The pandemic threw commercial real estate into a tailspin last spring as employees and their bosses abandoned offices to work from home and retailers shuttered their stores to slow the spread of the coronavirus. More than eight months have passed, and much of the sector is struggling to recover.
Cities have been hit particularly hard.
“We have seen significant impact in major markets that have high density. Large companies have sat relatively empty since March,” said Edward Mermelstein, founder and CEO of the real estate firm One & Only Holdings.
Only 8% of workplaces in large metropolitan areas expect to reopen before the end of the year, and another 35% have no timeline to reopen, according to a Conference Board survey conducted in late August.
Marina Vaamonde, founder of PropertyCashin, told the Washington Examiner that metropolitan areas might be forever changed by the pandemic.
“Downtown will no longer be the center of town as we know it,” she said in an email. “The decreased amount of traffic in and out of downtown will have a devastating effect on the business located in the area.”
Linda Foggie, a senior vice president at Turner & Townsend, a professional services firm specializing in the commercial real estate sector, said the pandemic will reshape metropolitan regions as companies relocate to less populated areas.
“What we might start to see is a spreading out, what we call sometimes the hub-and-spoke model. Sometimes, people refer to it as the suburban office,” she said. “What I mean by that is demand for a big office in the center of a major city with a thousand people in one building, maybe the day for that will pass.”
Still, the tumult facing commercial real estate is not limited to big cities. It’s happening in the suburbs, too.
Shopping malls, many of which are located in the suburbs, could lose more than half of their anchor stores by the end of next year as people shop online to avoid crowded stores.
Gary Beasley, CEO and co-founder of real estate firm Roofstock, said he expects that roughly 20% of the workforce will continue to work from home, at least part time, after the pandemic passes. Roughly 5% did so before the virus hit.
The increase in remote workers has put downward pressure on rents for commercial real estate because less space is required to house a smaller number of employees.
“Landlords are in deal-making mode and more about retaining occupancy than maximizing rent,” Beasley said.
Property owners are negotiating all aspects of rent concessions, from rent reduction to rent forgiveness, Mermelstein said.
The pandemic hit the consumer-facing subsectors of commercial real estate the hardest, according to Matt Frankel, a certified financial planner and senior real estate analyst for Millionacres, a Motley Fool service.
“Retail is an obvious example, and hotels and entertainment properties have also been among the most affected,” he said.
Entertainment properties, such as movie theaters, have taken a tremendous hit since the pandemic began.
AMC movie theaters last month announced that it could run out of cash by the end of the year.
Frankel said that one movie theater operator modified its leases to reduce its rent but increase the length. So the tenant eased its monthly payment but is locked into a longer agreement.
“There are certainly an elevated amount of rent concessions taking place right now, but in many cases, it’s designed to benefit both the landlord and tenant,” he said.
Still, some companies with leases that are about to end are choosing not to renew them, according to Mermelstein.
“Offices have remained relatively empty, and many tenants have given back keys,” he said.
Vaamonde warned that landlords could face a dire consequence if they can’t fill their vacancies.
“As it stands, a number of office buildings will continue to be tenantless for the foreseeable future. As time goes by, property owners [could] … find themselves in foreclosure,” she said.
The value for commercial real estate has already been written down by an average of 27%, according to a report by Wells Fargo.
“It’s a big number,” Lea Overby, a Wells Fargo analyst, told the Financial Times. “This is material.”
Write-downs are due to appraisals being done because commercial property owners are having trouble making their mortgage payments and need a new loan to cover expenses.
Others seek to sell their properties.
Vaamonde said that her firm has seen purchased properties in Dallas, Texas, Cleveland, Ohio, and Charlotte, North Carolina, go for 60 cents on the dollar.
“As distressed sellers of commercial real estate hit the market, there is an enormous upside to scooping up the deals,” she said.
As companies close, Foggie said she expects the ones surviving will merge to avoid a similar fate.
“As the recession deepens, some companies will not be able to survive. As those companies fall out, you may start to see some consolidation in certain industries, mergers and acquisitions,” she said.
Other owners might seek to repurpose their property, according to Deryl McKissack, CEO of McKissack & McKissack, the nation’s largest and oldest African American and female-owned architecture, engineering, and construction management firm, which is located in Washington, D.C.
McKissack said that adaptive reuse was already a big trend in commercial real estate, but now, many office buildings may become residential because people are doing all their living and working at home.
“This trend is here to stay because people like this flexibility,” she said.
Still, landlords take a hit going this route because residential rents are lower than commercial rents. To close that gap, some owners have transformed office space into luxury condos and charged more for rent.
“That works if they are in highly desirable locations,” McKissack said.
