Offices Are Empty. What's Next?

Office life as we remember it, isn’t likely to return.

Even as the pandemic quiets down a bit, compared to the past few months, and more companies begin to make plans to recall their staff (like Google, which has told workers to return starting April 4), employees have gotten used to working remotely—and a hybrid work model is likely to become the norm for many companies.

That’s an issue for commercial real estate companies. For much of the past two years, offices have sat empty or mostly empty. And with companies not coming back—or coming back in a much smaller capacity—what’s going to happen to those empty buildings?

At the end of March, the occupancy in office buildings in 10 major metropolitan cities averaged 40%, according to the Kastle Back to Work Barometer. It has hit that level a few times since mid-2021, but never topped 50%. And getting back to the mid-90% level of pre-pandemic days isn’t likely for a long, long time.

Wharton real estate professor Joseph Gyourko, speaking on the Wharton Business Daily podcast, has some thoughts. While it’s too early to determine just how much of a decline we can expect in office space, he says, change is definitely on the way.

“I strongly suspect what will result is a move to concentration, a flight to quality,” says Gyourko. “Over the next few years, as tenants start to rethink space needs and their leases rollover, they’ll go into better buildings, and the [worse] buildings will be in trouble.”

Traditionally, building leases last five to as many as 10 years. That gives landlords some time to focus on improving amenities and features. That can mean anything from upgrading their ventilation systems and other safety features to adding amenities, such as a gym or parking deck.

Deloitte, in its 2022 commercial real estate outlook, noted “Many CRE firms are focusing on retrofitting properties and repurposing spaces for alternate uses to maximize value.”

Even with those changes, though, occupancy numbers are going to be lower. A survey of Fortune 500 CEOs, made in July 2021, found 74% saying they expect to reduce their office space. And 22% of that number say the expect they will need a lot less space. If that proves true, renovations won’t be as effective at retaining tenants. Building owners know that, which has led to one of the more surprising trends of the past year: Converting office buildings into apartments.

With the housing market’s supply tighter than ever, a record number of office-to-apartment conversions occurred in 2021. RentCafe reports more than 20,100 units were converted last year, 41% of which are in former office buildings.

“Former offices comprise one-quarter of future projects in which more than 52,700 units are expected to become available in 2022,” the report read. “That’s 12,300 rental apartments in the pipeline to match the 13,250 that have already been converted in the last two years. Notably, work-from-home arrangements that came as a result of the pandemic also spurred office transformations nationwide.”

The problem isn’t much better globally. In Tokyo, the vacancy rate dropped for the first time since the pandemic began last December, coming in at 6.35%, compared to 1.49% in February 2000. And in the U.K., occupancy rates are averaging 25%, according to CoStar.

Not every city will face a commercial real estate problem. Corporate headquarters in big cities are likely to be largely unaffected, says Gyourko. Outlying offices, often in smaller cities, are where cutbacks are more likely.

“It’s going to be a complex dance,” he said. “It will keep the building owners and managers busy and out of trouble for a while, trying to figure this out.”

The views and opinions expressed herein are the views and opinions of the author and do not necessarily reflect those of Nasdaq, Inc.

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