How Has COVID-19 Impacted Commercial Real Estate?
COVID-19 has swept away our sense of normalcy, creating new work dynamics as most white-collar workers perform their day-to-day tasks from home offices. Already this has caused companies to reevaluate what their office might look like should working-from-home requirements ease. To learn about the impact that the pandemic is having on commercial real estate and office space, GLG talked to Alex Cohen, former Senior Director of Commercial Brokerages for the Americas at Cushman & Wakefield and currently Vice President of Compass’s Commercial Division. This interview has been condensed and edited for clarity.
Let’s begin with your thoughts on the office space sector before COVID-19.
Regarding new leasing activity and space absorption, 2019 was a record year for office markets, particularly in the coastal tech-driven markets: New York, Boston, San Francisco, LA, Seattle, and tech hubs like Austin. The only negative was the very clear overexpansion and financial problems WeWork faced. That cast a pall on the third and fourth quarters, primarily in terms of psychology, because there was an expectation that we would be coming into higher levels of vacancy and softening rents as WeWork space potentially came back to the market, pushing up vacancy.
Generally, we had very high valuations that reflected good office fundamentals, low unemployment, and steady GDP growth, with only moderate amounts of speculative new office construction on the supply side. There was roughly 160 million square feet of office space under construction at the end of 2019 (about 2% of the nation’s total office stock). Slightly more than half of this office construction was going to be delivered in 2020.
Let’s move into the current environment. Can you talk through occupancy trends?
There’ve been a lot of surveys of where things stand today in terms of decision making. CoreNet surveyed corporate real estate professionals last week; 69% of them expect to reduce their space footprint in the future. That was up from 51% in late March. Gartner reported that 74% of CFOs they’ve surveyed plan to permanently shift some employees to remote work. This, combined with levels of unemployment we haven’t seen since the Great Depression and the layoffs we’ll likely see throughout 2020, means that employment is unlikely to rebound to pre-COVID-19 levels for another four or five years.
In a typical downturn, layoffs generate substantial amounts of sublease space coming to market. Companies try to secure new occupants to fill space they no longer need. That’s not happening now. The market is frozen because we don’t yet have a widespread opening in the major markets. Almost all new construction has been delayed, if not stopped completely. We can expect these trends to continue for the foreseeable future. It’s hard to tell when a full return to work will happen.
Do you believe that COVID-19 will put price pressure on rents moving through 2020 and beyond?
We have the double whammy of all the layoffs and the likelihood that companies will shrink their footprints. That’s going to put pricing pressure in the densest office markets, like New York, Boston, San Francisco – markets that have also had the greatest growth. There could be a drop of 30% to 40% in rents. In the 18 months following 2008, we saw a drop of about 30% in rents. This could be even worse.
Do you expect companies that want to maintain most employees in offices to increase the total office space to allow more space per employee?
I’m not sure they’ll need more space. A small, boutique firm will likely reconfigure and probably have enough space to satisfy social distancing protocols. They’ll add partitions and spread out their workstations and use less communal space. Larger firms will likely rethink how existing space is allocated.
For example, instead of having a large trading floor, they’ll likely have a limited trading area with additional partitions and spacing. I expect they’ll encourage a proportion of workers to continue to trade or work from home, but in-office, they’ll have specially design collaboration centers, conference rooms, and meeting rooms that meet social distancing standards but also allow face-to-face interaction. They’ll probably encourage people to come in and only use those facilities on an as-needed basis and thus maintain less density daily throughout the office.
Is COVID-19 having more impact in the Northeast than in other metro areas around the country? Let’s talk New York City, specifically. How are properties trending there?
Coming into the crisis, we saw 4.5 million square feet of coworking space open just since January 2019 in New York City. That’s 3.5% of the total inventory. A quarter of New York City office leases in 2019 went to tech firms. Tech and coworking were driving the market with a record level of employment at the end of 2019 and unemployment of only 2.9%.
Since the advent of COVID-19, the first quarter of this year saw only 4.5 million square feet of office leases signed. That’s nearly 50% below the prior 10-year average, and it’s the weakest quarter in 25 years.
In April of this year, leasing was 64% less than the five-year monthly average. In 2008, the recessionary period lasted for 35 months. Rents went down for about 17 quarters and took another 24 quarters to recover. While that recession was dramatic, it doesn’t appear to be as impactful as this one. The largest space occupiers are really weighing how to adjust to this new reality.
Finance, insurance, and real estate (FIRE) tenants are focused on the viability of working from home and shrinking their footprint. Barclays’ CEO has said that putting 7,000 people in a building may no longer be possible. Morgan Stanley says it can basically operate without a space footprint. JP Morgan Chase, which was the number one space occupier in New York – until WeWork edged it out – now has 180,000 workers working from home, and it’s reviewing how many of those people will return. Nielsen, which has 3,000 employees in New York, has told them they never have to return to their offices. They plan to convert their existing offices to team meeting spaces where workers can gather maybe once or twice a week.
Most people felt that technology tenants will stay committed to their work-together culture, but Twitter’s upended that, telling workers that they never have to come back if working from home was viable for them. It’s based in California, but it once had a full building presence in New York.
All eyes are now on Facebook. Last year, Facebook took 1.5 million square feet of new construction space in Hudson Yards. It’s also been negotiating with Vornado for the Farley Post Office redevelopment for about 700,000 square feet. The question is, will it take that space, or will it think about ways to reduce its actual occupancy and reconfigure its planned new development space in Hudson Yards?
This is traumatic for New York. It’s not just about office space, it’s about public transit. It’s about retail. And, obviously, it’s about the city’s tax base. And if companies, particularly in Midtown, reduce their occupancies, or at least the number of people coming into work in the city, it will be a huge negative for the vitality of Midtown, which has become really dependent for its life on workers and tourists, especially if global tourism doesn’t rebound as most people expect it won’t for several years.
About Alex Coen
Alex Cohen is currently the owner of Future Workspace Development, an LLC he founded in 2018. He is also an independent real estate agent associated with Compass.com as well as a real estate expert at CentSai. Before this, he was the Lead, Commercial Specialist at Core Real Estate from 2015-2017. Prior to this, he was the Senior Director of Commercial Brokerage at Cushman & Wakefield.
This article is adapted from the May 14, 2020, GLG teleconference “Office Space Real Estate: COVID-19 Impacts.” If you would like access to this teleconference or would like to speak with Alex Cohen or any of our more than 700,000 experts, contact us.
GLG is supporting nonprofits on the frontline of COVID-19 relief, pro bono. If you represent or know of an organization that could use our help, let us know here. If you are a GLG council member whose expertise might be valuable to a relief organization, please get in touch here.