One broker says the difference often comes down to creativity, not just location
While many sectors of the commercial real estate market have seen a solid bounce-back year, there are others still struggling in the post-pandemic world.
Not every corner of the commercial property market is moving at the same pace. Some asset types are still struggling to find financing at all, while others are already seeing fresh buyer demand return.
Location alone does not explain that split. Two buildings on the same block can end up on opposite sides of it, depending on how their owners have chosen to respond.
One veteran broker said the properties finding success tend to share an owner willing to rethink what the building is for in the first place.
Michael Muller (pictured top), senior managing director at Eastern Union, has spent 25 years in the commercial mortgage business and said that pattern shows up in investors willing to reposition an older building rather than simply tearing it down.
"You have to have an eye for that. You have to be like a real developer," Muller told Mortgage Professional America. "I'm always amazed, like, ‘Hey, why didn't I think of that?’"
Retail's early reset
Muller said retail has an advantage the rest of the commercial market does not, and buyers are already moving to take advantage of it.
"Retail is an asset class that already reset years ago, pre-COVID," he said. "We're seeing a lot more retail acquisitions. People are buying shopping centers with significant national tenants in them for 8.5, 9 caps, and they're getting financed. Lenders are comfortable. That market seems to have stabilized and reset properly."
He said the buyers succeeding in retail today are pricing in a cushion to cover any future disruptions to the market.
"There's enough juice in there,” Muller said. “You never know what to expect next year. We've seen what happened with the pharmaceutical industry and Amazon, and online shopping can continue to put stress on the overall market.
“Experienced owners of retail are continuing to buy at these caps because they have built in enough juice that if my tenant is going to give me notice in a year or two, or my tenant's business plan changes, there's enough built in. The successful people now in retail know that it's an ever-evolving market."
Muller said that same willingness to rethink a property has shown up before in retail assets that could no longer compete as originally built.
"We had old indoor shopping centers turn inside out, where the exterior became retail, and the rear became industrial," he said. "The perimeter became retail, the inside became industrial or flex space. Guys, depending on location and size, are trying to be creative instead of just knocking down the building."
Office challenges continue
Office remains the hardest asset class to finance, according to Muller, and most of what does get done looks nothing like a typical deal.
"Office still remains a very difficult asset to place. It's really best-in-class getting done," he said. "You've got long-term leases in place. It's the Class A properties that are getting financed. Where we're finding success is local office, where a local lender knows the asset, knows the property. When there's a majority of medical and professional tenants there, the lenders like that. Medical tenants don't really leave."
He said the office buildings finding a second life through residential conversion tend to share a specific physical trait.
"Many office buildings don't have the ability to be converted because they don't have a core," he said. "You have these big 20,000-square-foot floor plates without any core, without any lighting, and there's too much work that has to be done to them. I see investors cherry-picking specific buildings that have the ability to be converted."
Muller pointed to a recent deal as an example of what that repositioning can look like.
"We were working recently on a three-building office park that had significant vacancy, where the sponsor was coming in, consolidating, moving all the offices to one building and taking the other two and converting them to residential," he said. "That kind of ends up being a mixed-use project."
Regionally, Muller said the divide between markets has been less about size and more about how much new supply each has had to absorb.
"The Midwest in general seems to be very stable and faring much better than the Sunbelt and assets in the South," he said. "I think there's been less new construction. The market has just been continuous, slow and steady growth, and remained stable. I'm finding the most headwinds still down south."
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