What’s in Store for the Office Leasing Market

The office leasing market of 2020 could possibly be best summarized by the application of a single, surprising adjective: surreal. While there are numerous other descriptors that apply to this off-kilter, unexpected year, surreal perhaps best encapsulates the experience of empty office towers in major urban centers; of tenants and owners essentially taking an extended time-out on transactions; and of employees beginning new jobs without ever meeting their coworkers in person or stepping foot in their company’s offices.

For those in the proverbial office leasing market trenches — the commercial real estate brokers who represent both owners and tenants — 2020 may be a year they’d just as soon prefer to forget. Nonetheless, LoopNet spoke with two prominent brokers — Manhattan-based Brian Waterman, executive vice chairman of Newmark, and Atlanta-based Ken Ashley, executive director and chairman of the tenant advisory board for Cushman & Wakefield — to get their perspective on the office leasing market in 2020 and what they anticipate for 2021 and beyond.

Both gentlemen are well-suited to this task. Waterman represents prominent owners, such as SL Green Realty Corp., as well as major tenants, including NYC Health + Hospitals. Ashley represents numerous Fortune 1000 companies in a diverse set of industries, ranging from food manufacturing to legal services, and assists them in managing their real estate portfolios across the United States.

Based on these conversations, LoopNet identified some key trends and themes for both the surreal year that was in 2020 and what lies ahead in 2021.

Both Waterman and Ashley agreed that, based on their own experiences and those of the clients that they represent, the work from home paradigm would persist, but not necessarily in its current form.

“We had an evacuation [from offices] at the beginning of this nine months ago; we had to make it work,” Ashley said. “But we have a lot of data now from people that are working from home that suggests that it’s not working for everyone all the time, nor will it work for everyone all the time on a go-forward basis.”

Waterman said that based on a survey that Newmark recently participated in, the attitude of most employees towards working from home was essentially unaltered from its pre-pandemic state.

“The discussion is always around this 20-60-20 model. Twenty percent of the people want to work in the office full time. Twenty percent of the people want to work from home full time. Sixty percent want some kind of work from home, work in the office lifestyle,” said Waterman. “That is what it was pre-COVID. And in the surveys that we’ve done post-COVID, that’s exactly what we’re hearing from the clients.”

Waterman went on to suggest that the significant duration of the pandemic has actually contributed to employees’ interest in returning to the office, at least some of the time. “One could argue that if we had come out of COVID in two or three months, the desire to return to the office would not be as great as the desire to return to the office is right now,” Waterman suggested. “Because people would have said, ‘yeah, after two months, I could work from home.’ But after nine months, it’s like ‘I needed a change of scenery, I needed to get out of my house.’ Nine months actually helped the real estate market.”

Stir craziness notwithstanding, Waterman did feel that some measure of working from home would likely be a lasting effect of the pandemic. “People do want a work/life balance. We saw that coming pre-COVID, and it is certainly something that they’re going to want even more post-COVID.”

Waterman and Ashley both felt that, unsurprisingly, 2020 was a year of stagnation in the office leasing market, as tenants waited for the pandemic to abate before making any major decisions.

Ashley said that, “Executives, wisely, are making the smallest decision possible in many cases. From the real estate perspective … executives are being careful about deploying capital, and executives are being careful about committing to long-term decision-making until we have a resolution on all of this uncertainty.”

Waterman noted that this approach had led to an emphasis on short-term renewals. “There’s a fair amount of tenants that have kicked the can down the round and taken one- or two-year transactions,” he said.

While there has been a significant amount of space listed for sublease during the pandemic —hitting a record level of 156 million square feet nationwide as of the third quarter according to CoStar — Ashley felt that this was less indicative of companies taking a forward-thinking approach to their real estate, and more symptomatic of underused office space that existed prior to the pandemic. “Before the pandemic hit, across the United States in most portfolios, we only used the office space 50% of the time during the workday. We have a lot of sensor data and badge data to suggest offices we’re not being fully utilized then, so this is not a new trend.”

Waterman suggested that many companies may have found 2020 represented a good opportunity to write down a loss without causing much of a stir. “It was acceptable for a tenant to write off space in 2020 and take a loss, because … the world was in turmoil. If you were ever thinking about getting rid of some space, 2020 was as good a time as any.”

Waterman went on to suggest that he thought some of the sublease space currently available might eventually be removed from the market by the companies that had listed it, once their employees returned to the office.

Waterman and Ashley concurred that the current emphasis on short-term renewals was going to translate into substantial pent-up demand over the next several years. “This is my personal prediction, that there will be the great LED pileup of 2022 for three reasons,” Ashley said. “Number one, people are making small decisions to extend for 12-18 months. Number two, we’re going to have [employee] growth. And number three, we’re going to have to spread those people out and require more space.” In addition to those three factors, there will be the impact of long-term leases that were always slated to expire in 2022.

