Office Sector Next Shoe to Drop After Retail?

Have long thought this. With everything going on, people are working from home, videoconferencing, and being productive remotely. So my theory is being validated. Millennials and younger prioritize flexibility. Office space can be costly and gets outdated every 10 years or so. As a matter of fact, companies looking for cheap and/or quality talent would benefit from a regional/national/global work force, which goes against sprawling office campuses. WeWork blew up (in good and bad ways), but the business model can work. It seems to be working for small players.

Some companies (especially tech) report higher employee retention, satisfaction, and productivity. Dell is a good example. Saves a ton of money and is cheaper to recruit personnel. Such flexibility could be good for the economy and may provide opportunities for lower income people.

Time to short office REITs?

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Comments (54)

Mar 17, 2020 - 6:41pm

Generally agree but I feel this trend will more acutely affect B / C product. Tenants in well located, amenitized office buildings are no strangers to remote work. In the last 3-5 years landlords / users have been heavily focused on creating work spaces that make the office a more appealing place to work than your couch.

Mar 18, 2020 - 1:17am

Well that's just like retail trying to make the experience more "personal" to distinguish itself from digital.

Transition is on-going, inconvenient, and uncertain. Yikes.

B/C products are mostly your independent lawyers, doctors, accountants, etc. In other words, professionals that need space to conduct business. And their rent/lease obligations aren't usually too burdensome. But obviously you won't find any investment grade tenants in B/C properties.

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Mar 18, 2020 - 8:43am
Well that's just like retail trying to make the experience more "personal" to distinguish itself from digital.

Which has worked, for the record. Good retail hasn't died at all.

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Mar 18, 2020 - 12:26pm

In your opinion, what are some examples?

Exclude Apple, because their stores have been "interactive" and way ahead of the curve.

Every brand with a physical store that is currently successful?

The market has proven this out so far. The sticks and bricks retailers that have been unable to adapt have gone under, replaced by innovators. The sticks and bricks retailers that are currently succeeding have adapted successfully.

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Mar 18, 2020 - 3:10pm

Right, every B/M retailer is killing it...just look at JC Penny's, Sears, and Office Depot.

Are they "currently successful?" No? Then they don't apply to what I said.

Those three are examples of stores that have not adapted successfully.

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Mar 18, 2020 - 3:27pm

Failures are from bad/dated concepts that can't or won't pivot. Natural part of the business life cycle, adapt or die. That being said, before this month, look at any mall landlord and they were looking forward to getting back space form under-performing stores so they can replace them with concepts that drive traffic. Many originally online-only concepts are establishing a bricks & mortar presence too.

Mar 18, 2020 - 4:25pm

Aerie announced plans to expand their fleet of stores. Things are evolving. Retailers need a physical presence. Also, so do employers, hence offices. Your username is a VP in Investment Banking. Assume you're running the company, do you want physical space to meet with your employees and have them meet each other? When you're guiding a company to earnings requirements, and running a Treasury department to ensure your company is liquid, do you want people physically together to work through a fire drill?

You're right in that the industry is in transition, so there's soft areas that haven't stabilized, but it's still a massive real estate sector, and there's plenty of sophisticated thinkers involved who are working daily trying to both stabilize through transitory blows, or capitalize off new opportunities rising in the sector. I'm sure it's fun to watch from the sidelines, but even the capital providers/allocators side of things have skin in the game and want to see a solution. You're not wrong, there's uncertainty and that is frightening, but come off as dismissive.

Also bear in mind, retail or office dedicated guys/gals tend to have operating expertise in those areas, but they're still real estate people at the end of the day. Apologies if this came off as preachy.

Edit: I realize my example above for office presence likely falls under Class A types, my point was that I don't think investors in a public company would be happy to hear all their capital is being managed at home. Even IT departments would have to have enough server capacity to ensure any integral systems can handle that. Tech companies are probably an exception but there's massive industry outside tech. I mean think about mail collection also, the company needs an address, sometimes critical notices from third parties still using physical mail. There's just so many simply every day scenario's that make a physical office more appealing and higher in ease of use in my opinion, even for smaller headcounts, that would justify a monthly lease payment

Mar 26, 2020 - 6:54pm

In your opinion, what are some examples?

Exclude Apple, because their stores have been "interactive" and way ahead of the curve.

