Covid Spells The End For Office Buildings Already On Their Last Legs

The coronavirus pandemic brought New York City’s office market to a screeching halt, and even as the crisis subsides and a semblance of normality returns, many buildings are facing an uncertain future.

“The leasing market’s brutal. It's getting better now and I think it's highly segmented — the term location, location, location for real estate has really morphed into location, location, transportation, as far as I am concerned,” Savanna founder Chris Schlank said at Bisnow’s National Real Estate Finance Summit Tuesday. “People are coming back to work, thank God, but we've seen on the leasing side people want to commute, to get out at Grand Central, Penn Station or Port Authority and walk to work.”

Physical office occupancy in the New York metro area was at 28.9% the week of Sept. 29, according to Kastle Systems, its highest point since the start of the pandemic. That rate is considered a win by many real estate players who have fretted over workers’ sluggish return.

But New York still lags behind the average occupancy of the top 10 metro areas, at 35% last week — only San Francisco and San Jose are seeing fewer office workers in their buildings. Some landlords, before the delta variant put people back on high alert, had predicted their buildings would be mainly full by this time.

Adding to landlord concerns is the seemingly constant new supply of space. Leasing has ramped up in recent months, but that has done little to lower the city’s record-high availability rate, now sitting at more than 18%. Millions of square feet are set to come available in coming months, too, prolonging the problem.

“We're New York City focused, we're office focused, this is definitely not the flavor of the month these days,” said Schlank, who owns some 7M SF of office space in the city in buildings like the Falchi Building and One Court Square in Long Island City, as well as 434 Broadway and 110 William St.

“Anything that’s new construction is doing really well and has great rents. The B-plus in good locations is starting to do better, sort of this trickle down, I think … B-minus, maybe C-plus [buildings], mid-block, Garment Center, frankly, I don’t see any life for those. I don’t see any use for those."

He said owners of those buildings would need to put a lot of money, energy and creativity into revamping the buildings.

“Owners like that have to refinance, recap, put some money in the bank, and hire a great architect, great broker and come up with a plan," he said. "Maybe you rent it dirt cheap." 

In many cases, the only “saving grace” for these owners is they are operating on a decent enough basis to carry them through, said Helen Hwang, senior executive managing director at Meridian Investment Sales.

“Now, if they [refinanced] recently, this is the problem,” she added.

Finding new uses for buildings that are no long commanding interest and rents is seen by some as the answer, though not a quick fix. Former Gov. Andrew Cuomo laid out an ambitious plan to create more affordable housing in New York City by pushing developers to convert their empty offices and hotels to affordable housing. But the concept raised the ire of Mayor Bill de Blasio — who handles changes to the city's land use laws — and many landlords weren't thrilled by the idea of giving up on office rents, which are still higher than just about anywhere else in the U.S.

A surge in the interest in life sciences space has many considering if their buildings could be turned into lab space, Taconic Partners co-CEO Paul Pariser told the audience. But those kinds of changes are not going to be the silver bullet either, he said.

“Every sales broker shows this building [and says], ‘Oh, it's a conversion to life science.’ Not every building can be converted to life science,” he said. “We need a manufacturing zone, we need shafts, we need the ability to bring fresh air that changes constantly … So the economics are valuable — if the building works.”

In March, his firm locked down $600M in financing for 125 West End Ave., where it is building a life sciences hub in partnership with Nuveen Real Estate. The building was previously occupied by The Walt Disney Co. and ABC and previously owned by Silverstein Properties.

Other panelists suggested that while the pandemic has been a shakeup, it is only hastening the demise of office buildings that were already in trouble.

“Covid expedited the death of the shit buildings, and I think that's something that we need to keep in mind … [now] the market has really picked up, people are coming back to the office, and it ends up being the survival of the fittest,” said Michael Shvo, whose company owns 711 Fifth Ave. and 530 Broadway. “Covid did not create all the mess that we've seen. It was just an accelerator. If you came into Covid and you were weak, you're dead in the water … We got a lot of people that got wiped out, which means there's a lot less players in the playground.”