Corporate Office Perspectives | April 2023 | Issue: 257
I’m writing this mid-March, right after the Silicon Valley Bank collapse. What does this mean for commercial real estate? More stringent lending requirements, more equity requested for loans, more strain on the life science and tech sectors…Just when you thought we had enough stress in the commercial real estate industry!
Corporations May Want To Pay More Attention To Working-Alone Space In Bringing Employees Back To The Office
Janet Pogue McLaurin with Gensler, one of the nation’s gurus on predicting the future of corporate office layouts, functionality, and many other nuances of the office environment, wrote an article illustrating the key findings of a recent Gensler survey of CoreNet Global end users. “Respondents rated the space effectiveness for each of the five work modes. The research revealed that the current office environment is working well for collaborating with others in-person, learning, and socializing. The office appeared to be working well to support the work activities that people cannot do remotely — collaborate, coach and mentor, connect, and build relationships with each other. However, the space effectiveness is not working for working alone and working with others virtually. In fact, those scores have declined considerable since pre-pandemic and are now at an all-time low. Working alone was ranked by employees as most critical to their job performance and requiring a high degree of concentration. Working with others virtually has become an important component of distributed work and global teams, with 56% of meetings occurring in the office having both in-person and virtual participants. Providing space to support both working alone and working with others virtually is critical to creating high-performance workplaces.” Bottom line to me, group workspaces, conference rooms, foosball and collaboration space is all well and good, but a sizable percentage of employees also want ‘working alone’ space.
Salesforce Now Downsized A Total Of One Million Square Feet In San Francisco!
Salesforce just put 125,000 sf of excess office space on the San Francisco market. According to one report I read, this puts the total of Salesforce San Francisco downsizing to one million square feet. Meanwhile its profits are going through the roof, with sales up 14% year-over-year and net profit at $23 Billion! Guidewire just sublet to Roblex in San Mateo 180,000 sf of office space at 2850 South Delaware Street. So some ups and some downs!
The Office Market Will Get Uglier Before It Regains It’s Beauty
Headlines in today’s THEREGISTRY, “Columbia Property Trust Defaults on $1.7B in Mortgage Notes on Buildings in San Francisco, Across the Country.” The portfolio of seven buildings includes 650 California St. and 201 California St., both in San Francisco, as well as buildings in New York City, Boston and New Jersey. The San Francisco office market, with a reported 28% vacancy, is still expecting more vacant space to add to this. It has the lowest percentages of employees coming back to the office in the U.S., and the cost of tenant improvements if you do locate a replacement office prospect can be $100-200/rsf. Buildings that were purchased prior to 2019 were routinely seeing $600-900 per square foot and now are being valued at $350-500 per square foot. The silver lining is buyers with cash and the correct timing will make money, but timing is critical. I remember in our early 1990’s office downturn where buyers purchased foreclosed properties at distress pricing, only to lose the building in a second foreclosure when the market sank even further.
Yelp Analyzed Three Years Of Remote Worker Data
Between 2019 and 2022, according to the SF Business Times, the share of workers living near its office locations fell, with the largest drop of 70% occurring in San Francisco, followed by New York, Washington D.C. and Chicago falling by 67%, with the number of Yelp workers living in Florida and Texas going up 400%! You would think all the folks leaving California would cause our housing prices to dramatically go down (in most areas, they haven’t), our traffic issues to ease and it would be easier to get a table at the trendy restaurants (still hard).
Major SF Downsize (another) and Major Los Angeles Office Loan Default
Slack just announced it is giving up 230,000 sf of headquarters office space at 500 Howard St. in San Francisco and moving into Salesforce Tower. Salesforce owns Slack. Down in Los Angeles, Brookfield defaulted on $784 million in loans on two downtown Los Angeles office towers, 555 West Fifth Street and the other at 777 South Figueroa St. I have also met with major investors who have tons of cash waiting for bargains. What do you think?
Office Activity Northern California
The Taipei Economic Cultural Office just purchased a 56,000 square foot Class A office building completed in 2022 and located at 345 4th Street in San Francisco for $52.8 million. Apple just leased 150,000 square feet of office space at 605 West Maude Ave. in Sunnyvale, which Google announced it is taking $500 million in costs during Q-1 2023 to consolidate office space. San Francisco office buildings recently on the for-sale market asking $450/sf but getting offers in the $250/sf range illustrate a pricing trend that might be with us for a while.
