Archives for December 2020

Workforce Preferences Will Drive the New Office Model

December 14, 2020 by CARNM

Company after company is weighing competing forces as they try to decide whether they will reduce their office space post-pandemic.

Barclays is on the cusp of making a big decision. It is currently weighing whether to scale back its real estate footprint in the US, UK and India, according to anonymous sources cited in a Bloomberg report.
The Barclays board has not made a final decision on the extent and timing of any measures, people with knowledge of the matter told the publication. One hint was provided by Finance Director Tushar Morzaria, who told investors that depending on how the pandemic goes and how working behavior goes, they may have too much real estate in Manhattan.
Barclays is hardly alone. Company after company is considering competing trends as they try to decide whether they will reduce their office space post-pandemic. The reasons are well known and of-cited: employees prefer working at home, at least some of the time, and the reduced footprint will also reduce costs.
On the other hand, many landlords and tenants are firm believers that the office will come back, likely in a changed role. But, nonetheless, it will still be necessary.
Weighing in on the debate is JLL, which conducted a survey of 2,000 office workers in 10 countries. The survey found that a majority want to work remotely over two days a week on average, double from before the pandemic. And three-quarters of employees want to continue working from home regularly.
“Companies of all kinds are seizing a once-in-a-lifetime opportunity to change the office model and lean into workforce preferences,” says Marie Puybaraud, director of global research at JLL.
The JLL survey shows that while work will change, it doesn’t diminish the need for offices. Nearly three quarters of respondents want the ability to come into an office. Seventy percent consider the office as the best place for team building and connecting with management.
Almost half of the respondents expect offices to offer spaces to socialize. Puybaraud thinks the office will still be an essential part of the work-life mix. As companies look at how they should rethink and redesign their existing spaces to meet the new working patterns, she thinks companies may need more space to facilitate the changing work pattern. Already, spokes, satellite offices near where people live are emerging to help them find a better work-life balance.
Companies that have a strong work-life balance will have a leg up in the war for talent. Respondents to JLL’s survey said it is now more important than securing a comfortable salary. Three out of four people want employers to support their health, wellbeing and nutrition, while a third are asking for a work-from-home allowance.
Some companies, such as Google and Shopify, are already addressing these concerns by delivering lunches, providing furniture and equipment or offering cash allowances, according to JLL. Flore Pradere, director of research at JLL, says the pandemic has shown companies the importance of taking responsibility for remote workforces.
“There is a huge focus on mental health, social and emotional wellbeing,” Pradere says. “You feel empowered at working in your own home, but you might feel like you’re losing a sense of belonging as well.”
Source: “Workforce Preferences Will Drive the New Office Model“

Vaccine Approval Could Mark a Turning Point in CRE Price Discovery

December 14, 2020 by CARNM

Buyers hoping to capitalize on distress may only have a small window of time to strike as long-term prospects for troubled assets begins to brighten.
Investors hoping to cash in on a COVID-19 pricing discounts may see opportunities slip away as emergency-use approval of the first vaccine against in the virus was granted to Pfizer and with availability expected to grow as other firms gain approvals in the coming weeks and months.
The coming widespread distribution of vaccines could very well prove to be the long-awaited light at the end of the tunnel for some struggling assets. Many buyers in the market have been hoping to negotiate at least some COVID-19 discount on pricing, even a slight five percent to 10 percent discount based on weaker rent growth. “I think there could still be some deals made in that range, but the combination of the vaccine outlook combined with more and more active liquidity in debt markets are going to make it more difficult to find those opportunities in the near term,” says David Bitner, head of Americas Capital Markets Research at Cushman & Wakefield.
It has become more of a seller-favored market on the heels of recent vaccine news. There is a significant scenario where the world could change very dramatically for the better in the near term. Some sellers are choosing to hold and see what happens in 2021. Even if an owner has an upcoming maturity, many have confidence that they will be able to refinance, potentially at a lower cost than they have on in place date, notes Bitner. “So, it is tough to motivate someone to take a haircut if they don’t have to,” he says.

In addition to vaccine news, the potential for Congress to pass a new COVID-19 rescue package is creating some additional optimism, although such legislation still seems far from certain. “These positives are likely boosting pricing, but there are negative expectations as well,” says Andrew Rybczynski, a managing consultant at CoStar Group. For example, retail is battling long-term pressures from e-commerce that the pandemic only exacerbated. Weakness in the retail property sector is likely to persist, and pricing will reflect that, he says. There also are uncertainties ahead related to the longer term impact of remote working on demand for office space, as well as how long it will take employment to recover. “Arguably, the window of opportunity is still opening, rather than closing,” he says
Looking back at the last recession, the peak year for distressed transaction was in 2011—three years after the technical definition of recessions hit hardest, notes Rybczynski. The Oxford Economics base case forecast, which CoStar uses, does not call for real GDP to recover to its previous peak until the end of 2021. “Distress sales can take a while to hit the market, and the CoStar Risk Analytics team expects the next two years to match or exceed the volume of distressed transactions in the Great Recession, depending on the forecast model used,” he says.

