In a hybrid world, office downsizings are coming

As many companies push back a full return to the office because of the pandemic -- and struggle to figure out just what the workplace of the near future will look like -- a glut of office space continues to grow.

Corporate office leasing remains below pre-pandemic levels, according to Jones Lang LaSalle (JLL), a commercial real estate and investment management services firm. Though third-quarter leasing volume is up 39 per cent from a year ago, it's still 25 per cent lower than Q3 2019, according to JLL.

“This is the slowest rate of increase since the onset of the pandemic," JLL said in its November Global Real Estate Perspective.

Companies that assumed a year ago that offices would be bustling again by mid-2021, have found that the pandemic continues to put a kink in their plans. 

Last week, for example, Apple told employees it is delaying a return to office until February. It was not the first time the company pushed back its plans, nor is it alone. Many companies are routinely pushing back office reopenings, or dumping office space all together.

In August, Seattle-based REI announced it was attempting to sell its yet-to-be used new headquarters; the company instead now envisions a more decentralised, multi-location approach to office space. And Zillow Group announced this summer it would give about 90 per cent of its 5,400 employees the option of working from home at least part-time for the foreseeable future.

“We have historically discouraged employees from working from home, preferring face time and in-office collaboration versus virtual exchanges,” Zillow said in a company blog. “Our old preferences have been debunked during the pandemic.”

A shifting landscape

In a hybrid work environment where some workers are in the office, while others are remote, office space is simply less necessary, and leases are often not being renewed, according to Raj Krishnamurthy, CEO of workplace technology firm Freespace. Freespace’s building sensors discover unused space and its software helps companies consolidate and schedule employee on-site visits.

“What we can see is that there are a number of leases, especially in smaller regional/suburban offices of our large clients, that are not being renewed,” Krishnamurthy said via email.

For example in early May, just one in 20 office buildings in the US had occupancy levels above 10 per cent and as recently as last month occupancy rates averaged just 16 per cent. Looking ahead to 2022, about one in five offices are expected to be empty, according to Moody’s Analytics, a consultancy.

That doesn't mean the office real estate market is dead. This month, the 10-city average occupancy rate on Kastle System’s Back to Work Barometer rose to 39 per cent -- up 1.2 per cent in a month. That's the highest rate since March 2020, and every city on the Back to Work Barometer saw occupancy gains.

Kastle Systems is a managed security provider to more than 10,000 companies globally; it uses employee badge-swipe data to determine workplace occupancy.

Globally, the numbers show companies are continuing to figure out what an agile workforce looks like and how hybrid offices can work. Occupancy data from Freespace’s anonymous workplace sensors showed that the percentage of businesses with employees returning to the office at least some days each week has risen from five per cent in May to 47 per cent in October.

Freespace, which deals primarily with building occupants, not property owners, also found that the use of collaboration spaces has risen, from 10 per cent in September to 13 per cent in October -- highlighting moves toward shared spaces.

Sub-leasing gains traction

The lower lease renewal rates that are showing up now could be due to corporate office space consolidation, according to Krishnamurthy. Fewer lease renewals may result in an excess of space.

“Customers that used to have 60 per cent peak occupancy have under 40 per cent peak occupancy,” Krishnamurthy said. “If you operate multiple floors, it makes sense to consolidate into fewer floors to create a sense of togetherness. Eventually, if the occupancy patterns continue to stabilise, downsizing or at least subletting will take root.”

Data shows more businesses are subleasing their office space as the workforce becomes more agile. Given the uncertainty about how hybrid workforces will look, the shorter lease terms that often accompany a sublease are now seen as a benefit, according to a Cushman & Wakefield report. It found that across major markets the cost of subleasing office space could be 10 per cent to 50 per cent cheaper than renting.

Although the amount of space being subleased fell slightly in the third quarter -- down 0.8 per cent -- a significant amount of empty space remains, Cushman & Wakefield’s report stated.

The evolving office

The workplace is not dead, it's just being re-envisioned, according to Juliana Beauvais, a research manager for IDC’s Enterprise Asset Management and Smart Facilities practice. “Some jobs simply can’t be done remotely and other workers miss the benefits and experiences of being onsite," Beauvais said.

IDC expects that when the pandemic finally winds down, nearly 70 per cent of employees will primarily work in a physical company-operated site, including an office, branch, store, warehouse, plant, hospital, or school. That's according to IDC’s Future Enterprise Resiliency & Spending Survey conducted in July.

With workers growing more comfortable working outside the office, companies that have embraced a hybrid work environment are eyeing smaller footprints and more flexible space to accommodate the changing number of employees who do work onsite.

For example, Google is incrementally rolling out highly adaptable rooms it calls “Team Pods.” The rooms have all the elements of a traditional office space, but can be easily reconfigured with furniture and partition arrangements for supporting focused work, collaboration, or both based on team needs.

