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Commercial Real Estate Navigating Pandemic’s Choppy Path

With thousands of Wisconsin business employees successfully working remotely during the coronavirus pandemic, companies are reevaluating how much office space they’ll need in the future. 

That may lead to smaller offices for some companies. For others, it could mean taking unoccupied square footage and adapting it to spread out employees as they come back amid a continued – but hopefully lessened – threat of COVID-19. For companies looking to consolidate office space as a cost-cutting move while the economy rekindles, it might mean adaptations such as two unaffiliated firms in a big office building sharing common areas that aren’t always in use, like meeting rooms. 

As with many industries disrupted by the pandemic, the commercial real estate industry is in the process of trying to figure what the market will look like in 2021 and beyond. 

“I believe that it’s going to be right-sized,” said Tracy Johnson, president and chief executive officer of the Commercial Association of Realtors-Wisconsin. “For some it’s going to be bigger. For some it’s going to be smaller.” 

When the pandemic struck in March, commercial real estate activity – particularly office and retail – took a huge hit. Lockdowns and concern over spreading and catching the novel coronavirus that causes COVID-19 kept employees and consumers at home. 

While businesses deemed “essential” (such as food providers and medical facilities) never shut down, many non-essential retail companies that relied heavily on foot traffic couldn’t make it. 

Now that the virus and its treatment are better understood – and with a vaccine on the way – real estate brokers and landlords are hoping for a recovery in 2021. Johnson said it might take a few more quarters, however, to begin seeing how it will shake out. 

From the beginning of the pandemic, some companies have wondered whether they suddenly might have too much real estate. 

“A lot of business are saying they’re looking to cut expenses in the future, and real estate is the second biggest piece of that,” Johnson said. “So I think it’s going to come in the form of headcount and possibly right-sizing real estate. But there are a lot of things going on.” 

For example, in the second and third quarters of 2020, landlords worked with tenants to renegotiate leases, sometimes for shorter terms, so businesses could try to determine what their real estate needs would be going forward. 

“I think that creates opportunity, though, in Q2 and Q3, to come back to the table and really be that strategic adviser for the company,” Johnson said. “It strengthened the relationships with the landlord and the building owners to say, ‘How are we going to work through this together?’” 

In metro Milwaukee, the state’s biggest commercial real estate market, the vacancy rate at the end of September was 15.1%, according to a report by the Commercial Association of Realtors-Wisconsin. That's up from 14.6% on June 30.  Among vacancy rates, Western downtown Milwaukee’s Class A office space rate stood out 42.2%. 

Madison’s office vacancy rate was about 9%, Johnson said. 

Joe Fazio, CEO of Commerce State Bank, said the pandemic may cause businesses to reconsider whether having a big office in a large metro area is as desirable as it had been. He said the word that best describes the situation is “uncertain.” 

“I think it leaves some question as it relates to commercial office space and large residential apartment towers,” he said.  

Still, a number of commercial real estate projects in downtown Milwaukee that were under way have advanced even during the pandemic. 

When it comes to retail space, the issues are more short-term, Fazio said. 

“You say, ‘How many shopping centers, how many small business centers, how many strip malls are going to be vacant?’ That probably concerns us a little more, and we want to be very selective on that,” Fazio said. “The pandemic has accelerated the whole online shopping experience. I don’t know that that comes back as robust.” 

Nick Egelanian, a Maryland-based retail industry consultant who runs SiteWorks Retail Real Estate Services, recently told the Commercial Association of Realtors-Wisconsin and the Milwaukee Journal Sentinel that changes in the way people shop might eventually leave Wauwatosa’s Mayfair Mall as the only traditional retail regional shopping center in the metro Milwaukee area. 

The good news for malls is that they typically are located in easy-access areas where other types of businesses can re-purpose or redevelop. 

Commercial real estate broker Kevin Schmoldt’s specialty is commercial real estate, and he contends the situation isn’t as gloomy as often portrayed or perceived. 

Schmoldt, managing director of the Milwaukee office of the firm Newmark Knight Frank, said there was “a pause” in business in March through early June in the number of new deals. 

“Landlords were primarily focused on just protecting existing tenants and those relationships and working with those tenants to help get them through,” Schmoldt said. “There really wasn’t a lot of proactive efforts to fill vacancies, just because there wasn’t an audience for it. Nothing was happening.” 

But later in June and in July, as people became more comfortable with safe practices for the pandemic and had a better sense of whether their business could handle the challenges, leasing and renewals picked up again, he said. 

“I would say June-July is really when we sort of started to get back into the proactive gears – renewing tenants, signing new leases, things of that nature,” he said. “And with each month since I would say it’s become busier and busier.”  

He added: “As we sit here in December, it’s certainly not back to what it was a year ago today. But we’re very busy.” 

Schmoldt said the stressors of the pandemic are driving some operations out of business. The category closing most often is restaurants. That’s no surprise, but what might be surprising is that the category of business most often wanting to move into vacant space also is restaurants, he said. 

“Maybe it’s like an executive chef or someone who’s been managing a restaurant who maybe lost their job because the restaurant they worked for closed, but they are good at what they do and they are taking the opportunity,” Schmoldt said. 

Such incoming restaurateurs often are seeking “second generation” space, “meaning it already has a hood and a cooler and all the things a restaurant looks for,” he said.  

“And they are going to open their own restaurant at very little cost to themselves because someone else already built it out for them,” Schmoldt said. 

The industry also is seeing more medical-related business – optical, dental, orthodontic, chiropractic – and service companies moving into neighborhood and strip center retail space that has opened up, he said. 

“We’re getting a ton of interest from these specialty medical groups.  I think a big part of the reason is that from a safety standpoint, if you had the choice to, say, visit your dentist where you had to go into an office building and traverse a corridor or use an elevator – or if you have the opportunity to pull up to retail center and park right in front of the store and walk through a single door and you’re inside the space – I think the choice is pretty clear as a consumer what you’d rather do,” Schmoldt said. 

The market for apartments remains hot, in large part because there is a shortage of affordable single-family homes and condos in many markets, Johnson said. In this tough time for the travel industry, hotel projects could consider converting to apartments, she said. 

Wisconsin, while taking its lumps during the pandemic, hasn’t seen its commercial real estate market suffer some of the gut punches of bigger communities. The New York Times reported last week that the pandemic is hammering the New York city’s commercial real estate industry so hard it threatens the future of its business districts and municipal finances. 

The Times wrote that damage caused by having fewer workers in office towers and the closure of many stores is worse than many experts had predicted. One possible solution: converting more than a million square feet of Manhattan office space into housing. 

While some retail space in Wisconsin is being redeveloped to include housing – and more probably will be – the situation doesn’t seem as dire here. 

“As a conservative market, there was never too much retail built in our state,” Schmoldt said. 

Schmoldt said he has been particularly impressed by small-business owners who have met challenges and adapted during the pandemic and the economic hardships it has caused. That hard work and resilience should pay off. 

“For the tenants that do survive, I’m just super optimistic on what they’re going to find at the end of ‘21 and into ‘22 when we’re really back and healthy as a country, as a society,” Schmoldt said. “Because if they can keep working and reap rewards of what they’ve done, it’s going to be incredible.” 

Paul Gores is a journalist who covered business news for the Milwaukee Journal Sentinel for 20 years. Have a story idea? Contact him at paul.gores57@gmail.com.  

By, Alex Paniagua