While Waterman predicted “a more robust second to third-quarter pickup in 2021,” he also echoed that demand will particularly accelerate in 2022 through 2024.

In order to avoid the increased competition and potential pricing escalations that could begin in 2022, Ashley suggested that tenants may want to consider proactively making moves in 2021 while the market remains in their favor.

“You can save a lot of money now on office space if you’re willing to commit next year before the great rush of 2022. It’s just a fact that concessions are up, tenant improvement allowances are near historic highs. It’s a great time to be an office-using tenant in the United States of America,” Ashley said.

For companies concerned about committing to decisions so soon after the (hopeful) end of the pandemic, Ashley noted that lease flexibility was also something tenants could secure in 2021.

“I would say option up and go long … you can have the ability to both grow and contract, because you have so much leverage now. You can literally have your cake and eat it too in the office market that is 2021,” Ashley said.

As for what amenities tenants will be seeking in 2021, Waterman said that he foresaw an increased interest in wellness, though this emphasis on employee wellbeing is not necessarily entirely attributable to the pandemic, even if it’s been accelerated by it.

“I think that attention to employees’ satisfaction, attention to employees’ well-being and wellness was stuff that we were coming to in the pre-COVID world and it’s going to happen in the post-COVID world,” Waterman said. “Where people used to talk about LEED certification, I think there’s going to be more discussion around well-certification and quality-of-life issues.”

Waterman predicted that indoor air quality, sanitation and cleaning protocols, outdoor space and smaller, more private amenity areas in buildings would all be compelling features for tenants in the coming years.

Ashley echoed the importance of covered, weather-proof outdoor space. “It’s like when you were in high school and you had your English class outside — that’s what corporate America wants to do now,” he said. While Ashley thought that features like private entrances and elevators would have limited appeal after the pandemic, he believed that remote food and office services, such as vending machines that could dispense office supplies like new keyboards and headsets, would continue to be relevant.

Ashley also felt that the new interest in wellness offered office owners and developers a “dramatic opportunity to differentiate and either create new product or reimagine product … with the approach to health and safety that LEED brought to the green environment.”

Waterman and Ashley shared the view that, following a decade of increasing densification in office spaces, de-densification was now going to become a significant trend. This is partly in response to the pandemic, but it’s also about making the office environment more appealing and comfortable for employees.

Because of de-densification, Waterman suggested that companies may continue to require the same amount of space as they did before the pandemic, even with new work from home protocols. “There will be some reduction in space count, but that may be made up in the de-densification,” he said.

As for the great suburban migration that’s been oft-discussed in the media, Ashley was dubious. “The data doesn’t yet support the idea of moving companies from an urban location to a suburban location,” he said. He added that such a shift represented too big of a move for companies that are still playing the waiting game until they can bring more of their employees back to the office. However, Ashley did feel that “given the newfound mobility of corporate America, I think we will see companies make the decision to move from high-tax locations to lower-tax locations, because it’s just good business.” And recent high-profile relocations, such as Oracle moving from California to Texas, suggest Ashley may be correct about this trend.

Waterman and Ashley both emphasized the importance of the office environment. “We haven’t changed as a species in nine months,” Ashley said. “We still need to get together, although we are going to do it differently.”

Waterman observed that the return of employees to the office is critical for the larger economy. “It’s important to get people back to the office, because people in seats support every other business in New York — whether it’s the deli, the shoeshine guy, the hot dog vendor on the street — everybody goes by way of people being in seats,” he said.

Waterman described this period as a “time for introspection” for both office users and property owners. He suggested that a more dynamic partnership between the two parties will be critical in the year ahead. “I do believe that there needs to be a collaborative approach between tenants and landlords as we move forward in the new world,” he said, in order to make employees comfortable with and excited about returning to the office.

And while change is undoubtedly on the horizon, Ashley views it as part of a continuum. “I recognize that how corporate America uses space is going to change. But guess what? It’s always changing. It’s been accelerated by the pandemic for sure, but if you think about 10 years ago, we had a lot bigger offices and [then] we had a movement towards great densification. Well, now, that’s going to change, it’s going to be undone,” he said.

Waterman shared the perspective that adaptation will be an important skill in the office leasing market, even if it isn’t an attribute that people typically associate with the real estate industry. “I think there’s going to be a lot of ideas that come out of this … and we’re going to have to become much more adaptive in thinking for people who are not [typically] like that,” he said.

Like Waterman, Ashley was excited about what lies ahead for the office leasing market and for the economy in general, noting that periods of adversity often lead to exceptional innovation. He noted that, “In 2009, Instagram was invented, Uber was started, Airbnb was started; what is going to be the outcome of 2020 in two or three years? It’s going to be very exciting to see."