trend," says Dale Anne Reiss, global director of real estate at Ernst & Young LLP in New York. Using Forrester's earlier forecast, Ms. Reiss had calculated that demand for about 50 million square feet of office space a year will be lost as jobs move overseas. "We've already seen office demand equivalent to the central business district of Tampa move overseas," she says, "and at a faster rate than previously anticipated."

In a report in March that provoked much discussion, M. Leanne Lachman, president of Lachman Associates LLC, a real-estate consulting firm, and scholar at Columbia University's Columbia Business School in New York, predicted outsourcing of jobs will result in 500 million square feet of lost demand over the next 12 years, about 17% of the total nationwide office market. "We will keep the current very high vacancy rates" because of offshoring, says Ms. Lachman. "Rents will not go up. Tenant concessions will not go down. And it means overall property values will go down."

A report last fall by Ashok D. Bardhan and Cynthia Kroll of the Fisher Center for Real Estate and Urban Economics at the University of California, Berkeley, reached similar, though more dire conclusions. It put the upside of square footage lost at 800 million feet over 10 years.

But new research from LaSalle Investment Management, a unit of Jones Lang LaSalle, and PricewaterhouseCoopers of New York concludes that such forecasts are overly pessimistic. Both point out that what's being lost in the discussion of outsourcing jobs is the insourcing of jobs to the U.S., with foreign companies hiring employees in the U.S.

"Insourcing provides substantial office demand in the U.S.," says Steven Laposa, director of global strategic real-estate research at PricewaterhouseCoopers, citing statistics from the Organization for International Investment. Ohio, Georgia, Michigan, Pennsylvania and New Jersey rank among the top states for insourcing, according to the organization, a Washington, D.C., business association representing the U.S. subsidiaries of international companies, which keeps track of the number of jobs being sent to the U.S.

Certain markets are expected to be protected from loss of jobs overseas. The effects aren't expected to be felt much in metropolitan markets, for instance. And government centers like Washington or Sacramento shouldn't see big losses since outsourcing is politically unsavory.

Suburban Plight

However, suburban, secondary and tertiary markets that serve the call-center and data-processing industries are widely expected to be hardest hit.

"From a real-estate perspective, it's for sure not positive news for suburban [office] buildings so I think at the very low end of the office market, [outsourcing] certainly will reduce demand," says Sam Zell, chairman of Equity Office Properties Trust, the nation's largest office landlord. "Since these types of jobs tended to be outsourced to rural areas, the near-term impact on 24-hour urban cities will be zero."

Bill Maher, director of North American research and strategy at LaSalle Investment Management, says cities such as Tampa, Jacksonville, Fla., and Tucson, Ariz. -- areas known for having a large call-center concentration -- could see short-term employment and real-estate problems until new businesses create jobs for laid-off employees. But, he says, many of the major call-center locations are in high-growth areas that tend to create numerous jobs. "Overall growth in these high-growth cities should keep employment and office demand at relatively high levels," he says.

Nevertheless, some building owners are still fearing the worst. "What fills office space is jobs," says John P. Kelly, chairman of Building Owners and Managers International, a Washington D.C., trade group representing building owners and managers. "And if jobs get outsourced overseas, until there is a replacement job here, we're likely to have empty space."

What's more, he says, there is a fair amount of shadow office space, extra room a tenant isn't using but isn't putting on the market for sublease. Shadow space currently is estimated to total about 4% of office space nationwide. "The likelihood of tenants renewing the lease on that space is very slim," says Mr. Kelly.

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