The Future of Commercial Real Estate: Boom or Bust?
It’s been seven months since the pandemic lockdowns began. Many office parks, towers, and retail spaces remain mostly empty. Amazon and other tech giants have given some employees the pass to work from home … permanently. This is already reshaping the commercial real estate market for businesses. But how might the pandemic lockdowns have a long-term effect on the commercial real estate market? We’ve got a few theories … all speculation, of course.
Commercial Real Estate Rental Prices May Decrease
Some people may say that we’re in a “renters” market. Offices remain empty and some businesses may even decline to renew expiring leases. In that kind of environment, landlords may begin offering discounts – deep discounts. After all, it’s better to have some renters in your commercial space than to leave it empty, which can create its own set of unique problems (contaminated water and burglaries are just two).
As of today, the office and retail real estate market has been hit hard as some businesses most impacted by the lockdowns (restaurants, fitness centers, shopping malls etc.) are failing to make rent or closing down completely. Many landlords are finding it more difficult to find replacement tenants because their pool of potential tenants is shrinking. One theory is that if these landlords stay in business, they may need to cut prices drastically to attract tenants. But will they? What about the landlord’s existing obligations? The mortgage and property taxes probably won’t decline anytime soon. That takes us to our next theory.
Commercial Real Estate Rental Prices May Stagnate
The other theory “out there” is that commercial real estate rental rates will stagnate. They won’t go up but they won’t go down anytime soon, at least not until another foreclosure crisis hits. Since there is no systemic plan to reduce the mortgage burdens of commercial real estate owners, it’s likely that most landlords won’t offer substantial rent concessions. If a commercial property isn’t owned mortgage-free, landlords may be compelled to maintain the status quo if they hope to pay their mortgage each month. On the other hand, some lenders may be willing to negotiate with individual borrowers by reducing interest, offering forbearance, or other concessions. But it’s not exactly clear if those concessions will go far enough in a crisis that’s predicted to last at least until the end of 2021. That’s more than a year of low-occupancy and sporadic rent checks. How many landlords can financially survive such a long-lived crisis? Not many, especially not small scale operators who may not have large cash reserves and credit lines. What we may see is a mass exit of small commercial real estate owners from the market and a consolidation of commercial real estate into the hands of larger enterprises better equipped to weather this crisis. But large enterprises may not feel much pressure to lower rents or make other concessions.
There is another potential consequence tenants might want to consider: landlord neglect. In both scenarios listed above landlords may be disincentivized to maintain properties to pre-pandemic levels. If profits are low, some landlords may fail to make repairs in a timely manner or scale back janitorial services or onsite security staff. Might less scrupulous landlords fail to uphold existing agreements with tenants? It is possible.
Commercial Real Estate Rental Prices May Rise
There is one final theory on the future of commercial real estate. We may see commercial rental rates rise in the long-term – maybe 5 years in the future. There are two possible reasons for this:
1. A large number of landlords may focus on renting to “high-end” renters who are willing to pay a premium for commercial space.
2. When the economy grows again – maybe in 4 or 5 years – that growth may outpace available commercial space because landlords exited the industry years before.
One way to hedge against both possibilities is to negotiate long-term leases. But there is an inherent risk in that, in the near future the market could change even more drastically and in ways no one could imagine. And different commercial real estate markets may behave differently depending on their location. That’s why every business owner needs to be situationally aware of what is happening in their state, city, and even their neighborhood. Pay attention to the chatter in local real estate media. What is the temperature in the room?
A Note On Your Near Future Plans
If your office is planning to renew your existing lease or sign a new one in the coming year, make sure that the landlord is willing to maintain the property to your standards. Check on the current building occupancy. Is it more than 50% empty? Are tenants renewing their leases? Low occupancy may impact your access to amenities. For example: If building occupancy is low, the landlord may close certain amenities (gyms, concierge etc.) because it doesn’t make financial sense to maintain them.
If you have any questions, please contact us.
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