- Warby Parker
- Away Travel
- Sephora Cosmetics
- Anthropology
- Indochino
- Kielhls
- Aritzia
- Orange Theory
- Soul Cycle
- Lululemon
- Alo Yoga
- Athleta
- Free People
- B8ta
- Nordstrom Local-
- Nike Local
Many Restaurant concepts such as (this excludes major smaller groups that are thriving like Javiers in LA/SD/OC/Vegas):
- Eataly
- Pinstripes
- Tocaya Organic
- True Food / North Italia
- Din Tai Fung
- Blue Bottle
- La Colombe
- Salt and Straw
- Chipotle even
Many new Medical Concepts such as:
- One Medical
- Forward Health
- UC system like UCLA/UCSD Medical Locations at malls

Add in Apple, Tesla, Amazon, a 24 Hour Fitness/Equinox, and AMC/Arclight, plus the luxury Brands like LV/Gucci/etc, and you have some seriously thriving players and concepts.....

Apr 9, 2020 - 4:04pm

Look at the number of online retailers who are now making the move to B/M retail. Plenty of e-commerce brands are recognizing the value of a physical space and taking advantage of it.

Sure, a lot of the old dinosaurs are struggling because they aren't adapting. Does that mean the entire industry is screwed? No.

Retail is changing but its not dying. If I had to guess, you don't work with the asset class at all and really don't follow the trends associated with it so why try to push an uninformed opinion?

Mar 19, 2020 - 2:05pm

Man, I would have agreed with you only a few years ago. However, I've learned more about women's fashion than I ever thought I would over the last few years, being the landlord to a number of boutiques, and I will never again think "there are only so many ways a clothing retailer can provide a unique brand / worthwhile in-store experience."

Perhaps this is because I'm a stereotypical guy, but I've always liked buying things. I've never enjoyed shopping for them - from going to the mall as a kid to going to physical stores as an adult. I buy my deodorant from Amazon even, much less my clothes from retailers I know that fit well. There are millions of people out there though, many of whom are women, that treat shopping as the goal, not buying. I've watched people pack into stores at my properties THAT HAVE ONLINE SHOPPING simply because being in an environment where a person can go from store to store with their friends and then grab lunch or brunch or drinks is a social activity.

They probably didn't need that shirt or those shoes they bought, but it's part of the experience. They probably didn't need a third round of drinks at brunch, but it's part of the experience.

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Mar 19, 2020 - 2:11pm

I totally agree with the sentiment that there is an experience that prevails over the physical act of buying something. But I think that experience you are describing about the social side + food + shopping is up to the developer/manager to create, and that a single retailer can only do so much.

This stuff makes me flip back and forth between why malls will fail or malls will succeed. Or, whether prime retail thoroughfares in downtown cores will/won't succeed (eg. Euro-style shopping). Interesting stuff.

Mar 23, 2020 - 1:49am

Looks like I'm a few days late to this party... going to lob in a few more reasons why high-quality physical retail is here to stay:

1) Credibility. A big part of the value presented by physical retail stores is driving brand awareness/new customer acquisition. Physical retail has new competitors with the advent of Facebook/Instagram/Google ads. These ads are putting downward pressure on retail market rents, as they are a much more cost effective way of getting in front of your customer. The issue here is that online ads often suffer from "perceived legitimacy" - are you really going to take a brand seriously if it's sandwiched between knock off self-massage machines and other obvious cash-grabs?

2) Alternative customer acquisition stream. At a certain point, you'll reach saturation with online ads. Opening a physical store in a given market with a particular demographic gives you another way to market yourself to that particular demographic.

3) Serve as a touch point. Be it for learning what sizes fit you or a place to drop of returns, brands are stronger with physical stores. Not to mention the fact that about 90% of customers who return items end up spending that balance on other merchandise before leaving the store.

4) Distribution. For the time being, stores serve as a great way to a) sell products to customers who want stuff now and b) give customers another option for last-mile delivery.

Outside of the experiential side of it that @CRE already touched on, these are the big points.

As for your request for specific brands - the whole A&F family of brands is a great example of a floundering concept that successfully adapted to the new norm. Burlington Coat Factory is another - they're currently in the process of attempting what A&F successfully accomplished a few years ago.

Mar 18, 2020 - 8:44am
Champagne Sipping:

I think we're heading to some blend between remote and in office.

Without a doubt.

For a lot of companies, that blend already exists and is highly effective.

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Mar 17, 2020 - 11:17pm

Office will be hit twofold: (i) companies go under / downsize due COVID-19 and (ii) companies downsize space out of choice due to realizing they need less space because more people will work from home. Ultimately, all of this will drive for lower demand in office space across all major metros.

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Mar 18, 2020 - 12:11am

In the office space so maybe a little biased - but this last couple of weeks have really reinforced the benefits of having an office to go to. So many screaming children and barking dogs on the other side of conference calls, and I personally feel like a bit of a piece when I'm still working in my gym shorts at 5 oclock in the afternoon. I don't think that technology is the impediment that is keeping us attached to our offices.

Mar 18, 2020 - 1:10am

No doubt, but my opinion is that space will be dramatically reduced. Companies that can afford it will have one flagship office building. Everywhere else will be modest shared space that employees can access. Most employees would likely work remotely at least once or twice a week if not more anyway.

