A Bleak Outlook for Manhattan’s Office Space May Signal a Bigger Problem


Remote work and rising interest rates are dealing a double blow to office landlords, with potentially grave consequences for the city and even national economy.

New York City’s biggest corporate landlords had it great for years — benefiting from a booming economy in a city where companies clamored to set up offices and from low interest rates that buoyed the economics of an industry built on debt.

Those days are over. Three years into the pandemic, floors of office buildings throughout Manhattan have been emptied by tenants who have shrunk their footprint and employees who work from home.

Now, there is another problem.

Rapidly rising interest rates have intensified concerns that the New York City office market, the largest in the country and a pillar of the city’s economy, could be at grave risk. That one-two punch could be worse than anything corporate landlords have experienced before, experts on the sector say, leading major banks and real estate analysts in recent weeks to warn that languishing properties along with falling property values and higher borrowing costs could increase the odds of a recession nationally and a budget crisis for the city.

More than two-thirds of all commercial real estate loans are held by small- and medium-size banks, prompting concern that regional banks might be unable to withstand a wave of defaults if landlords cannot pay off loans. Some analysts have forecast a dim future for city centers, likening the crisis to the slow death of many American shopping malls.

In the latest snapshot of the nation’s most significant office market, New York City’s largest office landlord, SL Green Realty Corporation, revealed that more of its properties lost tenants during the first months of 2023. Across its 25 buildings, including some of the city’s premier office buildings, 90.2 percent of the space is occupied, down from 95.5 percent at the start of 2020.

The consequences extend far beyond the balance sheets of the city’s landlords, who borrowed billions at low rates in the years before the pandemic to build, buy and upgrade offices and attracted marquee tenants like Meta and Apple to the city.

Office workers in the city make about 75 percent more in annual salaries than the rest of the private sector, according to the Office of the State Comptroller, and their absence from the office every day deprives a host of businesses of their spending.

And the value of New York City office buildings could tumble $48.75 billion in the coming years, according to a recent study by researchers at Columbia and New York Universities, hampering a vital source of the city’s tax revenue.

Stijn Van Nieuwerburgh, a real estate professor at Columbia University’s business school, has warned that New York City faces an “urban doom loop” sparked by remote work. While the current commercial real estate downturn shares similarities with previous declines, including periods in the early 1990s, after the Sept. 11 attacks and during the 2008 financial crisis, this drop has a new twist: The lower demand for office space appears permanent, he said.

“We can debate whether we need 10 percent or 20 percent or 30 percent less office in the long run than we did before,” Dr. Van Nieuwerburgh said, “but everybody agrees that the number is greater than zero.”

Wall Street investors have taken a particularly dim view of the office sector throughout the pandemic, but their assessment of the sector has worsened in recent months. Large banks like JPMorgan Chase and Wells Fargo have increasingly warned that a heap of commercial loans are coming due by the end of 2025 — estimated to amount to $1.5 trillion nationwide — and that the companies may struggle to repay or refinance them.

Shares of SL Green and two other publicly traded office landlords in the city, Vornado Realty Trust and Empire State Realty Trust, are all trading near their lowest level since the pandemic started.

SL Green’s stock has fallen 76 percent since early 2020. Vornado is trading at its lowest territory since 1996. Empire State Realty, which owns the Empire State Building, is near its record low. Collectively, $17 billion of their market value has been erased since the pandemic started.

“All three of them are office-centric, all three of them New York City-centric,” Mr. Van Nieuwerburgh said. “Those are the stocks, the office stocks, that have been clobbered. It’s staggering.”

Vornado and Empire State Realty will report their quarterly earnings in the coming weeks. At the end of 2021, Vornado’s New York City buildings were 90.4 percent occupied, down from 96.7 percent at the end of 2019; Empire State Realty’s buildings in Manhattan were 86 percent occupied, down from 89.8 percent.

The private equity firm Blackstone, the largest owner of commercial real estate in the world, reported last week that its latest distributable earnings, which represent the cash used for shareholder dividends, were $1.25 billion in the first quarter, a 36 percent decline from a year ago.

Executives on Friday said that the firm had greatly reduced its exposure to the office sector in its real estate portfolio and warned of looming challenges for those properties. Last year, Blackstone handed back the keys of a Manhattan office building, 1740 Broadway, to lenders.

In the latest quarter, SL Green reported revenues about 28 percent lower than the same period in 2020 but still above Wall Street expectations. On an earnings call on Thursday, the company’s chief executive, Marc Holliday, criticized what he said were alarmist predictions about the industry.

“The commercial real estate sector seems to dominate much of the headlines these days, amplifying messages of doom and gloom and creating what I believe to be an over-anxiety in the market that is most acutely felt in New York City,” Mr. Holliday said. “Overly negative voices are overshadowing some of the positive signs that portend a slow but steady recovery.”

Alexander Goldfarb, a managing director and a senior research analyst at the investment bank Piper Sandler, said that SL Green’s better-than-expected earnings should ease some of the concerns of a looming office sector collapse.

Yet many landlords may not recover. While larger landlords who own Manhattan offices that remain in high demand or hold properties elsewhere in the country may be better positioned to rebound, numerous smaller firms that own older, less-desirable properties could face enormous strain. About 80 percent of office leases signed in the first months of this year were in buildings considered the top of the market, known as Class A, according to analysts.

In New York City’s office market, which includes roughly 400 million square feet, Mr. Goldfarb said, nearly two-thirds of its buildings are facing obsolescence because they are decades old and largely unattractive to tenants.

Tenants are seeking newer space that offers amenities and proximity to transit stations, like One Vanderbilt, SL Green’s newest tower next to Grand Central Terminal, he said. Leases at that building are among the highest in Manhattan, with some above $200 per square foot.

“They are going to continue to win the share,” Mr. Goldfarb said.

After dismissing the staying power of hybrid work at the outset of the pandemic, executives at SL Green and Vornado now concede that the workweek has changed for the foreseeable future.

Vornado, for example, had set its sights on remaking the Penn Station neighborhood into a large commercial district that could command some of the highest rents in the city, similar to its neighbors in Hudson Yards and around Grand Central Terminal. But the company’s executives decided in recent months to put that project on hold, citing higher interest rates.

All three firms have rushed to find new streams of revenue. Empire State Realty has sold several suburban office buildings and expanded into the apartment market, buying three Manhattan buildings since late 2021.

But there are no quick fixes for office landlords. One appealing possibility — converting underused offices into residences — is too expensive with today’s interest rates, and it is often structurally challenging.

Vornado has considered bidding to place a casino near Penn Station in Midtown Manhattan. It is also looking into building more residential towers following the completion of its luxury condominiums at 220 Central Park South in 2019, where one residence sold for nearly $240 million, the most expensive home sold anywhere in the United States.

SL Green is also looking into gambling: It has partnered with Caesars Entertainment to propose a new casino in Times Square, competing with other groups for one of three casino licenses authorized for downstate New York.

The project would be “to everybody’s benefit,” Mr. Holliday said on Thursday’s call. “It would be an enormous catalyst for revitalizing and reinvigorating what’s New York’s and I’d argue the world’s No. 1 most-important tourist destination.”

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