NAIOP Research Foundation’s Q4 Office Demand Forecast highlighted the numerous challenges facing developers, landlords and brokerage professionals in the coming year. The continued reluctance among employees to return to traditional workplace settings, the office downsizing trend exhibited by many groups, and the flight-to-quality phenomenon that represents good news for amenity-rich buildings, but spells trouble for Class B and C assets. The central Maryland region continues to perform at a significantly higher level than most markets nationally and, weighing in with their perspectives of the local area are: Liz Allison, Leasing, Merritt Properties; Rob Bavar, President, Bavar Properties; and Abby Glassberg, Principal, KLNB.
Remote and hybrid work still causing problems
The commercial office market is expected to face continued stiff headwinds given the relatively large percentage of employees — particularly in urban environments — still partaking in remote or hybrid work situations. Despite the efforts of the Federal Government to encourage more of its staff to spend additional time in traditional office space, the needle has barely moved which, in turn, has negatively impacted downtown shops and restaurants.
Liz Allison (LA): “Work from Home has created instability for businesses that supported the Monday through Friday office worker, particularly in the epicenter of CBDs. In suburban markets, the commercial areas are woven amongst the residential areas, so the loss of some office workers is replaced by those that are working from home who still may use the services. There is also a greater impact in various areas of the economy and business world. 1) The demand for mental health services has dramatically increased, which is evidenced by a significant increase in demand of providers seeking space. 2) The growth of companies is dependent on innovation, which often occurs in collaborative environments, and these environments are dwindling. 3) Professional growth may be stunted without exposure to employees beyond one’s direct team and their responsibilities.”
Rob Bavar (RB): “I think the narrative about hybrid and remote work relates more to urban areas rather than the suburbs, where commutes are shorter, mass transportation is not needed and parking is plentiful and normally free. Those are the headlines nationally but, fortunately, that does not seem to be the reality in the Maryland area. Now we are seeing companies with 70,000 square feet of space, and a lease set to expire, that are deciding to downsize to the 25,000-square-foot range. So, yes, the remote and hybrid work situation hurts everyone. The good news is that new tenants are coming in, which makes the rent roll more diversified. I would rather have a building with 20, rather than five tenants.”
Abby Glassberg (AG): “I am much more optimistic and believe the pendulum is swinging back to more people being in the office. Several studies have shown a decrease in productivity and creativity with working from home. Often companies with less than 20 people don’t have the sophisticated technology to allow workers to work from home. Younger people miss out on opportunities for advancement and mentoring if they aren’t in an office. There is also a loss of culture. If you’re home alone, you may jump companies for a little more money but if you are engaged in the culture of a company and attend happy hours and play on sport teams with your co-workers it takes more than money to leave a company. The BW Corridor with Fort Meade may be a bit different from others around the country because we have so many government agencies and contractors who need to be in the office.”
Amenity-rich buildings have clear advantage
As office leases expire, companies are taking a “flight to quality approach” and relocating to amenity-packed office buildings to facilitate the attraction and retainage of their all-important workforce. In other instances, tenants are downsizing in response to smaller staff sizes as well as adapting to shared-office situations.
RB: “We just added an amenity room at Timonium I which includes a golf simulator, big screen TV and community lounge. All are getting a lot of use. When you are dealing with a building constructed in 1986, it is critical to reinvest and keep your buildings relevant. It is important to offer an energized environment.”
LA: “Amenity spaces and open areas where people are active and physically visible, create the vibrancy needed to attract people back to the office. If an employee with work-from-home flexibility makes the journey to the office and only a small percentage of the space is being actively used in both the office and common spaces, that person likely reconsiders their next trip in. Right-sizing to a space that allows for physical engagement in the office and the surrounding area and ensuring visibility of other personnel is critical to the in-office desirability.”
AG: “Tenants want to be able to walk to lunch, or have options within the building. The current owners of the Lakeview buildings, delivered in the early 80s understood this and built a small retail strip with restaurants in front of the complex. COPT Defense Properties is adding amenity spaces to their older buildings such as The Wayline, Soundtrack, The Stade with meeting spaces and golf simulators. That is also why the live-work-play environment at St. John Properties Inc.’s Maple Lawn is so successful, and it is what Howard Hughes Corporation is doing in downtown Columbia. You used to think rent was the highest expense for a company but, in fact, it is actually salaries and the cost of attracting and retaining top talent.”
The next life for functionally-obsolete assets
Over the past three years, the greatest percentage of vacancies have occurred in a small proportion of functionally-obsolete office buildings, many of which are being converted into a multifamily use. Adding to the distressed nature of these assets are their poor location and lack of on-site or nearby amenities.
RB: “The idea of converting office buildings to multifamily sounds good but, in many cases, it does not make economic sense. A better solution is to demolish the outdated structure and start anew. We are doing this in White Marsh by tearing down an old Sears store and replacing it with an apartment complex.”
LA: “Having vision and creativity to repurpose some of these commodity buildings is difficult, especially with zoning and physical constraints of the asset. Potential flexibility in zoning will help create new opportunities to recreate value in functionally obsolete buildings.”
AG: “The old Rouse headquarters was reinvented into a Whole Foods grocery store and created a community hub in Downtown Columbia. When Clipper Mill was constructed in 1789, no one would have envisioned it housing restaurants, offices, and apartments in the future. The old GE building in Columbia Gateway was converted into an office and warehouse use. Can obsolete buildings be facades for communication towers or for mini-storage?”
When will new construction activity return to normal?
Depressed office leasing activity, combined with higher interest rates and rising construction costs, has driven new construction starts to an almost complete standstill. This situation has been exacerbated in Maryland by the increased difficulty in obtaining proper zoning, permits and approvals to initiate new development opportunities.
RB: “Many owners and developers are frozen by skyrocketing construction pricing. I am hopeful that prices are stabilizing, but I do not see it decreasing significantly any time soon. Like other Maryland-based real estate companies, we are developing a higher percentage of properties outside the State of Maryland where the process is faster and easier.”
LA: “Construction activity has commenced on our White Marsh Interchange Park project where we are constructing 750,000 square feet of light industrial and bulk space at the former General Motors plant. We have also earmarked the development of two industrial buildings at Sulphur Spring Road in Halethorpe.”
AG: “We need to achieve higher occupancies in the market before more developers put shovels in the ground, however St. John Properties is continuing with its speculative development program with office and flex space throughout the region.”