Shorenstein Press Center

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GlobeSt.com

 

Many Creative Office Exits are at Core Plus Pricing

SAN FRANCISCO—The conversion of a property from industrial or retail use to creative office has become an increasingly popular value-add strategy for institutional investors or well-known owner/users.

By Lisa Brown

SAN FRANCISCO—A number of creative office projects have generated substantial returns for investors upon completion. Transwestern recently released a report examining the adaptive reuse developments in Boston, Chicago, Los Angeles, New York, Phoenix, San Francisco and Austin, TX. There are several examples of completed projects here, including 888 Brannan St.

Although they’ve received a lot of attention recently, creative office conversions are not new. Take for example, Chelsea Market in New York City or the Ferry Building in San Francisco, both delivered more than a decade ago with high-profile office components. What is new this cycle is the sheer volume of creative office exits nationally at core/core plus pricing with the buyers being major institutional investors or well-known owner/users, according to Michael Soto, director of research in Southern California and co-author of the report.

“The conversion of a property from industrial or retail use to creative office has become an increasingly popular value-add strategy for investors,” Soto said. “Two trends are fueling demand for this type of differentiated office product: One, technology, advertising, media and other companies trying to attract millennials are interested in the characteristic features of creative office space–open floor plans, natural lighting, common spaces, and amenities such as cafes and rec rooms. And two, tenants are returning to cities, where they can take advantage of live/work/play environments.”

Not all creative office properties adhere to a strict profile. Some are single-tenant buildings, some are multi-tenant campuses and some are mixed-use projects with major retail, residential or even hotel components. Usually the composition is determined by whatever mix of uses appeals to the developer financially.

No matter the mix, in many cases, the renovation/conversion of a major creative office project helps kick off increased property and business investment, and attract hundreds or thousands of high-paid workers to the area, says Transwestern. This is the case with Twitter in the Market Square/Tenderloin neighborhood at 1355 Market St. This project has completely revitalized the area, having a positive influence on adjacent properties as well.

Shorenstein Properties purchased the 1.1 million-square-foot former furniture mart in 2011 for $112 per square foot and invested $100 per square foot to repurpose the asset, according to Transwestern research. The project had large floor plates and unique space characteristics, which the developer targeted as key for creative office tenants in the market. Companies such as Twitter, UBER and more recently, Thumbtack and Nerdwallet, have taken significant space there, helping to stabilize the asset. The exit price of $859 per square foot to a core investment fund shows the continued viability in San Francisco for the value-add strategy of repurposing underutilized buildings to creative office space, says Transwestern.

“Following Twitter’s move and other technology giants following, the entire area experienced a revitalization,” Markus Shayeb, senior vice president at Transwestern, tells GlobeSt.com. “This is due to small tech tenants wanting to be close to their larger counterparts, as well as retail and residential developments that have improved the overall dynamics of the neighborhood.”

Based on favorable exit pricing of some major creative office projects around the country, this type of larger scale value-add strategy is now being considered by developers, either via direct investment or joint-venture partnerships with equity partners. Conversely, stabilized creative office properties are on the radar of many national and international institutional buyers that are paying traditional trophy class-A pricing for these types of properties, usually based on the credit-worthiness of the tenant, as well as the location of the project. The report cautions, however, that many of these projects were acquired and developed under very different economic conditions than exist today.

“Rising land, building and construction costs–especially in hot neighborhoods–may add more risk when compared to a few years ago, when we were at a different point in the real estate cycle,” said Sandy McDonald, director of research, Transwestern Chicago and co-author of the report. “In addition, adaptive reuse often comes with hidden costs and potentially expensive future property modifications.”

Moreover, the popularity of the creative office concept means that there is more inventory in the market today. Landlords that own existing office buildings or are doing ground-up development are considering strategic property enhancements and creative office-associated tenant amenities to stay competitive in the marketplace.

A visible project underway is Uptown Station at 1955 Broadway in the Oakland CBD. It was built in 1929 as a Sears department store with 370,000 square feet. The developers are UBER and Lane Partners. It is being renovated to creative office for UBER, which acquired the property for $123.5 million in September 2015 for its new corporate headquarters.