If you really need to work away from home regularly, I see people at Starbucks for hours at a time. Or you can get your own office "suite", which can be slightly pricey.

Mar 18, 2020 - 1:39am

Industrial servers will continue to perform. Tons of SWE jobs posted as the WFH infrastructure ramps up. I think we will see more WFH moving forward (pre COVID-19), but not the levels they exist right now. Netflix posted quite a few jobs in a 24 hour period

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Mar 18, 2020 - 6:51pm

Agreed. Seems like many people working from home this week are celebrating the fact that they returned an email same day and calling it a win. Won't be tenable for most industries when the economy ramps back up (and companies that say they were already doing it and achieving max productivity are lying to themselves).

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Apr 10, 2020 - 1:57pm

Additionally, any productivity that people are getting was formed on the back of relationship building and knowledge transfer from being face to face in an office. So much happens serendipitously in an office environment, wfh works initially but what about new hires, when a new project is started, etc.? Being able to just chat over lunch or pop your head into an office randomly is so valuable.

Apr 10, 2020 - 3:33pm

I think what you are going to see is a gradual movement of back-office and support roles to virtual, and consolidation of forward facing personnel into smaller but higher quality space. I completely agree that from a productivity standpoint, working from home is a challenge. However, I'm also in a forward facing role where most of my day is meeting/talking to people. The accounting team? Probably don't need to be in the office more than a handful of times a month. What I am curious to see is how many companies move to a hybrid of the two, where three days you are in the office but two can be WFH days. My finance's job allows her to do that and she loves it (on the WFH days). That would allow companies to shrink their footprint somewhat while but not lose the productivity of working from the office.

Mar 18, 2020 - 6:55pm

Not exactly a huge office space, but to your point: if this WFH situation isn't a fiasco, it would be odd if things reverted after everything stabilized.

NYSE to shift fully to e-trading from Monday after two coronavirus cases

> March 18 (Reuters) - The New York Stock Exchange (NYSE) will temporarily close its trading floors and move fully to electronic trading from Monday, its owner Intercontinental Exchange Inc said after an employee and a trader were tested positive for the coronavirus.
> ...
> "Our markets are fully capable of operating in an all-electronic fashion...and we will proceed in that manner until we can re-open our trading floors to our members," NYSE President Stacey Cunningham said in a statement.

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Mar 19, 2020 - 4:41pm

Eh. How would working in a co-working space in this crisis, or a different pandemic, be any different than working in a traditional office?

As far as SF/employee, I wonder what impact this will have on work from home policies. On one hand, the flexibility is awesome and definitely helpful. On the other, I can't imagine productivity being as high as in an office setting. I wonder if thoughts on remote working will swing one way or another, or if it'll go one way for some companies and the complete opposite for others.

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Mar 19, 2020 - 5:54pm

Less people within breathing/sneezing/coughing distance of one another. I'd also think physical barriers are helpful in reducing transmission.

I'm not saying the amount of extra SF required to have a meaningful impact on transmission rates would be economical or feasible. But I do think there will be a new found love for private offices among execs. That ~10-15% extra SF per employee might do very little to reduce transmission rates but it may buy some false peace of mind.

Mar 23, 2020 - 12:11am

nope - people are starting to realize how horrible working from home is and productivity not being what it was in an office setting working around colleagues. We are social animals at the end of the day and I am witnessing many people who are WFH right now that are wishing to go back to their workspace in the office.

We need offices to draw the boundary of work versus home time. We also like routine - wake up, get ready, commute and do work in an office setting.

Biggest takeaway from COVID 19 is the confirmation of why offices are still a thing in 2020 and why projects like HY are successful

Mar 23, 2020 - 7:48pm

Well I think lack of productivity mostly has to do with the fact that virtually everyone is distracted by the Coronavirus. I can tell you my group's deal pipeline is completely frozen. Some of my co-workers are stuck with spouses/kids/parents, so that doesn't help. Lastly, everyone is pretty much stuck at home which makes its exponentially worse.

I don't think office real estate will go completely obsolete, but I can tell you many are impressed with their recent discovery of Zoom and the like. And if this outbreak leads to a recession, you can count on companies looking to cut costs any which way.

Apr 12, 2020 - 8:31am

Is it time to short office reit? The question begs which kind of office reit but even generally my gut would say no. They're already down about a third from highs and I think there are better risk reward elsewhere in the market. If you whole heartedly believe your thesis that a substantial mass of companies will no longer need offices after this go ahead, but I think the effects will be much more marginal than that and buying puts or shorting after such a large correction seems like a risky way to invest.

Apr 12, 2020 - 9:38am

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