When the pandemic hit, commercial real estate owners around the country watched, worried and weighed their options as their buildings emptied out and interest in new leases disappeared.
By summer 2020, building owners were reaching out to brokers to discuss possibilities such as converting their struggling buildings to more lucrative uses such as life sciences and multifamily buildings.
But in the Triangle, expectations for a future office rebound — plus plenty of land for ground-up development — have local builders and property owners confident that redevelopment projects may not be necessary on a large scale.
“In this market, we started to hear rumblings of office conversion to lab, but it really hasn’t taken hold yet,” Newmark Director Doug Brock said.
In fact, office construction has never been any hotter in the Triangle than it is now. Kane Realty has begun a major project in the North Hills Main District, and The Fallon Company is closing in on finishing the 301 Hillsborough tower. Other major mixed-use projects such as Raleigh Iron Works, Midtown Exchange and East End Market are well underway.
But developers around the region have taken note of the burgeoning new sectors, with some looking to capitalize on the potential of turning traditional office properties into apartments, condos, and lab and advanced manufacturing space – from suburban office parks to downtown urban office towers.
And as Americans grow more accustomed to working from home, the future of office space needs is still unclear.
Even in the fast-growing Triangle, office vacancy rates are rising. As of last quarter, Triangle office vacancy rates hit 12.4 percent, according to a recent report by CBRE-Raleigh. That’s up from around 10 percent at the start of 2021.
Meanwhile, investors across the country pulled back on office projects and began funneling billions into two booming sectors: life sciences and multifamily.
Both sectors took off by summer, with demand exploding across the country and in the Triangle, and office owners took note.
All the while, uncertainty continues to loom over what the world of office will look like post pandemic – whether office tenants will come back or simply save money by having workers stay at home.
Still, projects like these aren’t without risks, and not every office property has what it takes to feature new uses.
Among the earliest firms to see life sciences potential in Triangle office stock was Boston developer Longfellow Real Estate Partners.
The company splashed down in the region a decade ago and has since developed a number of high-profile life sciences projects, including ground-up projects and some massive conversions.
“I would definitely classify us as an early mover on the conversion space, whether it’s 1-story or multistory — we’ve done both with the ability to convert,” said Jessica Brock, partner at Longfellow.
The company got its start in the conversion space in the 1990s in Cambridge, Massachusetts, and expanded it to other markets.
“When I started at Longfellow (lab conversion) was relatively new in the market and the real estate community, it was a little new to it and sort of like, ‘You’re going to do what? You’re going to invest that much money, and you think you’re going to get those rates?’” Brock said. “But what we’ve found in the private sector and with academic institutions like Duke is you have a lot of people who’ve experienced San Francisco or experienced a full service lab and had an operator that has done it before.”
In recent years, the company’s office to life sciences projects included a number of suburban office parks in and around Research Triangle Park.
And last year, the pandemic sent demand for life sciences space into overdrive as developers looked for a product that isn’t threatened by remote working.
“Lab space can’t be done from your house or your kitchen,” Brock said, “as far as space that will continue to need to be bricks and mortar.”
The once obscure sector was already rising to prominence before the pandemic but exploded once 2020 was underway.
Cushman & Wakefield Managing Director Dan Hackett said the spike in demand for life sciences space comes amid rapid growth in the industry as well as a surge in capital in the space.
“Over the last 10 or so years the number of people in this industry has increased immensely,” he said.
And venture capital, Hackett said, “is really driving this market.”
In the first quarter of this year, venture capital awarded a record $10 billion to life sciences companies around the county, according to a recent study by CBRE, with $469 million of that sent to the Triangle. That puts the Triangle just behind Chicago at $492 million and ahead of Los Angeles and Denver-Boulder.
All this has developers scrambling to meet space demands. According to CBRE, the Triangle has 380,000 square feet of life sciences space currently under construction, which is still short of demand.
With the flood of demand for new space expected to continue, a growing number of office owners and developers have joined Longfellow in repositioning properties in the Triangle to meet it.
“Speed to market is definitely very important in these life sciences hubs,” said Liz Berthelette, Newmark’s Boston research director. “Everything purpose-built now is preleased. If you’re a tenant and need to double size in six months what are your options? Conversions are meeting that need.”
Last year, Longfellow announced plans to convert 100,000 square feet of office across several floors at the 300 Morris St. building in downtown Durham after buying the tower that year. The space once hosted WeWork.
And in RTP, one of the largest conversions is Charlotte developer Trinity Capital’s redevelopment of the Point Park complex. The complex was once home to the Nortel Networks campus before falling into vacancy when Nortel’s lease expired in 2016.
In 2019, Trinity Capital announced a $120 million project to redevelop the office park into a new life sciences and creative office hub. Altogether, Park Point will feature 650,000 square feet of space focused on the needs of life sciences and creative office tenants.
Trinity Capital Partner Jeff Sheehan said when the company landed on the idea, there weren’t many like it of this scale.
“We were looking around the country and we said, ‘We know this is the biggest around here but who’s done this?’ The biggest we found was the old L.A. Times headquarters and printing press in Los Angeles. And that was 400,00 feet,” Sheehan said. “So that was one of the storylines from the start – just the scale.”
The property already landed tenants with Grail and Charles River Laboratories.“Our business plan at acquisition, and this was pre-Covid, was a blend of creative office, technology office and life sciences,” Sheehan said. “And we didn’t know quite how fortunate that decision to focus on life sciences from the start was going to be.”