Google also created "Campfire" conference rooms that, as the name connotes, allows multiple people to sit in a semi-circle and share multiple displays.

“We’re reconfiguring some of our office layouts to allow us to experiment with new workplace concepts, starting with a smaller number of our offices first before we scale these solutions more broadly across Google’s offices globally based on what we learn works best along the way,” a Google spokesperson said.

Some of Google’s workplace pilot locations include the San Francicso Bay Area, New York City, London, and Dublin, among other offices.

In locations where weather and local conditions permit, Google will also be testing new activity-based outdoor spaces, such as one called “Camp Charleston” in Mountain View, California.

Microsoft is also adapting offices to include conference rooms that cater to virtual meetings with eye-level cameras and screens on the walls. That setup allows remote employees to maintain eye contact with in-office colleagues as if they were all face-to-face.

The use of meeting rooms is now at its highest rate since 2019, “proving that when people are going into the office, it is increasingly for face-to-face meetings,” a Freespace spokesman said via email.

“It’s all about collaboration, and a focus on performing high-level skills,” said Amy Loomis, a research director for IDC's worldwide Future of Work market research service.

For example, an employee can more easily handle “heads-down work” remotely. But strategising on a product marketing scheme requires collaboration, which is best suited to in-person meetings.

“Each company will make its own decisions around whether they need more or less real estate based on a combination of hybrid work policies, employee locations, and actual space usage,” Beauvais said. “Regardless of the footprint, it is clear that most organisations will transform the offices they own or occupy to meet the requirements of the digital world.”

The flight to high-end space

While commercial real estate remains a buyer’s market, with most landlords eager to attract tenants, lease prices have edged up for premium buildings. They're considered attractive to companies seeking state-of-the-art facilities for their hybrid workforce.

The trend is known as occupier “flight to quality,” where organisations pay higher rents for premium, more environmentally friendly buildings with the latest technology.

“This is a major focus for our occupier customers,” Freespace's Krishnamurthy said. “They are now keenly aware of the concern the employees have on experience. In fact, the work culture is becoming a key reason for people to leave their current jobs and explore [others]. Employers [are] providing flexibility in work patterns, but also a differentiated place of work that stands out, to not only attract new talent but retain existing staff.”

Eighty-eight per cent of enterprises have made or are planning investments to update physical spaces to make them more suitable for flexible work, according to an October IDC survey.

“Overwhelmingly, the areas of investment focus on four trends we’ve seen emerging for years [that] the pandemic accelerated: smart meeting room management, employee health, contactless controls, and energy consumption,” Beauvais said.

Many prospective leasers want a concierge experience in the new office, where employees can enter a building with a mobile phone app, check in via that mobile device, and be directed by the app or a lobby wall display to their meeting place. They can also digitally let others know they’re running late or adjust a meeting time and place.

If an employee needs to leave a meeting to pick up their child, they can seamlessly transfer their video conference to a mobile device and continue the discussion while they drive, Loomis said.

“Green credentials,” or buildings that use less energy, or are in other ways more environmentally friendly and healthier for workers, are equally important. In fact, studies have shown environmentally sound buildings have a direct impact on productivity, according to Krishnamurthy.

The green trend is likely to accelerate. Large real estate asset management firms such BlackRock Inc. and Brookfield Asset Management Inc. have pledged to get their assets to net-zero emissions by 2050.

“Creating innovative, sustainable, and attractive work environments has long been a top priority for us, and that has only grown in importance during the pandemic,” a Brookfield spokesman said. “The world’s leading businesses and their employees are increasingly demanding that we explore and implement innovative sustainable practices and technology advancements, and we are continually taking action to do just that.”

More than ever, health and safety are important to tenants, and landlords that can effectively work with tenants on their needs will fare better, according to a white paper published by BlackRock.

“Factors such as indoor air quality, automatic doors and other touch-free equipment/installations, cleaning frequency, as well as floor plate design to accommodate social distancing effectively will be important,” the paper, published in April, said.

Office buildings with green certifications stood out when it comes to rent; those buildings generally had about 2.4 per cent higher price per square foot (PSF) and 4.4 per cent higher rents per square foot in top 10 US markets, according to BlackRock.

“Health and wellness certifications (such as FitWel and WELL) are likely to become more of a market standard than an added feature,” BlackRock’s paper said. “There will also be a need to implement a capital spending plan to attract desirable future tenants, which would be where value-add capital can play a role.”

For example, buildings with better ventilation systems and lighting are attracting more tenants. A study published in September by the Harvard T.H. Chan School of Medicine showed ventilation had a significant impact on cognitive test performance.

“This isn’t about feel-good green certifications,” Loomis said. “There’s increasing research showing people in healthy buildings are more productive. It’s about employees getting sick less often and having a clearer head while they’re working.”