Thought Leadership Article - Office Vacancies and Development | Associated Bank | WGN Radio
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THE OPENING BELL As Heard On WGN 720 AM Chicago

Chicago’s Commercial Real Estate Market is Experiencing Some Office Vacancies – and Some Office Development

1. New offices making a splash.

Two new buildings, in particular, are getting people talking in the Chicago marketplace.

“I think to some extent, there’s a certain level of pent-up demand that as we came out of the downturn, there wasn’t a whole lot of construction for quite some time,” said Greg Warsek, Associated Bank’s Illinois Market Manager. “And now we’ve just recently had a couple of million-square-foot buildings deliver that are right in the West Loop really close to the train. They’re beautifully-designed: one at 444 West Lake, which is the Heinz building, and then at 150 N. Riverside, which is the Riverside Building, and they’re both beautiful buildings and they leased up very well – at very high rents.”

“It was a lot of tenants looking to move into more efficient buildings, better locations, near the train, near the freeway. They’re very efficient buildings from an operating standpoint, so their total costs will be less. And frankly, one of the big trends that we’re seeing is when people move they’re moving from say from 400,000 square feet into 250,000 so their net cost is about the same or it could be going down and they’re getting a nicer building.”

These new buildings are receiving high praise for their innovative design.

“These are very notable projects that are winning awards,” Warsek said. “They’re very efficient. They’re beautifully designed. (They offer) high amenity space (and) very unique experiences for employees and for clients. And so when people say this is the building I’m in there’s cache to it for sure.”

2. Changing culture in office space.

Gone are the days of individual offices and workspaces. Today, the modern work environment is defined by fewer walls, less reserved desk space and more communal settings.

“That’s the other big change that we’re seeing,” Warsek said. “It’s a big impact right now on office. And from a lending perspective, I’m really trying to figure out the impact of that; because they’re going to more communal space.”

On top of that, more employees are working part of their work weeks from home – leaving office spaces more vacant than they used to be.

“More companies are encouraging people to work from home, full time or part time,” Warsek said. “There’s less dedicated office spaces. Many are going to that concept where you come in and you grab a space and nothing’s dedicated anymore. And it allows companies, especially where the employees, they travel, where they can work from home to have less office space. It’s a big chunk of cost for a lot of companies.”

3. Chicago is experiencing a jump in office vacancies.

“Honestly that really wasn’t a surprise to anybody,” Warsek said. “When you bring just those two buildings – 2 million square feet online – all those tenants came from somewhere else. And right now those buildings are being finished up, they’re north of 80, 85% leased right now. So there’s a little bit of vacancy left there, but all the vacancy that’s being left behind from those tenants moving to these new buildings is creating that spike in vacancy. Plus, what I alluded to earlier, a lot of those tenants are coming from space where they might have had 400 or 500,000 square feet or pick a number and it’s going down to 250, 300. So, all those components add to that vacancy rise, which frankly none of the brokers are surprised to see. And I think that trend’s going to continue because there’s more under construction right now.”

That vacancy figure is right around 12 percent.

“It got down into like 10 or 11 percent and now it’s come back up to 12 – relative to suburban, which is 20, 25 percent, depending on what submarket,” Warsek said. “It’s still not bad. I expect some of that space that’s been left behind will ultimately lease, but these new buildings are driving the higher rents. That was one of the other interesting statistics – despite vacancies going up, rental rates are going up. That’s because these new buildings, the two new buildings are getting top-of-the-market rates. So it’s kind of skewing that number, despite vacancies going up.”

4. Offices moving from the burbs to the city.

Once upon a time, suburbs offered the most alluring spaces for office headquarters. Now, there’s a return to the hustle and bustle of metropolitan areas.

“I think there’s I think we’re in the early innings over in (the) Fulton Market (district),” Warsek said. “I think that because of Google and McDonald’s, now you’re seeing a lot of announced office buildings there’s at least three or four more others that are in the planning stage that look like they’re going to go. There’s a lot of apartments that have been delivered and are planned for that area so the Fulton Market/West Loop area is going to continue to see a lot of activity I think in the next two to three years.”

Oddly enough, this hasn’t equated to lots of accompanying commercial activity – particularly around retail establishments.

“I know in Fulton Market, that’s one area where they’re watching the retail (activity) very closely,” Warsek said. “There’s the expectation that you have all those office users come in. There’s always been a lot of condo activity in that area but you’re seeing a real uptick in the apartments, people wanting to capture all the workers that are going to be there. I think that market is terrific from a restaurant standpoint, but from a retail – service retail standpoint – there hasn’t been a lot of activity. I’m surprised there hasn’t been more. Most of the retail has been on Randolph. The expectation is that the retail will ultimately jump to Fulton. It hasn’t yet, but a lot of people are betting it’s just a matter of time.”

Of course, transitions to newer, more exciting downtown areas and more exciting spaces means some spaces are being vacated.

“I talked to a few brokers and they said that is becoming a bigger challenge because a lot of the space that’s being left is further East,” Warsek said. “Some of the space hasn’t been updated in a long time, so there’s some pretty big capital investments that are needed to update not only the space but maybe the common areas. So it’s going to be a challenge really, backfilling that space. You see all the activity of suburban companies moving downtown, they’re not moving really East, they’re more moving to the West or they’re moving to the River North area. So there’s areas within the central business district that I think are going to be a challenge for office. I think you’re going to see some pretty significant vacancy levels for central business district.”

5. Virtual reality and drones are making appearances in commercial real estate

The Belgravia real estate group is one that is diving headfirst into modern technology.

“I think a lot of our clients like Belgravia are trying to figure out ways to use this new technology to advance their business,” Warsek said. “… Belgravia has a beautiful project that they’re doing near the Trump Plaza and their million-dollar-plus units and they’re trying to presell the units and trying to get people to sign a contract for a unit at that price point is a challenge, and so whatever you can do to help a buyer visualize what they’re buying is critical.”

“It went from brochures to mocking up units, which people still do, to sending up drones to take pictures to see what their view would look like from a certain floor,” Warsek said. “Belgravia’s now taken the technology to another level and has created virtual reality for their potential buyers to really feel and see and experience through virtual reality what their unit would look like, including the views, the finishes (and) different-colored paint. It’s fascinating.”

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