Is It Time to Buy, Sell or Hold?

While no one has a crystal ball, there are some indications as to where the commercial real estate marketplace may be headed in 2023 and beyond.

The sales of New Jersey’s commercial real estate office buildings have hit an all-time low. As we approach the three-year
anniversary of the COVID-19 lock down, some sources believe that nearly half of office workers continue to balance working on and off site. Many have no intention of going back in-house to a five-day week, and with job opportunities being plentiful, employees are able to wield their power. Thus, employers look to reduce office space and rent, and while the future outcome is unclear, it is likely there will continue to be less demand for such space.

Warehouses and distribution centers, however, are in demand and there is a shortage of such space, as e-commerce continues to grow, even while some distributors such as Amazon and Walmart have scaled back somewhat. While this momentum has been fueled in part by the pandemic, consumers continue to want convenience, they have developed new buying habits, and this means smaller businesses have had to reassess and revise their old business models or be forced to close.

In addition to current economic issues, there is a glut of empty office buildings in New Jersey built as far back as the 1970s. “Overall sales are down, driven by higher interest rates, a wide lack of liquidity, and fewer lenders. Many buildings that have not been updated in decades were designed for a different laborforce so they are functionally obsolete,” comments Eugene Diaz, principal, Prism Capital Partners in Nutley. “Owners or buyers may consider upgrading in order to attract new tenants. However, that strategy may not be feasible due to cost, existing floor plate design, or – structurally – it may just be too difficult. The expense of renovation, adhering to environmental and sustainability regulations, and the uncertainty of return on investment, are likely to give investors pause,” Diaz says.

Zoning laws may also be an issue depending on the type of conversion that a municipality will permit, and investors may have to consider different options. In some communities, the trend to convert obsolete commercial properties into mixed-use, multi-family and retail use is growing, and has been a win-win solution for municipalities and its residents, such as Prism’s Edison Lofts in West Orange and Avenue & Green in Woodbridge.

“Municipalities are facing a great reckoning,” Diaz continues. “Office parks that were approved decades ago are now languishing, creating a detriment and an eyesore. With empty buildings, and more coming, and as corporate businesses right size – coupled with high vacancy rates and less rent money coming in – owners will look to appeal taxes and the tax burden will begin to shift on taxpayers. Thus, rezoning for alternate uses will be necessary in order to attract either current or new investors and to stimulate valorem tax growth.”

On the flip side, while the Garden State’s red-hot industrial market may be cooling down somewhat from 2022, demand continues to be strong, commanding low vacancy rates and high rents. Since COVID-19, the surge in online shopping has necessitated the growth of warehouse facilities for e-commerce leaders, regardless of the uptick in foot traffic to malls and in-person shopping.

“New Jersey is unique in its demand for warehouse facilities, due to its close proximity to the ports of Newark, Elizabeth and Bayonne,” comments Scott Perkins, SIOR, NAI James E. Hanson in Teterboro. “The accessibility to the transportation network of the New Jersey Turnpike, leading to interstate connections from north to south, have made it both attractive – and necessary for trucking deliveries.”

According to Perkins, industrial properties are also flourishing due to the close proximity to New York City, a place where commerce is dependent on deliveries from warehouses in New Jersey and beyond. There are limited industrial facilities both in Manhattan and the boroughs in which to store and distribute supplies, and it is critical that restaurants, grocery stores, hotels and retailers are able to receive deliveries regularly and on time, in order for business to flow.

“Municipalities have an opportunity to bring outdated office parks – that are no longer serving their original purposes – to new life by creating industrial campuses where the community and its residents can both share the benefit,” Perkins continues. “Industrial conversions are generally separated from existing neighborhoods and provide tax support; taking it off the shoulders of residents.”

The year 2021 was an anomaly, with a record number of sales of commercial real estate that came with available cheap financing, explains Jim McGuckin, New Jersey vice president and regional manager at Marcus & Millichap, in Saddle Brook. “However, since mid-2022, investors have become cautious, causing a drop off in sales prices by about 15%.”

“As some office buildings sit vacant, becoming rundown and obsolete, they either need to be renovated or torn down, which can be an opportunity for redevelopment if a municipality will allow it,” he continues. “Lenders have become more cautious. Many have tightened borrowing to 60% to 70% of loan to value, from roughly 70% to 80%; thus there is less available financing. Investors like certainty, and with the current climate being anything but certain, some are on the sidelines.”

McGuckin points out that while sales of office buildings are down, there are some pockets that continue to be stable, which he terms as “the tale of three cities.” Medical office/life sciences, traditional suburban office and strategic downtown office locations, such as in Red Bank, Montclair, Morristown and Summit, offer appealing amenities that workers can take advantage of, such as restaurants and retail stores.

“Patience is the watchword today, as inflation and higher interest rates appear to be staying around for a while,” McGuckin notes. “We are in a unique market because values, although down 15% year over year, are still up about 40% to 50% over the past 5 to 7 years. On the other hand, we may not have the same number of bidders per deal; thus, there is less competition for buyers to get in at a lower basis.”

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