Considering an office investment in today’s market might seem like the ultimate contrarian decision, especially as hybrid schedules dominate and companies report a slow return to in-person work. Indeed, millions of square feet of office space lie vacant in places across the country. For Manhattan office buildings, the average visitation rates were 61% of the pre-pandemic statistics during Quarter 1 of 2023, according to an analysis by the Real Estate Board of New York’s (REBNY) of Placer.ai mobile device data.
Diving a little deeper, however, we see that it’s not all “doom and gloom” reports for office space. Recently, the office occupancy in some major centers has been ticking upward. In Midtown, visitation rates went up 14 percentage points during Quarter 1 of 2023 compared to Quarter 1 of 2022, per REBNY’s findings.
When it comes to making investment decisions in this space, here’s what to remember: Finding the right office product that still has an embedded demand could yield outsized returns. Getting that fit requires some upfront legwork and ongoing monitoring—not to mention a dash of creativity to potentially re-envision the space.
In this article of the series, “Making Investment Decisions in Today’s Real Estate Market,” we’ll consider this asset class. (See previous articles.) Let’s go through some of the main criteria to keep in mind as you look at office investments.
Start with location: As we’ve seen, the return to office is not equal across the board. Some cities are undergoing an uptick while others are in decline. Check reliable data sources in the area you’re considering and pay careful attention to employment rates. Job postings can reveal insight into the office market: If companies are hiring more workers, that could lead to strong tenant demand.
Look at the office building type: Office properties come in three main classes (A, B, and C). Class A buildings are usually considered prestigious and command premiums, despite market fluctuations. Class B and Class C spaces, which could be functional but may need significant repairs, can be a lot more challenging when vacancy rates are high. During the first quarter of 2023, the highest quality Class A+ properties outperformed Class B by more than 10 percentage points, according to REBNY’s analysis.
That said, particularly for private or smaller investors, Class A may be out of reach. This doesn’t mean Class B and Class C are not options; it simply becomes more important to make sure there is a demand for these properties. Before making a move, think about office uses that need to be in person, such as service-driven industries.
Be wary of low prices: If a building has a very attractive price, and is vacant or mostly vacant, you could have a lot of work to do before being able to rent the space. Substantial renovations might be needed, and the charges for these could be equal to or more than the acquisition cost. After that, you’ll have to attract tenants, which could involve extra steps. TIs, which stand for “tenant incentives,” refer to what you’ll need to offer to lease the space. Tenants might demand a year of free rent, for instance.
Learn about the seller: Why is the building for sale? Is it because the owner is leaving the area and wants to remove it from their portfolio? Is the seller in financial distress? You could find a deal on a property that a bank has taken from a landlord who couldn’t make the loan payments and didn’t have the capital needed to continue. The price might be lowered, and if there are signs of office recovery in the area, it might be a worthwhile investment.
Think long-term for offices: If you’re looking for a quick return, office investments may not be the proper path to follow. You’ll need the right capital, and if you don’t have experience in the space, a strong partner with a track record of office success could be a must. For landlords, given the potential repairs and time required to lease the space, you may not collect rent or make a return on your capital investment for the first three to four years of owning the property.
While office occupancy rates plummeted during the pandemic and remain in flux, it’s also true that there are opportunities on the market. As we hope to see building use increase, and certain cities will undergo job growth, it could be a strong fit—especially for seasoned investors. The key is to make sure you know your goals and have the financial backing and team in place before making a move. That way, when you buy, you’ll have greater chances of returns that outperform the market.