Sub Market Report - Energy Corridor

1401 Enclave had two of the largest lease signings in 4Q 2010 with SK&C and Callon Petroleum

Overview:

Absorption: In 2010 the submarket netted over 700,000 SF of positive absorption with positive activity so far in Q1 2011.

Flight to Quality: Tenants who previously occupied Class B space have used favorable market conditions to upgrade into Class A assets.

Rent rates: Class A and Class B quoted rent rates have been trending lower, but fundamentals are enabling concessions to thin with a flatting of rates expected to follow.

Vacancy: Class A and Class B vacancy rates are decreasing , with no new construction coming online in 2011.

The Energy Corridor was the strongest submarket in Houston in 2010 and finished the year strong with a very positive Q4 2010. The submarket had over 700,000 SF of positive absorption in 2010 with a trajectory that seems to be continuing into 2011. A good percentage of the absorption is occurring in the Class A buildings with tenants in Class B buildings taking advantage of the market and upgrading into better assets. While this "Flight to Quality" is consistent throughout the broader market, it appears to especially be playing out in the Energy Corridor.

The big news of 4Q 2010 of course was when KBR signed a 78,000 SF 11-year lease at Eldridge Oaks. This November announcement (which was in process for most of 2010) was followed with the information that KBR will more than likely be taking down additional space in the building (potentially up to 200,000 SF).

KBR was a welcome sight for Eldridge Oaks

WorleyPraons also leased 60,000 SF at Energy Center II and Alta Mesa took 40,000 SF at Energy Crossing. Both tenants relocated from Class B buildings to newer Class A assets. In addition, the companies SK&E Co. and Callon each made full floor deals at 1401 Enclave in the fourth quarter of 2010. We expect to see more of the "flight to quality" as we progress into 2011. Energy companies are paying to be in top tier buildings -- which should be a positive indicator for Class A landlords in 2011.

The Energy Corridor sales market has seen positive activity as well. In the early part of 2011, The Opus Group sold Ten West Corporate Center II to an affiliate of ING Clarion Partners. The property is 100% leased to Mustang Engineering. For the more risk adverse buyer C-III has put 1200 Enclave on the market. The former home of Cabot Oil & Gas has good upside but is sitting at 25% occupancy (pricing is rumored to be in the $115 to $120 PSF range). On the other end of the risk spectrum is Younan Properties, Two Westlake. The 100% leased building (ConocoPhillips and BP) is rumored trade around $220 PSF.

Forecast:

For Energy Corridor Landlords, progressively strengthening fundamentals make the submarket a great place to be located -- especially for Class A owners. However when the newer and more vacant developments begin to compete there will more than likely be a downward pressure on rents. The other mitigating risk is the lingering effect of the drilling ban. While the moratorium has been lifted, there have been no new permits approved since the ban was removed. This is the greatest threat for Energy Corridor tenants and subsequently landlords. However due to unrest it the middle east oil prices are at does bode well for the industry as a whole. Regardless, the Energy Corridor should continue to strengthen and Class A owners should see the benefits. It is important for Class A landlords to be ahead of the curve to know when to pull back on concessions.