Taking stock of valuations

Even with the possibility of a vaccine ahead, investors and lenders are still facing a tough job of figuring out where property values are at now compared to pre-pandemic levels. Generally, there is an expectation of value adjustments, but the amount of those adjustments can vary pretty significantly across property types and geographic markets. Compounding that challenge is that sales data remains thing. Although transaction volume has picked up, third quarter sales were still down 54 percent year-over-year, according to CoStar.
CoStar’s Commercial Repeat Sales Index indicates that pricing recently hit a new peak in October. The value-weighted U.S. Composite Index, which reflects larger asset sales common in core markets improved 5.2 percent year-over-year. However, gains in the overall index is masking weakness in some property types. Office and retail value-weighted price indices experienced year-over-year losses of 5.2 percent and 3.2 percent in the third quarter compared to year-over-year gains of 7.3 percent in both industrial and multifamily.

CoStar is forecasting value losses across property types, with industrial forecasted for the mildest losses and office the sharpest. “It’s important to recall that retail pricing has been weakening for a couple years now, which helps explain why the forecasted reversals are not as sharp for that sector, despite ample headwinds, says Rybczynski.
Another benchmark for current property values is the CMBS market. According to a new report from DBRS Morningstar, an analysis of 284 CMBS loans that were sent to special servicing since March have seen appraised values drop by an average of 24.0 percent compared to origination values. The bright spot is that 24 percent could very well mark the bottom of the market given the pending rollout of the coronavirus vaccine, at least in percentage terms, notes Steve Jellinek, vice president and head of CMBS research at DBRS Morningstar. “In terms of the severity of the dollar amount affected, it will probably be higher as more loans transfer and are reappraised or forbearance periods wear off and they get additional forbearance or some other exit strategy, such as liquidation,” he says.
That 24 percent decline in values is heavily skewed towards distressed retail malls and lodging assets. However, it does provide a data point for industry participants that are trying to gauge how values have reset on certain assets, says Jellinek. Another major indicator to watch going forward is the outlook for growth in cash. DBRS Morningstar is forecasting that net cash flow growth for regional malls and lodging properties will remain below pre-pandemic levels at least through 2021, and potentially as far out as 2024.

No one-size fits all answer

Much of the distress that has emerged to date has been concentrated in hotels and retail. Property values have been holding up better in industrial, multifamily, self-storage and office, although investors are more cautious when it comes to underwriting rent growth. Some pockets of the market have seen a return of cap rate compression due to low financing rates and a shortage of for-sale inventory as investors began moving off the sidelines. “We really haven’t witnessed any change since the notification of this promising vaccine,” says Dean Sigmon, an executive vice president at Transwestern specializing in multifamily investment sales in the Washington, D.C., and Baltimore markets. “We have seen cap rate compression in some submarkets even during the pandemic,” he adds.
Multifamily investors began returning to the market in June with huge pent-up demand to place capital. The bigger problem has been a lack of inventory with owners who were hesitant to put assets on the market for sale. For example, Transwestern recently represented the sellers of two value-add apartment properties in the D.C. metro that combined sold for nearly $100 million in separate transactions. Neither of the apartment assets sold were negatively impacted by the pandemic and both sales priced at cap rates around 5 percent. “There is just not enough supply to meet demand,” adds Sigmon.
Looking ahead to the first half of 2021, there is likely to be continued negative effects from the coronavirus as it will take time for states to roll-out the vaccine to the public. “I think the second half of 2021 is when you are going to have significant diminished uncertainty, and that’s going to really help narrow the buyer-seller gap,” says Bitner. “That is going to be the spark that lights all of the dry tinder on all of the capital that is out there.” That will complicate any significant pricing adjustments because there is just too much money willing to jump on even a slight discount to pre-COVID-19 pricing, he adds.
Source: “Vaccine Approval Could Mark a Turning Point in CRE Price Discovery“

Urgent Care Draws in Net Lease Investors

December 14, 2020 by CARNM

Investors are shying away from general medical practice.

As real estate investors have sought safe havens in a tumultuous 2020, the medical sector has been a ripe target. Life sciences were on the upswing even before this year. But the search for vaccines and therapeutics to battle COVID-19 have boosted lab space.
For traditional doctor’s offices, the story is a little more mixed. COVID-19 has done a number on private practices. During the Spring shutdowns, many doctors’ offices had to close their doors or reduce hours as patients stayed at home. Many tapped into the Paycheck Protection Program (PPP) to find much-needed funding to keep practices afloat.

