Office Market Trends: The Risky Business of Renovations
As a real estate appraiser, it’s crucial to stay informed about market trends. A recent CoStar News article dated June 25, 2024, sheds light on some interesting developments in the office market, particularly regarding the renovation of older buildings.
Key Takeaways:
- Post-Pandemic Shift: The U.S. office market has been adjusting to a demand shock triggered by the COVID-19 pandemic for the past five years. This has led to significant changes in what tenants value in office spaces.
- Struggling Properties: Dated office buildings, including “commodity Class A” properties, have experienced the most significant occupancy losses and difficulties in attracting new tenants.
- Renovation Performance:
- Pre-renovation (2010-2014): Buildings saw an average annual absorption of -2.5%.
- Post-renovation (2014-2018): These same buildings outperformed the market with an average annual absorption of +3% for 4-5 years.
- Market average (2010-2018): Approximately +1% annual absorption.
Short-lived Benefits: The competitive advantage gained from renovations appears to be temporary. Buildings renovated in the mid-2010s have consistently experienced disproportionate negative absorption since 2020.
Changing Tenant Preferences: Office tenants are now taking less space than before, often downsizing when relocating or consolidating. There’s a noticeable shift towards newer buildings with customized, premium workspaces.
Recent Renovations (2019-2024): While data is limited, buildings renovated in this period don’t show a clear trend of outperformance. There are indications of positive demand in 2023, but the pattern remains uncertain.
Ongoing Challenges: Newly renovated buildings face difficulties competing with brand-new office spaces and have limited flexibility in lowering rents due to high renovation costs.
As appraisers, we need to consider these trends carefully when valuing office properties. The once-reliable strategy of renovation to maintain occupancy now carries increased risk. The market appears to favor newer, more flexible spaces that can adapt to changing tenant needs.
It’s important to note that while this data provides valuable insights, local market conditions may vary. Always consider specific property characteristics and location factors in your appraisals.
Source: CoStar News, “Once a Strong Bet, Renovating Offices Now Looks Riskier” by Phil Mobley, June 25, 2024.
