It's no secret that commercial real estate has struggled in recent years. The industry has yet to recover from the effects of the pandemic, which forced more professionals to work from home and consumers to shop and dine at home. As a result, office vacancy rates have hit a 30-year high of about 18% in 2023, and businesses large and small have drastically cut space to adapt to new norms of remote and hybrid work. Some even exited leases early.
Commercial real estate bargain hunters are currently snapping up space at steep discounts of up to 70%, according to multiple reports from commercial real estate information firm CoStar.
“There is certainly a trend of commercial buildings being bought up at extremely low prices,” David Almaraz, a real estate lawyer with more than 20 years of experience at Grant Shenon in Los Angeles, told Fortune. “The reality is that commercial real estate is struggling. People don't want to go to an office anymore, and the idea of putting on a suit and tie, commuting 40 minutes, and sitting in a cubicle every day just isn't appealing to the average worker.”
Examples of deep discounts on commercial real estate include a downtown San Jose office building that sold for about $56 million less than it cost in 2017, according to CoStar, and a Manhattan office building that sold for about 67% off, according to a Bloomberg report. Empire Capital Holdings and Namdar Realty Group purchased the property for less than $50 million, while Related Fund Management paid a whopping $153 million for it in 2018, according to Bloomberg.
Most of these big price cuts have been seen in the office sector, with commercial real estate struggling overall.
“Office is clearly in the worst position relative to other property types,” Joe Iacono, CEO of commercial real estate finance firm Credit Capital Strategies, told Fortune. “Other asset classes are struggling with rising interest rates, cost inflation, especially in insurance and wages, and slowing rent growth. Office has to deal with all of these factors, plus significant vacancy and a lack of demand.”
The deep discounts being offered to commercial real estate are just the latest sign of an industry in distress. The other most poignant figure that tells the story of commercial real estate's doom is the total amount of mortgages maturing in 2024. In a report released in February, the Mortgage Bankers Association projects that of the $4.7 trillion in outstanding commercial mortgages held by lenders and investors, $929 billion will mature this year. This will spell trouble for tenants looking to refinance in a high-interest rate environment.
A lot of commercial property is for sale
While many commercial properties have fallen in value over the past few years, not all of them are being offered at huge discounts of 60% to 70%, as mentioned above. Moody's looked at a variety of price indexes that measure changes in repeat sales of the same property over time and found that office values are down about 20% to 30% from their 2021 peaks. But other indicators suggest discounts of 30% to 40%, Kevin Fagan, head of commercial real estate economic analysis at Moody's, told Fortune.
“Some office properties are being priced at significant discounts from previous valuations and sale prices, but 70% is unusual,” Fagan says. “Sales volumes have been low over the past year or two, and price discovery has been a big challenge for CRE players, but the sales that have actually taken place present a very mixed picture.” Indeed, other metrics based on the market value of publicly traded REITs have seen declines of as much as 60% from peak to trough, he adds.
Also of note is the complexity of selling individual commercial properties, especially when they're sold at deeply discounted prices. Take the office building at 1740 Broadway in Manhattan: After Blackson handed over the keys to the property, a “fight” ensued between bondholders and a special services company (which specializes in managing and resolving distressed debt) over the deal, resulting in delays as the property needed to be sold quickly, Fagan says.
“These issues combined to create asset distress sales that would not have been maximized through an orderly sale,” Fagan said. Another example is a Fort Worth, Texas, property where the Barnett Plaza building sold in May for $12.3 million, according to multiple reports, less than one-tenth of the $137.5 million paid for it just three years earlier.
“The reality was very different,” Fagan explains, because media reports only covered part of the sale. Foreclosure auctions only cover the mezzanine loans on properties and are typically only used for acquisitions or development projects. The building's first mortgage, estimated at $83 million, still remains on the building.
“The winning bid was $12.3 million, but the buyer also put down an $83 million first mortgage, bringing the acquisition price to just over $95 million,” Fagan said. “That's a significant decrease from $137.5 million in just three years, but 33 percent is a long way from a 90 percent-plus figure. [discount] It was widely reported.”
Either way, there's no denying that many commercial property owners are struggling to retain tenants in their buildings.
“Building owners face significant headwinds in attracting and retaining tenants, particularly in the office sector,” Kevan Ventura, a principal in the real estate group at law firm Goldberg Cohn, told Fortune. “Simply put, reduced tenant demand translates into lower rental income and lower values. Maintaining occupancy rates is critical to financial viability.”
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