Commercial real estate bargain hunters are snagging offices for ‘extreme’ discounts up to 70%
It’s no secret that commercial real estate has been struggling the past few years. The sector is still reeling from the pandemic, which pushed more professionals to work from home and consumers to shop and dine at home. As a result, office vacancy rates reached a 30-year high around 18% in 2023, and companies both large and small majorly shed space to adjust to new remote- and hybrid-working norms. Some even terminated their leases early.
Now, commercial real estate bargain hunters are snagging space for steep discounts up to 70% off, according to several reports from commercial real estate information company CoStar.
“There has certainly been a trend of commercial buildings being scooped up at extreme discounts,” David Almaraz, a real estate attorney at Grant Shenon in Los Angeles with more than 20 years of experience, tells Fortune. “In the current state, commercial real estate is in trouble. People don’t want to go into the office anymore, and the days of putting on a suit and tie and commuting 40 minutes to sit in a cubicle doesn’t appeal to the average worker anymore.”
Some examples of heavily discounted commercial real estate sales include an office building in downtown San Jose, which sold for about $56 million less than what it did in 2017, according to CoStar, and a Manhattan office building that sold at a roughly 67% discount, a Bloomberg report shows. Empire Capital Holdings and Namdar Realty Group purchased the property for less than $50 million, according to Bloomberg, but Related Fund Management paid a whopping $153 million for it in 2018.
While commercial real estate as a whole is struggling, most of these steep discounts have been seen in the office sector.
“Office is clearly in the worst shape versus the other property types,” Joe Iacono, CEO of commercial real estate finance firm Crescit Capital Strategies, tells Fortune. “Other asset classes are suffering from higher interest rates, expense inflation—in particular insurance and wages—and a flattening of rent growth. Office has to contend with all these factors plus significant vacancy and lack of demand.”
The steep discounts offered on commercial properties is just the latest sign of a struggling sector. Another one of the most damning figures that illustrates the doom headed for commercial real estate is the total value of mortgages that will mature in 2024. By Mortgage Bankers Association projections, $929 billion of the $4.7 trillion outstanding commercial mortgages held by lenders and investors will come due this year, according to a report released in February. This will be troublesome for tenants looking to refinance at a higher interest-rate environment.
Commercial properties are on major sale
While many commercial properties have lost value during the past few years, not all are being offered at the steep 60% to 70% discounts mentioned previously. Moody’s looked at various price indices that measure changes on repeat sales of the same properties over time and found that office values have come down about 20% to 30% since their 2021 peak. However, other measures imply a 30% to 40% discount, Moody’s head of commercial real estate economic analysis, Kevin Fagan, tells Fortune.
“Some office properties are seeing significant discounts to their prior valuations or sale prices, but 70% is not the norm,” Fagan says. “While sale volume is low and price discovery has been a big challenge for CRE stakeholders over the past year or two, the sales that have occurred have offered a very mixed picture.” Indeed, other measures based on market prices of public REITs indicate as much as a 60% peak-to-trough decline, he adds.
It’s also important to note the intricacies of individual commercial real estate sales, especially when it comes to properties that are massively discounted. Take the example of the Manhattan office building at 1740 Broadway. There had been a “battle” between bondholders and the special servicer (who specialize in managing and resolving distressed loans) on the deal after Blacksone turned over the keys to the property, Fagan says, which resulted in delays and a need to get the property sold quickly.
“All of those issues led to a fire sale situation on the asset, versus an orderly sale that would maximize recovery value,” Fagan says. Another such example was a property in Fort Worth, Texas, where multiple reports in May indicated that the Burnett Plaza building had sold for $12.3 million, less than one-tenth of the $137.5 million paid just three years earlier.
“The reality of the situation was much different,” Fagan explains, because the media reports only addressed part of the sale. The foreclosure auction was only for the mezzanine loan on the property, which are typically just used for acquisitions or development projects. The first mortgage on the building, which is estimated at $83 million, is still in place for the building.
“So while the winning bid was $12.3 million, the buyer is also responsible for the $83 million first mortgage, bringing the acquisition to just over $95 million,” Fagan says. “This is still a steep decline from $137.5 million in just three years, but 33% is a long way from the 90%-plus [discount] that was widely reported.”
Either way, it’s undeniable that many commercial property owners are having a tough time keeping their buildings occupied.
“Building owners face significant headwinds attracting and retaining tenants, especially in the office category,” Kevan Ventura, a principal in law firm Goldberg Kohn‘s real estate group, tells Fortune. “Simply put, reduced tenant demand contributes to reduced rental income and reduced value. Maintaining occupancy is critical to financial viability.”