The Feasibility of Converting Office Buildings To Residential or Life Science
There are a number of major U.S. cities currently studying the viability of conversion of existing office properties into residential. This would solve two problems at once, with the oversupply of office buildings and the lack of housing. Compstak had a recent article on this and listed the key policy ideas which would facilitate such conversions. *Removing residential density restrictions *Providing tax breaks and incentives *Streamlining project reviews *delaying or removing impact fees. From what I have heard and read on this; in many cases it simply is not economically feasible to convert most office buildings to residential. You need to factor in the centralized heating and air conditioning, the restrooms and enormous cost of plumbing individual apartment or condos, the floor depth of many buildings, and on and on. Out in the suburbs it is often more feasible to demolish the office building and build residential from ground up. I also saw a recent article with San Francisco Mayor London Breed desiring to convert downtown office buildings to biotech, but at a recent SIOR program the biotech developer listed all the reasons that make this for the most part unfeasible. Lab facilities usually need huge spaces above the ceiling for the heating and cooling ductwork and ducting out the air from the fume hoods and lab equipment. Electrical requirements might be several times what is available in the office building. Floor loads might not be strong enough to support the labs above the first floor. Any other ideas of what to do with substantially vacant downtown office buildings?
If Office Buildings Go Down In Value, Tenants May Be Able To Lower Their Rental Expenses
I have seen recent alarming reports of Class A office buildings being sold for less than what they were purchased for. I just read of a ten-year old Class A LEED certified office building which was purchased ten years ago for $90 million recently being sold for $60 million. I also know of Class A office buildings in the East Bay which may also sell for less than what they were purchased for and are currently assessed at, and this might cause a reduction in property taxes. Most Class A office leases have an operating expense pass-through clause whereby on an annual basis increase in annual operating expenses are passed onto the tenant as additional rent. There may be lease clauses where if the expense goes down the cost to the tenant is reduced. There are also ‘ratchet-clauses’ which don’t go down and only go up so check out what your lease language says. The property tax component in office building costs can be significant.
Still Looking For Positive News About The Office Market…
Meta (Facebook) just put 432,000 square feet of Class A San Francisco office space on the sublease market, with a lease term running until March 2031. This adds office inventory to the current 28% San Francisco office vacancy. Up in Portland, KBS REITS just defaulted on a 224,000 sf LEED Gold-certified office building with $46 million in debt, with the reduced occupancy of 52% insufficient to cover the mortgage payments. I am keeping my eyes out for positive news, but there are increasing cracks in the office building dam.
Commercial Real Estate Distress Starts As A Trickle, Will The Torrent Be Ahead Of Us?
Two commercial real estate stories caught my eye in the January 12th, 2023, Bisnow daily newsletter. I think they are just warning signs of what might be coming throughout 2023 and beyond. A few weeks ago, I blogged that a number of major banks were unloading at a discount office building loan, and that in many regions it is getting more and more challenging to obtain a new loan on an office building purchase. I hadn’t heard of hardships in the apartment investment market, but if you are running only 76% occupied a negative cash flow might become unbearable. “New York landlord Chetrit Group is looking to sell more than 8,000 residential units it acquired across 10 states in 2019 as it faces default on a $481M loan it used to finance the acquisition, The Real Deal reports, citing a report by Trepp. The CMBS loan, originated by JPMorgan Chase, was used to acquire 8,671 units New York, Illinois, Indiana, Ohio and several Sun Belt states, but despite strong nationwide demand for apartments in nearly four years since the acquisition, the portfolio had an occupancy of just 76% in the year leading up to March 2022, per Trepp. Chicago-based Glenstar Properties and partner Oaktree Capital Management relinquished control of the 44-story Chicago Board of Trade Building in late December, handing over the keys to Apollo Capital Management and its Athene fund rather than facing a likely foreclosure lawsuit, CoStar reports.” What do you think is ahead of us?
Commercial Real Estate Investment Market In Bay Area Worst In The Country
“The Bay Area was ranked first on a list of 10 markets that lenders are most concerned about in terms of performance in 2023, according to a report released by real estate firm CBRE this month. Phoenix and Portland rank No. 2 and 3, respectively, with Western markets Las Vegas, Los Angeles and Portland also appearing on the list. CBRE’s report ranked Miami/South Florida, Raleigh-Durham and Atlanta as the most preferred markets in 2023. Lenders’ top three concerns were rising interest rates, fear of a recession and uncertainty about property valuations. Other worries include declining fundamentals; inflation; the shift in credit availability and loan terms; a mismatch in buyer and seller expectations.” San Francisco Business Times Jan. 13, 2023
Son Jordan is still doing great building industrial drones for the fire and police departments as well as a variety of private industry. His company, Inspired Flight, is based in San Luis Obispo and if you have never been to this wonderful town, it is well worth visiting. Try it out on a Thursday evening when they have one of the most vibrant farmers markets anywhere, with local farm stands, live music, street food and thousands of folks strolling downtown. Pismo Beach is just 20 minutes away, and there are some terrific wineries both in SLO as well. My other son Hunter is working on a business degree at Diablo Valley College and working at Petco taking care of their animals. Father Arthur, who is now 97 ½ years old, has been going to all the big musicals in San Francisco, and I was lucky enough to enjoy Mean Girls and SIX in his company.
Stay warm and safe, weather-wise as well as financially, and please don’t hesitate to call me regarding any commercial real estate questions!
