Zintro experts describe office-to-residential conversions

by Maureen Aylward

In cities like New York City and London, it is no surprise when an office building is suddenly converted to residential apartments or condos. Why is office-to-residential conversion happening? Is it because of the soft commercial real estate market or is it to make room for more office development? Zintro experts had many perspectives to share.

David Jackson, a professional that manages real estate corporate facilities, design, construction, and furnishing projects, says that real estate conversions from office to residential use is driven by economics. “Such a trend magnifies the enormity of today’s shrinking and stagnant office market and further compounds the economic premium of executing new, sustainable LEED-based redevelopment,” says Jackson.

Jackson points out that there is a migration of office users to newer buildings and lower rents, which increases the vacancy of office space. This situation makes an owner evaluate the use of the space and move it toward a revenue generating occupancy. “An owner understands the market in which the building sits. If revenue generation is not likely as office space, a switch can be made to residential units, such as rental, co-op, or condo.”

Peter Morris, a CEO and expert on commercial real estate services for owners and occupiers, agrees with Jackson. “Office buildings are being converted to residential because of economics. Real estate investors are seeking the highest and best use of the property,” he says. Morris outlines three primary factors that are driving the conversion:

  • Apartment buildings are in favor with investors due to the home ownership meltdown. These investors believe the need for rental housing will continue for several years, resulting in high occupancy, increasing rent, and better sale prices than other asset classes.
  • The trend toward the new urbanization means people continue to migrate to the urban cores, which traditionally housed only commercial buildings. Converting office buildings to residential is the quickest and cheapest way to meet this demand as compared to building from scratch. These properties may also be well located and adjacent to other amenities and mass transportation corridors.
  • Purchasing buildings because of foreclosures, pending refinancing issues, or distressed properties with high vacancy, is relatively inexpensive when compared to replacement and construction costs. This can result in better margins.

Jan Jaroszewicz, an expert with over 30 years of experience in real estate, project finance and development, says that conversions are a means of adapting locations to market-specific cycles, with an office building providing the shell infrastructure. Jaroszwicz explains that in a market experiencing depressed prices for office space, conversion may offer an excellent means of recovering capital and enhancing feasibility that may be significantly shorter term than holding the product under its original form. This would suggest that the converter best be very sure that the initial conversion offers long-term viability. “Typically, demand for housing grows at a more steady pace than need for office space, particularly given the trend toward virtual offices where increasingly more professional work from home,” says Jaroszwicz

Frederic Hollister, an executive in real estate finance, agrees and says that structural changes in the economy have made many office buildings permanently obsolescent. Firms are doing more with fewer workers and allocated square footage per employee is shrinking. “More than any other segment of the commercial real estate market, office properties are subject to wild boom-and-bust swings in value,” Hollister says. “Conversion of those buildings to residential is a last ditch effort to recover at least some value from the projects. Once current office buildings have been converted and absorbed, the trend will pass.”

Keith Gordon, an experienced retail and restaurant corporate real estate manager, attorney, and LEED AP, says the transformation of office to residential started happening five to six years ago. The growth in this area was driven by two major contributing factors:

  • Commercial real estate development, including office and retail, focused on new suburban locations and the central business district of most metropolitan areas was overlooked. Companies were looking to take advantage of energy efficiency, tax incentives, and closer proximity to the workforce that new construction offered.
  • Condos were experiencing a 17% appreciation rate making them a more attractive investment than a single family residence. Using vacant or mostly vacant office buildings allowed developers to match the need for space with the conveniences of a downtown address and the lifestyle associated with condo living.

“Most markets that were caught up in the cycle now have a large quantity of vacant condos. The cycle had run its course, and the real estate market took a turn for the worse in all sectors by mid 2008,” says Gordon. “Unfortunately, the peak of this growth occurred prior to the new push for green, sustainable design, and the designation of the LEED certification programs for new construction and rehabilitation.”

By Maureen Aylward

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