Banking, real estate leaders: Office woes likely to persist into 2024

DENVER — It might take another year or two for the office real estate market to crater, but investors are making preparations to pounce on deals as soon as it does.

While there are opportunities ahead for savvy deal-makers, the ongoing woes are creating a challenge for landlords and bankers, experts said during a panel discussion at the Colorado Business Economic Outlook Forum held Monday in Denver. 

Participants included Real Capital Solutions CEO Marcel Arsenault, Koelbel & Co. chief operating officer Carl Koelbel, Quarterra city president Chris Gillies and U.S. Bank senior vice president James Payne.

“Office is a four-letter word now,” Arsenault said, but that subsector of the commercial real estate market could offer prime buying opportunities in the next couple of years. 

The subcategory, excluding flex space aimed at biotechnology tenants, represents a pain point for leaseholders who need less space after the COVID-19 pandemic and a shift toward a work-from-home culture, for landlords who are dealing with skyhigh vacancy rates and for bankers who face increased delinquency and foreclosure risk on office loans. 

“Some of the largest players in the world are saying, “I’m out. Here you go, lender, here are our keys,’” Payne said.

WeWork Inc. (NYSE: WE) is an example of just such a player. The co-working giant, which in November filed for Chapter 11 bankruptcy in New Jersey, is trying to wriggle out of dozens of leases around the country, including several in Denver, where the company was once one of the city’s largest leaseholders. WeWork’s Boulder space at 2755 Canyon Blvd. does not feature on WeWork’s list of leases it hopes the court will give it permission to reject.  

“We’re seeing office buildings that are effectively worth the land price,” Koelbel said, because it has become so expensive to recruit new tenants. “There’s no off-ramp for a lot of these office buildings” and some will have to be demolished or repurposed.

A downturn in the economy, however, could have a silver lining for office landlords, Koelbel said. A recession could reverse recent trends in the worker-employer power dynamic and allow companies to demand a return to office.

“Our bet is that over the medium-to-long-term that office will come back,” he said.

In this high-interest rate environment, “it’s become really challenging” for commercial real estate firms, especially those with significant office portfolios, to get favorable loans from banks, Koelbel said. Bankers, he said, are even asking would-be borrowers to move deposits into the institution in order to get loan approvals.

The financial sector was taken off guard in early 2023 with the failure of several high-profile institutions, including Silicon Valley Bank. “It’s unfortunate what happened in the spring,” Payne said, and the industry is still feeling “some ripple effects from those bank failures.” However, “I don’t think we’re going to see widespread bank failures.”

Unlike the Great Recession of 2008, a downturn in the near future likely won’t disproportionately impact the financial and commercial real estate sectors.

“We’re OK on our leverage,” Payne said, and U.S. Bank loans related to office real estate are a relatively small asset class.

Additionally, interest-rate cuts, if they come in the early part of 2024, could help buttress the commercial real estate industry from a severe downturn, he said.

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