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Cenovus looks to offload office space as oil slump drags on

Cenovus had agreed to lease one million square feet in Brookfield Place in Calgary, but the market downturn has resulted in a need for less office space.

Cenovus Energy Inc. is shopping for replacement tenants to fill unused office space and is now expected to occupy just half of what it agreed to in the new Brookfield Place Calgary tower, sources say.

It's the latest sign that cash-strapped energy companies are looking beyond field operations for cost savings as oil markets sputter. Major producers have already clawed back dividends and spending levels, and are now reassessing lease agreements signed when the industry was in expansion mode.

Cenovus in July, 2013, agreed to lease one million square feet of space in the building's east tower, which at 56 storeys and 247 metres in height will be the tallest structure in Western Canada once construction finishes in late 2017, according to its developers.

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However, the company has cut 1,600 jobs from its payroll since the end of 2014, including 440 staff this year. The cuts were made to cope with the plunge in crude prices to under $50 (U.S.) a barrel from more than $100 two years ago, leaving the company with a glut of empty space, adding to a commercial vacancy rate in downtown Calgary that topped 20 per cent in the first quarter.

"We don't need as much space as we initially anticipated a few years ago when we negotiated our lease agreement there," Cenovus spokesman Reg Curren said. "This goes for all of our properties." Cenovus later said it would sublet some of its space at Brookfield, although it is not clear how much.

Sources say the company occupies 2.5 million square feet in several buildings in the city's downtown core, including the Bow tower and its lease agreement with Brookfield. The company is said to need just 800,000 square feet in total and is anticipated to occupy just 400,000 to 500,000 square feet of the new tower.

Cenovus, MEG Energy Corp. and others are seeking to offload unused space just as a wave of new towers near completion, many of them conceived at a time oil was trading comfortably above $100 a barrel.

New buildings under construction by Manulife Real Estate, Telus Corp. and Brookfield will add another 2.5 million square feet to a market brokers say is already saturated. The additions could drive the vacancy rate to 25 per cent in 2018, according to Colliers International.

"Roughly a third of that will be vacant once when it hits the inventory," heaping more pressure on already reduced rates, said Joe Binfet, a managing director at the brokerage in Calgary.

That's good news for prospective tenants, who in some cases are being wooed with a year's worth of free rent, allowances for interior decorating, and other incentives. But the glut will make it difficult for energy companies to sub-lease space they no longer need without taking a financial hit, he said.

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For example, oil-sands producer MEG Energy Corp. booked a $58.7-million (Canadian) expense in the fourth-quarter last year tied to "onerous" office lease contracts, specifically the difference between future lease obligations and estimated recoveries from subleases.

For Cenovus, there are restrictions on what it can do in terms of subleasing while Brookfield is still searching for other tenants to occupy the building, people familiar with the contract said. The deal stipulates that greater than 90 per cent of the building must be leased before Cenovus can formally sign up subletters.

Currently, Cenovus is the sole tenant in the tower, and is contracted to occupy 71 per cent of the building. Its lease agreement with Brookfield also allows the company to sign with subletters about 18 months after the building is completed, even if there isn't greater than 90 per cent occupancy.

On Friday, Matt Cherry, vice-president of investor relations and communications for Brookfield Property Partners, LP, said the commercial real estate firm expects Cenovus to honour the lease agreement. "We see no reason why they won't."

Construction on the tower is not complete but the core and structural steel components last month reached their full height.

When Brookfield originally announced the project in 2013, it was a different world – Calgary's office market had a vacancy rate of about 5 per cent.

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An additional office tower totalling roughly one million square feet is slated to accompany the main building. Mr. Cherry said that project is still in the planning stages, and Brookfield is looking for an anchor tenant for the second building before it breaks ground there.

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