It is a focus of cost-cutting for companies but it is also the last asset you want to sell in a soft market.
What is it that's soft? There is over 200 million square feet of surplus commercial real estate available for sub-leasing according to Elizabeth Ptacek, senior director of market analytic at CoStar. 8 million square feet is the size of Amazon's headquarters. The 232 million square feet is twice the amount of surplus that existed before the epidemic.
CFOs have told us that as their companies go to hybrid work and corporate hub models that make less use, there is real estate to be sold. They aren't selling it right now. Ptacek thinks that is the correct decision.
Property owners are either desperate for cash or sitting on trophy assets. Only a few trophy assets exist. According to CoStar, well-leased medical offices and laboratories with high credit score tenants and secure income streams are still attracting a lot of attention from investors. Ptacek says, "no one will buy for anything less than a substantial discount."
Ptacek says that commercial real estate owners should expect it to get worse as a result of the shock to commercial real estate from the remote work trend and higher interest rates. She said that the sub-leasing surplus will never return to the pre-pandemic level as companies worry about needing to lay off workers and make other cuts ahead of a recession.
After the deals signed in Q2 and Q3 are closed, the slowdown in investment activity will become a "dramatic slowdown", according to Ptacek. She said that the higher borrowing cost would have an impact and that many investors would be eliminated.
She said that if the cost of real estate debt is cheap, then sit on the real estate.
With companies still in the early days of their hybrid work experiments, it's not just economic uncertainty but uncertainty about how in-office occupancy trends over time will make companies want to hold off on asset sales. Firms can always sign new leases at even better rates if and when they need to make the decision to end the lease.
It is still shaking out and you see the big companies one day fully remote and the next day signing huge leases and telling everyone, 'back in the office,' and then the minute they do employees express displeasure and they say, 'Never mind,' Ptacek said that it's all very much in motion.
She said that uncertainty is the greatest deal killer. No one wants to buy assets if they don't want to. She said it was difficult for both buyers and sellers to reach a reasonable price.
The situation is likely to get worse a year from now.
She said it was likely that this would not be a lot better in a year. There might be another leg to the transaction.
The wave of distressed sales that usually occur in downturns have not happened yet, and that is correct as they tend to lag the start of downturns by a few years. The peak in the distressed asset sales wave didn't happen until 2011.
Refinancing or selling is when loans come due and have difficulty. The wave of distressed sales will occur because more borrowers won't be able to refi. There will be some level of distress which will weigh on pricing, so you could find yourself in a position in a few years where the environment is less favorable. It isn't a good environment today.
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