The office-space sector of the commercial real estate landscape is dotted with creative redevelopment projects converting empty office space into housing units, even as the remote-work era is causing the value of older bigger office buildings to fall.
One of the tallest buildings in downtown Ann Arbor, among the music venues, fine to late-night dining, bars and recently built housing aimed at college students, is a former office building currently being renovated into luxury apartments. The new, residential occupants at 414 S. Main Street, when it reopens, will be the first since the white collar workers left at the height of the pandemic.
But there are far more empty buildings which seem ill-suited for redevelopment.
As the industry faces a debt-deadline over the next 18 months, industry experts say many of the older and bigger vacant office buildings across the country and in southeast Michigan will more likely see a change of ownership, for a relatively low price.
Converting office space to residential is complicated and expensive, says Jim Chaconas, the Ann Arbor real estate agent whose firm helped sell the Main Street, Ann Arbor building to developers. He says the nature of the building made this site workable for conversion.
“It was newer, [and has] a lot of glass,” Chaconas said. “You can have apartments with windows on corners and you’re not making a tunnel apartment. And it’s got parking underneath.”
While 414 S. Main Street went up in 2001, a lot of the vacant office space in southeast Michigan and across the country is in older buildings from the ‘60s, ‘70s and ‘80s.
Brian Connolly, an assistant professor of business law at the University of Michigan’s Ross School of Business, says there was a rapid expansion of office space across the country in those decades, particularly as women entered the workforce. In today’s remote-work era, many companies don’t need as much square footage. The design of the old buildings often make it hard to make attractive apartments.
“Those mid-century office buildings, first and foremost, a lot of their floor plates are so large that you’re far away from a window,” Connolly said. “And secondly, a lot of their windows don’t even open. So that’s a problem.”
(A floor plate is the amount of leasable square footage in a building, and a bigger floor plate makes it challenging to convert old office space into housing.)
Connolly says in some areas, zoning may not allow for office-residential conversion builds, and it can take a long time to obtain the proper permits.
“We’re really seeing a trickle of those conversions,” Connolly said. “It’s still just a small share of the market.”
The Biden Administration published a “playbook” for developers with tips for subsidized funding to help developers of office-residential projects, and highlighted another successful office-to-residential conversion in Detroit. Still, the other challenges remain, according to Connolly and others, many buildings aren’t suitable for these projects.
A research paper by the rental listing company RentCafe analyzing data from its sister-company YardiMatrix, reports 12,713 converted apartments were added to the housing market, nationally, in 2023. The U.S. Census reports workers completed 450 thousand multifamily housing units in 2023. Conversions seem to be a marginal piece of the new-build housing market.
Analysis in reports from the real estate firms Avision Young and Colliers report vacancy rates of office buildings in the metro Detroit area are still high. But, some slivers of the office space market are still healthy, according to Chaconas and James Becker, the Market Director of the Detroit office of Avision Young.
“Places like Royal Oak, Birmingham, to a certain extent downtown, Ann Arbor, are markets that have actually retained their value very well,” Becker said. “New construction in those markets is leasing up very quickly, at rents this market’s never seen before.”
Companies that still need office space, but maybe less than the before the pandemic, seem to want newer buildings in desirable locations (think, walkable neighborhoods).
The older, bigger office buildings which may not be feasible for office-to-residential conversion are “functionally obsolete”, according to Colliers Vice President John Fricke, who says nobody seems to want them for office space anymore, either.
Fricke says he’s seeing sales prices for older office space start to decline, already. An Analysis of capital markets in the U.S. published earlier this year by the global commercial real estate firm Newmark estimates $337 billion is tied up in office space debt that’s scheduled to mature by the end of 2026, nationwide. The report estimates “most” office debt is tied to buildings that have depreciated and are now underwater.
“I think owners of all those kind of builds are scrambling to find solutions to try to monetize these buildings that frankly, I just don’t see there maybe ever being office demand for going forward,” Fricke said.
According to Colliers data, most of the older, lower-value office space in southeast Michigan is in the suburbs, more than 33 million square feet.
Fricke says a few of those properties may end up as residential conversions. He’s also heard of possibly converting old office space into self-storage units. But he predicts some foreclosures, distress sales, and some give-backs of the properties to lenders; or demolitions to make room for more marketable developments.
Beckman says some of the lower-value and older office space in neighborhoods like the Detroit suburb of Troy may get sold and purchased cheap, thereby starting a new wave of opportunity and development for smaller companies that may suddenly find themselves able to afford a building that cost too much before.
