From jaded office to residential gem: What’s the secret to successful adaptive reuse?

The story is the same around the world. As white-collar workers shift from the five-day-a-week commute to a hybrid of work-from-home and office-hopping, demand for commercial office space is shrinking.

In Australia, office vacancy in January 2023 reached 13.3%, edging up from 12.9% the previous six months to hit its highest level since the mid-1990s. Vacancy rates across all CBD markets, according to the Property Council of Australia’s office market report, was 12.5%, compared with 15.1% for non-CBDs. Only two CBD markets – Hobart and Canberra – recorded vacancy below 10%.

Office vacancy rates tell us about corporate demand for office space. But office occupancy tells us how many people were sitting at their desks on any given day. The most recent Property Council Office Occupancy Survey was conducted back in November 2022. Perth offices were at 80% of pre-pandemic levels, Adelaide at 74%, Brisbane at 67%, Sydney at 59%, Melbourne at 57% and Canberra at 52%. These statistics translate into a lot of empty desks. Owners and investors are looking at the problem from multiple angles. Take Investa – which owns around $16 billion of high-quality assets under management – and developer Built, which have formed a $400 million partnership to upgrade old offices. This brown-to-green venture aims to attract tenants on the hunt for premium quality office space with high-rating sustainability credentials.

Another increasingly popular suggestion among property pundits is to redevelop poorly performing office stock into residential or multi-family assets. The rationale is clear, says Niall McSweeney, Altus Group’s President Cost & Project Management, Asia Pacific. “Vacant B and C grade stock is unlikely to attract high quality, long lease tenants without a substantial upgrade and uplift. In this context, the big question becomes obvious: Is an office still the highest and best use?”

Stateside shakeup: Lessons from a global leader

The United States has arguably the world’s most sophisticated office market, making it an instructive comparison for Australia.

Towards the end of 2022, 16.83% of US office space was vacant, according to Altus Group data. This was up from 12.77% at the end of 2019. There are signs that this increase in vacancy is just the start of a slow and steady decline as long-term leases wind up later this decade, and tenants opt for less space, shorter-term leases or jump ship to brand new space.

The average in-office workweek in the US has shrunk dramatically from pre-pandemic levels too. Kastle Systems, which tracks office utilisation through office security key card use in major US metro markets, puts the average at just over 50% as of March 2023, compared to the pre-pandemic levels. That is healthier than two years ago, when the average hovered between 20% and 30%. But, as we’ve seen in Australia, that means a sea of empty desks in offices around the country.

The long-term impact of hybrid working on the office market is still anyone’s educated guess. Most studies agree that there is a supply-demand mismatch and that a significant portion of office space may become obsolete in the coming years. One recent analysis by Cushman & Wakefield estimated a surplus of nearly 31 million square meters – a massive 330 million square feet – of office space across the US by the end of the decade.

In addition to the magnitude of the change, the speed and timing of this transition remains unknown. At year-end 2022, Altus Group data showed that nearly 25% of all in-place office leases in the US were set to expire over the next 36 months. How much of this space will be renewed, re-leased or refurbished is unclear.

What we do know is that major corporates are putting their own office developments on hold. Amazon halted construction of its second headquarters in Virginia in March 2023, for instance, while Microsoft has pressed indefinite pause on a large campus in Georgia the previous month.

Old office or residential oasis?

Some of today’s obsolete office buildings will find a higher and better use without being torn down – and developers are already at work.

In New York, some of the floors of the historic McGraw-Hill Building are being converted from offices to apartments in a US$100 million upgrade. In Los Angeles, work is underway to convert a low-rise office building on Wilshire Boulevard into a mixed-used marvel with a large residential component. In Atlanta, a 1898 office tower in one of the city’s “most talked about neighbourhoods” has been sold to a company with plans for a residential redevelopment.

Governments are also responding to the growing housing shortage. In New York, the Office Adaptive Reuse Task Force is investigating changes to regulations to permit the conversion of office buildings constructed before 1990 which could support the delivery of new homes for 40,000 New Yorkers over the next 10 years. In California, where at least 2.5 million new units are needed by the end of the decade to meet demand, a new housing act passed in 2022 allows underused commercial sites to be rezoned.

Conversions can be financially feasible depending on the market, building type and use, but Niall offers a word of caution. “Converting an old office building is often easier said than done. Contemporary expectations around ceiling heights and large floorplates, for instance, can make it hard for the numbers to stack up.”

Rethinking a residential revival

Cost is often a major obstacle, especially when compared with razing a structure and starting anew. Location, building form, floor-plate size, the size and location of a building’s core, as well as other aspects of the physical structure, are also in play. There’s planning permission, local zoning and code compliance to navigate, which can impose insurmountable barriers to redevelopment, especially when there is pushback against conversion from community groups.

Analysis by architectural firm Gensler in 2022 of 300-plus offices across North America found just 30% were suitable for conversion. Although, importantly, Gensler also found “the features that result in an unpleasant office make for a superlative multi-family product”. The message here is clear: conversions can be complex and costly, and should always begin with expert advice and a detailed feasibility study.

Research undertaken in 2023 by the National Multi-family Housing Council in collaboration with the Urban Land Institute confirms “there’s no one-size-fits-all approach,” Niall adds. As one developer of a late 1960s building noted in the report: “Converting a building is so much more complex than just a change in use... floor plate, column grid, floor-to-floor height, window systems, HVAC [heating, ventilation, and air conditioning], sewer outfall, and so much more needs to be studied. You don’t really know what you’re getting into until you take off the façade, walls, bring it down to the concrete.”

Then there are the costs of planning fees and charges, meeting safety and disability codes, the removal of asbestos and other harmful materials, and the conundrum of providing extra residential car parking, Niall adds.

“Ultimately, the livability of the final product will have a big impact on feasibility. Office buildings typically have large and open floor plates but people don’t like living in long, thin apartments with limited access to fresh air and natural light. They don’t like windowless bedrooms either, and this is what office conversions can sometimes serve up. This is why some of the smaller floorplates are suitable. ”

Niall suggests the example of the UK is instructive. Since 2013 the UK government has been expanding definitions of permitted development to incorporate the conversion of a range of commercial buildings – including offices – to residential use. “This has, in some cases, meant large numbers of apartments squeezed into each scheme with significant health and wellbeing consequences for future generations of residents.”

Adaptation and the carbon advantage

Successful property development always balances risks and returns. To achieve the maximum potential and best possible return – the highest and best use – of any development, a feasibility study is the best place to start.

But Niall suggests another source of value is lying hidden in our ageing assets: embodied carbon. As much as 80% of a building’s total carbon footprint comes from the materials used during construction. This includes the carbon generated as raw materials are grown, extracted and transported, as building products are manufactured on the factory floor and then shipped around the world, and as materials are transported and installed onsite.

The Green Building Council of Australia estimates that embodied carbon will be responsible for 85% of Australia’s built environment emissions in 2050. “As we address embodied carbon in construction, regulation and standards will evolve and carbon content will influence asset valuations,” Niall says. “Building owners will become far more focused on solutions that optimise existing buildings and the materials already locked in. When this occurs, we’ll have a solid business case for repurposing rather than razing old office stock.” Then many of our jaded offices can sparkle once more.