Office royalty talk conversions, distress and the “downsize upgrade” trend

New York /
May.May 20, 2022 05:00 PM

Between inflation, rising interest rates, and employees working from home, there have been better times to be an office landlord or broker.

Even some of the city’s largest commercial real estate landlords and brokers — folks not known for broadcasting pessimism — agree that certain properties are going to suffer and need to be converted for other uses. Conversions to hotels or residential are not easy but possible, according to panelists at The Real Deal’s commercial office discussion Thursday.

“The bottom 20 [percent of office space] is going to be ripe for alternative use,” said Chris Shlank, a founder and managing partner at Savanna Fund. “It’s going to be the middle 60 that I think about and I worry about.”

Shlank, joined by Will Silverman of Eastdil Secured and Bob Knakal of JLL Capital Markets, talked about this bifurcation of the market, among other topics. While the middle-market space may be called Class B, a step down from top-of-the-line office buildings, only half of that class will do well, according to Shlank.

“The top 30 percent of the middle 60 percent is going to survive,” said Shlank. “The bottom 30 percent of the 60, I don’t know where that is going.”

The idea of converting office buildings to residential has gained some steam. But Knakal said the city needs to reenact 421-g, a tax abatement that was used to spur conversions from commercial to apartment buildings in Lower Manhattan after 9/11.

“Without that tax abatement the numbers are really, really hard to work,” said Knakal.

However, it’s not all doom and gloom. Deals are getting done. Recently, the Australian financial services firm Macquarie Group leased 220,000 square feet across six floors of Brookfield’s 660 Fifth Avenue, a formerly snakebit property that was known as 666 Fifth Avenue and owned by the Kushner Companies. Brookfield started a $400 million overhaul of the building.

Silverman said that many firms like Macquaire are looking to reduce their office footprint but lease space in higher-quality buildings.

“The one trend for real estate we are seeing is the downsize upgrade,” said Silverman.

Panelists said distance to major travel hubs is among the most desired characteristics for tenants. Employees who have to take multiple trains to reach the office are much harder to entice to leave their homes.

“Grand Central will probably be more important in the next 20 years than it has been in the last 50 years,” Silverman.

Office space around Grand Central Terminal is highly desirable, according to the panelists. Shlank said being within seven minutes of a major transportation hub is important for office landlords.

One thing that isn’t needed: extraneous amenities. Outside of ample conference space, things like ping pong tables are unlikely to entice employees back to the office, the panelists predicted.

“In four years, all of us owners and advisers are going to laugh at each other and how much money we spent on amenities that no one uses,” said Shlank.





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