Are U.S. cities facing a doom loop? Office markets in urban cores around the U.S. have been more deeply impacted by the post-pandemic hybrid working environment than their global peers. In fact, in Q3 2024, while U.S. office vacancy reached a record high of 20.9%, vacancy was even higher in Central Business Districts (23.7%). How does this impact cities, their economies and public finances?
In “Reimagining Cities: Disrupting the Urban Doom Loop,” Cushman & Wakefield and Places Platform, LLC explored these questions, finding that yes, many U.S. cities – especially downtowns – are facing what appears to be an episodic doom loop. There are early signs of reversal, however, and good policy and quick private sector action can ensure cities do not become entrenched over the long term.
The last four years have been difficult for the real estate market – cities and WalkUPs (walkable urban places) have not been immune to these challenges. Between 2019 and 2023 total real estate price per square foot values declined in over three-fifths of WalkUPs. When excluding for-sale housing, which has been an outperformer over the past four years, commercial real estate price per square foot values declined in nearly three-quarters of WalkUPs.
Local impact
Closer to home, Downtown Los Angeles Class A office buildings of over 100,000 square feet sold for an average of around $450 per square foot before the pandemic (2017-2019). Fast forward to 2023 and 2024 and these larger, high-end buildings have sold for closer to an average of $130 per square foot, a sharp decline. Notably, no Class A buildings of over 100,000 square feet traded in DTLA in 2021 or 2022.
WalkUPs face a significant challenge as they have violated portfolio theory in their real estate inventory allocation. Currently, their square footage inventory distribution across the 15 cities studies stands at 34% in “Live” (rental and for-sale housing), 52% in “Work” (office, industrial, owner-occupied space, GSA, university), and 14% in “Play” (hotel, retail, museums, theaters, convention, professional sports). Downtowns are even more office-centric with 70% of real estate square footage dedicated to Work. DTLA is slightly better, but still heavy on office with 60% of square footage dedicated to Work. Too many eggs are in the office basket.
What is the optimal portfolio allocation? According to the study’s optimization algorithm that simultaneously maximized both GDP and real estate/property tax values, the average WalkUP should have approximately 32% “Live,” 42% “Work” and 26% “Play.” These shares are on average, with margins of error that allow for variation and complementarity across WalkUPs.
Conversions coming?
Office-to-residential conversion will be one way forward for cities, but the role of the experience economy should not be underestimated. Visitors account for nearly 70% of foot traffic in WalkUPs—more than twice the volume of foot traffic from residents and workers combined.
Cities generally need more “Play” real estate to attract visitors. Increasing the livability, accessibility and attractiveness of WalkUPs not only draws in visitors and tourists, but also benefits residents and workers. Major experiential anchors – such as sports stadiums, concert halls, theatres, museums – account for only 1% of all real estate inventory in WalkUPs but they attract 25% of all visitor foot traffic. Having a focus on Play as cities shift from knowledge production centers toward more livable, consumption and experiential centers is paramount.
Looking more closely at DTLA, it has proven to be challenging for developers to consider office-to-residential conversions for larger buildings (high rises and towers) because current pricing of the asset and construction often makes conversions unviable. That said, DTLA’s new rezoning plan, known as DTLA 2040, should encourage more residential development in a timely manner. The Mayor of Los Angeles has also introduced a new program called ED1, designed to expedite the processing, clearances, and approvals of 100% affordable housing projects (with five or more units) in Los Angeles, including in DTLA.
In a nutshell, DTLA’s doom loop has been driven by a lack of bodies and foot traffic in the city’s central business district. And while the larger office towers/high rises remain difficult, even unlikely, to consider for alternative uses, the property lots between these bigger buildings could be ideal targets. For myriad reasons, the smaller properties are far easier to transform into highest and best use, including housing or experiential Play space, that will help drive more life and energy back to the downtown core – ultimately helping accelerate regrowth of people into this critical urban area.
Make things easier
In order for cities to hasten the transition to a more optimal portfolio, they should make the “right thing” easier to do. This includes expediting permitting and revisiting zoning codes, if not adopting form-based codes entirely. Incentives also matter. Some cities (or states) may find that tax abatements and/or subsidies provide an accelerant to private sector-led redevelopment, especially for a more immediate pickup office-to-residential conversion. These options can be considered “carrots,” while a form of “stick” might be a land tax scheme. The longer city office vacancies remain elevated, obsolete land uses continue to fester and visitor recovery lags, the greater the risk of reduced property tax revenues, and thus to cities themselves.
Moving toward the optimal real estate portfolio has other benefits for cities, including more housing in a structurally underbuilt marketplace, more affordability (especially if policy incentivizes it) and fewer carbon emissions (from conversions but also from greater walkability for those who inhabit new Live product). Though the challenges are great, the opportunities for society in this transition are enormous and extend beyond the real estate sector itself.
As values in office assets in DTLA, and other markets, continue to decline and price discovery is realized, operating expenses (OpEx) in these assets are also being reduced dramatically for property owners. OpEx is declining due to lower property tax burden, which is primarily determined by recent sale value. This dynamic will allow owners to obtain more cash/capital to reinvest into their buildings, whereby creating a more upscale, enjoyable, and healthier workplace for tenants and employees. This scenario fits right into the ongoing “flight to quality” trend as companies look, and in some cases need, to attract their employees back to the office, in combination with employee retention.
Another impact being felt post-pandemic is that pricing in the DTLA urban center has become so attractive at this point that we are seeing a more intensified trend by owner occupiers that are exploring acquiring their own commercial real estate. Companies now have a very special opportunity to take advantage of the attractive once-in-decade pricing and what many consider to be “steals in the market.” This is especially the case for more mid-size occupiers in the 20,000 to 30,000 sf range, which can reactivate what were once vacant properties, adding to the synergy of the DTLA environment.
And finally, in looking a bit further ahead is the vast excitement and economic growth anticipated from Los Angeles hosting the 2028 Summer Olympic and Paralympic Games (deemed LA2028), a global event that will bring not only eyes but feet into the region – it has been reported that the size of Olympic crowds are equivalent to seven Super Bowls each day. From a real estate lens, this should obviously have a considerable impact on Southern California’s renowned retail industry, while there is also currently a ton of investor money earmarked for LA2028, particularly focusing on the hotel and hospitality sector.
Mike Condon Jr. is a vice chair at Cushman & Wakefield and works on everything from ground up development deals to value-add repositioning of existing assets and leasing. Kylie Rawn is part of the firm’s Capital Markets Group.
