A Nuanced Approach to Office Underwriting

Few companies will slash their office footprints. Or what’s needed maybe is a complete reconsideration of workplace strategy. Then again, short-term leases might tank office valuations, affecting investors and future deals.

At this point, there is enormous speculation about the future of the office and lenders looking for certainty. But forget oracles. Instead, look to basic principles and watch what is happening, suggest some experts.

“In Philadelphia, we are seeing companies returning to work in various formats,” Pamela Peters Arms, a senior vice president of commercial real estate lending at WSFS Bank, tells GlobeSt.com. “Some are opting for hybrid models, while others are returning to work full-time in person, and others are adopting a more flexible touch-down space model. Due to the variety of ways companies are choosing to work, their needs are also changing, with some companies needing additional space and others perhaps needing less.”

Put differently, when it comes to office space, there will be no one size that fits all projects, developers, and investors. But there will be projects.

“All will normalize over time,” Tony Arellano, managing partner of DWNTWN Realty Advisors in Miami, tells GlobeSt.com. “Investors acquiring office assets now and developers embarking on new office projects are betting on that eventual normalization, with the underwriting and financing of these investments and developments based on that long-term belief.”

“We have been underwriting office conservatively with the requirement that there be pre-leasing in place that covers amortizing debt service at least [one time] on construction projects,” Peters Arms says. “Within our existing portfolio we are closely monitoring upcoming rollover, having active discussions with our borrowers about payment timeliness and concessions being given to retain existing tenants.”

Those are financially driven underwriting requirements. Lisa Knee, co-leader of EisnerAmper’s national real estate practice, points to business basics that investors and underwriters alike will consider.

“They’re going to look at the space in buildings and say, ‘Is this a good place to run a business? Are employees going to want to come? What about health considerations?’” Knee says. There will be winners and losers in the office space market. What will make success possible is delivering what the workers of tenants want, which will likely include cleaner air in buildings, attractive interiors and exteriors, lower environmental impact of offices, and opportunities for entertainment after work. 

The target here is not older workers but younger ones that will eventually be the bulk of employees. “They’re not just looking at their companies, but the places their companies do business with.”

As for investors, “it has been coming up and people have been walking away from deals … if they feel the building is not going to be sustainable,” Knee says. That is, sustainable in the sense of providing the amenities and environmental, social, and corporate governance aspects to keep the interest of the people who would work there. She expects underwriters to “look at the leases and the leases are going to speak for themselves: the duration, the quality of the tenants.”