Limited options for multifamily units
Office conversions are much fewer on the multifamily side, even as demand for housing accelerates.
By last summer, the country was months into the pandemic and housing-market experts speculated on the potential for converting vacated office towers into housing.
Across the country, the shortage of housing has driven rents and home prices up for years. This is especially true in fast-growing markets such as the Triangle, where affordable housing is a perpetual problem as rental rates explode.
Rents in the Triangle reached an average $1,295 a month in July, according to Apartmentdata.com. Meanwhile, residential properties continue to fetch higher prices as investors flood the market. A recent study by Avison Young found that the average price per apartment unit in the Triangle reached $183,537 last quarter. That’s up from $167,735 in Q1 of last year and $149,169 the year before that.
But unlike life sciences, multifamily appears to have attracted few office owners interested in going residential.
Of the few in Raleigh history, the 2014 redevelopment of 1300 St. Mary’s from office to condos is one success story that also sheds light on why office owners may be reluctant to tackle a residential conversion.
Built in the 1960s, the 5-story building featured 46,860 square feet of office space at the corner of St. Mary’s Street and Wade Avenue.
In 2014, White Oak Properties founder Roland Gammon, who had converted the Cotton Mill in Raleigh into upscale condos, saw an opportunity for a change.
“It was sort of a tired, maybe Class B or C building on a Class A site,” he said. “I had always liked that site and was interested in it, but it’s difficult to buy a building with some tenants and some empty, but they were willing to sell it empty.”
As luck would have it, the building emptied out completely, giving Gammon his chance to move ahead with the redevelopment. He converted all five floors of office space into 39 condos and quickly sold out.
“We didn’t try to save anything. We stripped it back to the structure. That was a good decision,” he said. “We knew from the start it needed all new heating and air, all new sprinklers and all new electrical in the building. We basically had a lot and a structure in place.”
Gammon said the project was unique in a few ways that warranted an unorthodox approach and made the redevelopment work.
First, the land is a prime location. And he said demolishing the concrete structure to make way for a ground-up project would have been too expensive.
And while the development was a success, Gammon said it’ll be a tough one to replicate.
“I would love to do another similar to this,” he said. “I’m not sure I could name a building in Raleigh that would be well-suited.”
For owners interested in converting their traditional office properties into life sciences or residential, there are a number of things to keep in mind before moving ahead.
Earlier this year, Cushman & Wakefield released a report listing what buildings would need.
Among the top of the list is floor height.
When it comes to life sciences, 13 feet is considered at the low end of workable, though some experts advocate between 14 and 16 feet to fit the mechanical systems that lab space requires.
Next, a building needs proper HVAC and plumbing – or a design path to making that happen.
This can get more complex if the building has multiple stories.
“If you’ve got a 1-story building, you can just put the HVAC right on top. … In multistory, it’s much more complex,” Longfellow’s Brock said. “You have air ducts going through the entire building.”
Additionally, the building must have structural requirements needed to handle that added load, including the ability to support any additional HVAC or other systems.
Lastly, the property must have the correct zoning or at least have the potential for zoning to be changed.
On the multifamily side, developers typically seek a structure that’s amenable to redevelopment and has inherent character that will attract residents.
“If you’re going to take the risk and effort to convert a building, you want it to have a story,” said Steve McClure, CEO of the Spectrum Companies. “If you take an older building with a great facade or feel to it, it’s easier to turn it into something that’s exciting. If you take a general office building built in the ‘80s or ‘90s, to turn that into something special it’s just harder.”
Traditional office buildings are typically built out of steel and concrete, materials that are considered more high-end in multifamily construction which typically makes use of lumber. And when it comes to floor height, traditional office buildings often feature heights that are too low to accommodate the needs of life sciences space but are often much taller than typical residential floor heights, potentially upping the cost per unit.
Even with all the structural concerns out of the way, there are a number of obstacles and incentives that developers face when considering an office conversion.
In addition to steep up-front costs, leasing to life sciences companies can be challenging. Budding lab tenants are often more akin to fledgling startups, which may be riskier tenants compared to companies in need of traditional office tenants.
And while developers around the region continue to struggle with a shortage of land relative to the market historically, the Triangle still has a lot of room to grow compared to more mature office markets such as Boston and New York.
For developers in the Triangle, it may be easier to build from scratch.
Brock of Newmark said, “If you have a 5-story office, there’s not a real driver to convert that, especially if you have 10 acres next door where if you wanted to get into the life sciences, you could develop a building.”
The real advantage to conversions, he said, is speed to market.
One final reason office owners may be hesitant about chasing a major renovation to their properties is the widespread belief that an office rebound in the Triangle is just months away.
Several large companies from around the country have announced plans for new hubs in the Triangle with space needs for thousands of new employees, including Google, Apple and Fujifilm Diosynth.
“I think the adaptation of product type to look at life sciences is definitely what the market demands are,” said Chad Parker, managing director at Gensler. “And at the same time, office demands are going to stay steady.”
And companies in and around the Triangle continue to invest in current and future office properties in the Triangle.
Partner Chris Carlino with Dominion Realty Partners said he expects the Triangle will soon feel the need for additional office space, rather than less.
“We believe that with the number of new job announcements and the influx of people moving here, that the Triangle office market will witness a comeback, but it just might take a little time,” he said. “We, as a market, should be careful about being too quick to re-purpose our vacant office space.
“In chamber pursuits for new business, if we want to be able to win a big corporate relocation, we will need to be able to quickly provide office space for those users.”
Publication: Triangle Business Journal