Larry Goodman is CEO of HomeVestors of America.
We’ve all read or heard the statement: “The pandemic’s impact on …” followed by an industry or market. And if you’re anything like me, you’re probably tired of learning about the pandemic’s impact on just about anything. However, even with Covid-19 no longer being declared a public health emergency, the effects of this once-in-a-lifetime event will last for years to come.
One sector that was hit hard was commercial real estate. Some have said the industry is in a recession. But just how big of an impact did the pandemic make? We’re all familiar with the “Zoom town” trend’s effect on real estate as a whole. As remote work became a mainstay, many employees moved out of major cities. However, as the CDC began to loosen restrictions on social distancing, some offices began inviting employees back, many with the promise of hybrid work schedules. Still, since the dawn of the pandemic, there’s a bit of uneasiness felt across the industry. Office vacancy rates are expected to reach 18% by 2030, a 55% increase since 2019, according to Fortune.
So, where do we go from here? First, let’s take a look at where we are currently.
What’s the current situation?
Popular cities around the world are all feeling the same sting of the work-from-home era. As people move to the suburbs in search of, quite literally, greener pastures, the value of office spaces continues to struggle. A McKinsey report said rent prices in New York City fell by 18% from 2019 to 2022. During the same time frame, San Francisco saw a whopping 28% decrease.
Additionally, the sale prices of office buildings have seen dramatic changes. McKinsey also found that the Big Apple saw a 36% drop in transaction volume last year. On the flip side, Atlanta has seen quite a bump. Properties in Atlanta saw an increase in dollar value by 31% from 2019 to 2022.
Aside from just office vacancies, lease terms also hurt the value of office buildings. Typically, commercial lease terms are long, thus providing a more secure stream of revenue for owners. With fewer employees making the trip to the office, many employers may reconsider whether they want to renew their leases once their contract ends. Some might opt to negotiate for shorter terms, while others have already terminated their long-standing leases because they simply don’t need the space.
Retail buildings are also struggling. While not seeing as high of a vacancy rate as office buildings, in the second quarter of 2022, the average rate was 4.4%. In conjunction with people not wanting to travel to the office, some consumers don’t want to travel to the store, either. If something can be bought online and shipped directly to our doorstep, why would we bother getting our car and driving to the store? I believe that sentiment has pushed many shopping malls to close.
What does the future hold?
While no one has a crystal ball to see exactly what the next few years will be like, you can infer where commercial real estate is going based on what’s happening now. To start, remote work isn’t going anywhere anytime soon.
McKinsey has said that the demand for office and retail space will most likely not recover to pre-pandemic levels. With employers looking for smaller spaces and new office buildings entering the market, I believe the rate of vacancies will probably boom. By 2030, McKinsey estimated that the excess supply of office space will range from 7% to 21% across major U.S. cities.
Trust me, I understand these projections might seem frightening—and rightfully so—however, there are opportunities.
So, now what?
Adaptability is the most important skill any businessperson can have. Major cities across the country are all being forced to adapt right now. Only time will tell their success.
I suggest making a shift toward quality instead of quantity for employers looking for office space. Instead of spending all of your budget on square footage, focus more on amenities. With a hybrid workforce, employers need to make the trip to the office worthwhile. Having the highest-quality tech, fiber connectivity and other popular amenities allows employees to be productive while still feeling connected to their organization. Existing office building owners might want to consider refurbishing their suites to be a bit smaller while still containing all the checklist items people want.
Ideas have been thrown around regarding what to do with struggling shopping malls. From my view, turning those spaces into warehouses could prove to be profitable in the rise of e-commerce. In 2021, online retail grew by about 14%, resulting in roughly $870 billion in sales. Plus, there’s still a severe shortage of affordable housing in the U.S., creating rewarding opportunities for new and existing commercial real estate investors.
There’s no one definitive solution that can return everything to how it was in pre-pandemic times. Commercial real estate investors should use this opportunity to learn what our world needs in this new normal. From there, it’ll take creative thinking and maybe some trial and error to get it right.
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