The uncertainty surrounding doctor’s offices filtered down to net lease investors. According to The Boulder Group, in Q3, cap rates for general doctor offices rose 16 basis from Q3 2019 to 6.91%.
“You don’t want to take a smaller local doctor practice versus a national credit company in this space,” says Randy Blankstein, president of The Boulder Group. “People went for the larger, higher credit deals as this whole flight to safety happened.”

Those large hospital-backed systems represented safety to net lease buyers. “Between COVID impacting them and people seeking safety, owning a property with a major medical group or a Fresenius is what you want to do when you’re unsure about everyone’s financials,” Blankstein says.
Urgent cares are a relatively new entrant to this space. Many practices are in retail spaces, which are called medtail. “A lot of these urgent cares can rent a vacant Rite Aid or Walgreens,” Blankstein says. “They’re not like the old medical parks or office buildings. It’s a medical use in what we consider traditional retail space.”
These urgent cares could represent an opportunity for retail landlords who may have seen tenants depart or close their doors in 2020. Cap rates for urgent cares fell 12 basis points to 7.13% year-over-year in the third quarter.

“These health clinics and urgent care things are positioned to backfill space for a variety of tenants who are downsizing or shifting format,” Blankstein says.
Highly visible and easily accessible retail spaces are attractive to these urgent cares, according to Blankstein.
“Their opportunities to get into kind of prime real estate with discounted prices certainly exists,” Blankstein says. “That’s part of their business model. They want to be more convenient and easier to find than a hospital and as a replacement to a doctor’s visit, occasionally.”
While urgent cares and hospital-backed systems provide plenty of opportunities, there will always be policy questions around the medical sector. Though with a divided Congress and a Democratic president likely for 2020, the status quo may be a good bet for the immediate future.
“It’s impossible to predict now [what happens with the Affordable Care Act],” Blankstein says. “I think most people are playing wait and see. I think it’s business as usual for the moment.”
Source: “Urgent Care Draws in Net Lease Investors“

Commercial Mortgage Delinquencies are Rising

December 14, 2020 by CARNM

In November, 5.7% of commercial mortgages were delinquent, increasing from 5.4% in October.

Problems in the hotel and lodging sectors are pushing the commercial mortgage delinquency rate up.
In November, 5.7% of commercial mortgages were delinquent, increasing from 5.4% in October, according to the Mortgage Bankers Association. The delinquencies can be traced back to lodging and retail loans that fell behind in April and May, which have now transitioned to later-stage delinquencies.
“November did see small increases in newly delinquent retail, lodging and office loans, but at levels far below what was seen at the outset of the pandemic,” Jamie Woodwell, MBA’s Vice President of Commercial Real Estate Research, said in a statement.
Lodging, where 22.1% of the loans were delinquent in November, had the most problems. In October, 21.0% of the sector’s loans were outstanding. In retail, 12.9% of the balance of loans were delinquent in November, which was an increase from 12.0% in October.
Industrial actually experienced a decrease in delinquencies. In November, 2.5% of the balances of property loans were delinquent, down from 2.6% in October, according to MBA. The sector has been boosted by strong e-commerce demand throughout the pandemic.
Office property delinquencies rose from 2.0% in October to 2.4% in November. Multifamily, with 1.6% balances delinquent in November, was unchanged from October.
Hotels, not surprisingly, were hardest hit from the pandemic as travelers stayed at home. While it has been estimated it could take a few years for them to return to post-pandemic numbers, their recovery is an economic-led one that probably depends on vaccine availability. Once there are widespread vaccines, people should begin to travel again. In fact, there may be pent-up travel demand.
Then there is the retail sector where brick-and-mortar establishments were facing issues with competition from e-commerce before the pandemic hit. That sector has more of an uphill climb as it grapples with structural change. Many retailers have declared bankruptcy amid the pandemic, with many restructuring and returning to market with a smaller store footprint. While the sector will receive a boost when the economy recovers, it still must solve its pre-pandemic issues of transitioning to an experiential destination.
Offices may also see a transition after the pandemic as many workers have become accustomed to working from home. Companies will need to decide if they want their employees working from home, bring them back to the office or execute some variation in between.
Multifamily has also been struggling as more people fall into unemployment and Congress shows little signs of offering more stimulus relief or renter support. Many people are also leaving urban locations amid the pandemic, which has put pressure on apartments in those areas.
However, it is unlikely these properties will see much distress, says Sam Isaacson, president of Walker & Dunlop Investment Partners in an earlier interview. But even if there isn’t real distress in the market, he thinks a lot of developers will want to get out of deals because “their equity is wiped out.”
“You’re sitting at 95% of the [capital] stack, and you’re just going to move on and build the next deal,” Isaacson says. “You’ll make it up on the next deal or 10 deals or whatever the case may be.”
Source: “Commercial Mortgage Delinquencies are Rising“