CBAI Research Newsletter, Institutional Real Estate

Navigating the Office of the Future

State of the Office Market: Navigating the Office of the Future

JLL just dropped its latest US Office Outlook, the numbers are slowly improving.

Here are the four most relevant trends currently affecting the office market.

Leasing activity

Leasing volume in Q1 2024 has slightly pulled back, but it still surpasses the levels seen in 2023.

While there has been a slight increase in sublease additions, the rate of decline is significant compared to Q1 2023.

The U.S. is expected to experience negative net absorption through much of 2024 as tenants continue to downsize their existing portfolios.

Flight to quality

During the pandemic, demand for high-quality and unique office spaces has surged.

Buildings with extensive amenities, such as gathering spaces and wellness facilities, are outperforming the general market generating premium rents and outsized occupancy gains.

This trend reflects a “flight to quality,” as companies prefer newer, more upscale office spaces over older ones in urban areas.

See the rent premium breakdown per amenity type.

The ‘urban doom loop’ has been canceled

A McKinsey report published last summer predicted that hybrid work and residents’ outflows from urban centers would wipe out about $800 billion in office value in nine cities by 2030, including Houston, New York, and San Francisco.

However, according to the World Bank, nearly 7 in 10 people will live in cities by 2050. That’s around double compared to today.

The most recent data shows some optimistic trends: migration outflows from major cities are slowing.

The migration outflows from San Francisco are slowing returning to pre-pandemic levels primarily because tech companies like Apple have called workers back to the office. The artificial intelligence tech boom is also drawing people back to the Bay Area.

A recent Federal Reserve Bank of Cleveland report predicts that New York City’s net migration will be fully on track with pre-pandemic trends within the next few months.

Conversions

Same McKinsey report also predicts the amount of office space demanded in most cities does not return to pre-pandemic levels for decades. By 2030, demand is as much as 20 percent lower than it was in 2019, depending on the city.
Falling demand will lead to an excess of office space, especially in lower-quality and older buildings (Class B and Class C). One factor that may prevent the value of the city’s less prestigious office buildings from declining too steeply is their potential for conversion into residences.
There is some activity occurring, and cities are streamlining bureaucratic processes and providing tax incentives to expedite the conversion process.In northern Virginia, a joint venture between Community Three and Whitaker Investment Corporation has secured $96 million for a project converting three office buildings into a mixed-use property with apartments, condos, and retail space.
In New York City, The Office Conversion Accelerator program, launched last year, has enrolled forty-six buildings for conversion.
Cities with more diverse downtown economies are faring better post-pandemic, yet another reason to consider conversions (more than 74% of San Francisco’s downtown land area is devoted to offices, a big reason why issues have plagued the city’s downtown more than most).

Four-day workweek – the hottest new life-style benefit

The evolving landscape of work is witnessing a transition towards a four-day workweek, once considered radical but now gaining traction.

With talent shortages pressuring organizations to attract and retain employees, flexible work models are becoming paramount.

Businesses adopting this approach are reportedly experiencing benefits such as improved well-being, enhanced performance, and engagement among employees.

Hybrid work calls for the purpose-built office space

The four-day workweek is decreasing demand for traditional office space and changing the role of the office. Nowadays, the office has to be “commute-worthy.”

Offices are undergoing significant transformation towards flexibility, openness, and health consciousness, evolving into innovation and social hubs rather than traditional “cubicle farm” workspaces.

The key to creating a purpose-built office lies in blending quantitative metrics like space utilization with qualitative factors such as employee satisfaction and interpersonal connections.

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About the author:

Olga Koroleva is a founder and CEO of Capital Brain, a company that builds AI-powered products. She is also a high-altitude mountaineer who likes to climb mountains with double-digit death rates, University lecturer, and a public speaker on leadership and risk taking. Sign up to her self-leadership newsletter at https://capitalbrain.co/blog/