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A little clarity for your next decision.
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Investor WorkspaceA little clarity for your next decision.
By Jerry Baker
Office REITs own buildings that businesses and other organizations lease for work. Hybrid schedules can change how tenants use space, but investment results depend on the specific buildings, lease deadlines, costs, and financing. A useful review follows the cash needed to retain tenants and fill space rather than treating every office as the same investment.
Office real estate ranges from downtown towers to suburban campuses and smaller buildings. Nareit notes that office REITs can focus on different markets or tenant groups. A national office story may therefore say little about the properties a particular company owns. [1]
I want a map of the assets and their income. Which tenants provide the rent? What industries employ their workers? Which buildings need major work? How much of the portfolio is office space rather than labs, housing, retail, or development land?
Then I look at ownership. A REIT may hold full ownership of some properties and minority interests in others. Partners, lenders, or ground landlords can have rights that affect decisions and access to cash.
Buying shares makes you an investor in the company. It does not give you direct control over a tenant renewal, a building sale, or the timing of a renovation.
Remote and hybrid work can affect space choices, but the data need careful reading. A worker who spends one day at home is different from someone who never uses an office. A national employment survey is different from a building's access-card count.
The Bureau of Labor Statistics asks whether people teleworked or worked at home for pay during the survey reference week and how many hours they did so. Its monthly telework figures are national and not seasonally adjusted. They do not directly measure leased office square footage or a specific city's building use. [2]
Attendance data also have limits. Tuesday can be busy while Friday is quiet. A company may need enough meeting space for peak days even if average attendance falls. Another may reduce its footprint through shared desks or a different work schedule.
I would use these measures to ask better questions, not turn one percentage into a rent forecast. The bridge from work habits to a signed lease depends on each tenant's plans and options.
Office demand involves more than employee count. A business may want more meeting rooms, better technology, private rooms, or a different mix of locations. It may hire workers while reducing space, or keep the same workforce and seek a better building.
Suppose a hypothetical employer has 500 workers and currently leases 100,000 square feet. That is 200 square feet per worker, including shared areas. If it moves to 75,000 square feet with the same staff, its total demand falls 25% even though employment does not change.
Now assume it pays $50 per foot in the old building and $60 in the new one. Annual face rent falls from $5 million to $4.5 million. The new landlord earns a higher rate per foot, while the tenant spends less overall.
That example shows why higher asking rents and lower space demand can coexist. I would ask about the tenant's total cost, not simply whether its new rent per foot went up.
Property reports use occupancy terms in different ways. A lease may be signed before the tenant moves in. Accounting revenue can begin while cash rent is still reduced or deferred. Physical attendance is another measure entirely.
BXP's second-quarter 2026 report showed total portfolio occupancy of 88.4% and a leased percentage of 91.3%. It defined occupied space through leases for which GAAP revenue recognition had begun, while leased space also included signed leases for vacant space with future start dates. Those measures do not describe how many employees were at their desks. [3]
In an original building example, 90,000 of 100,000 square feet is under signed lease. Only 80,000 has begun its revenue term, and a portion still receives free rent. The property may be described as 90% leased while current cash reflects less space.
I would request a schedule linking each signed lease to delivery, possession, accounting commencement, and cash payment dates. Without that bridge, a rising leasing percentage can create false comfort about immediate income.
Existing contracts can delay the effect of a market change. A tenant may continue paying for space it no longer wants because its lease has not expired. At the next decision, it can seek less space, more concessions, or another building.
That makes the expiration schedule central. Identify major tenants, their notice dates, break rights, renewal options, and likely space needs. A long average remaining term can hide a large concentration of rent ending soon.
Consider a building earning $10 million of annual rent. If 30% expires next year, $3 million faces renewal or replacement. A 20% reduction on that portion reduces annual rent by $600,000 once fully effective, before any vacancy or leasing costs.
The remaining 70% can keep paying as agreed and still leave a meaningful decline. I would model the rent change, downtime, and cash required separately rather than apply one vague vacancy assumption.
Office tenants may ask for improvements, free months, expansion rights, or a changed layout. A landlord can announce a higher rent while committing substantial cash to secure it.
Vornado's second-quarter 2026 release separately disclosed starting rent, lease term, and tenant improvements plus leasing commissions. For its New York office leasing that quarter, those improvement and commission costs were $113.69 per square foot. The release also explained that its signed-leasing statistics did not coincide with GAAP rental commencement. This is one dated company example, not a standard cost for office space. [4]
I would ask for a complete lease cash schedule. A quoted rate should be accompanied by free rent, landlord work, broker fees, required repairs, expense recoveries, and the tenant's obligations at the end.
Two offers at the same face rent can have very different economics. Comparing only the headline number makes it easy to overlook the larger check the owner must write.
Assume an original five-year lease covers 20,000 square feet at $50 per foot annually, with no increases. The stated rent is $1 million per year, or $5 million over five years.
The owner grants one free year, funds $1.2 million of improvements, and pays $200,000 in commissions. Cash base rent totals $4 million. After those two upfront costs, $2.6 million remains before operating expenses, financing, taxes, and other costs.
Spread evenly over five years and 20,000 square feet, that is $26 per foot per year. It is a simple undiscounted comparison, not accounting straight-line rent or a full investment return. The upfront timing makes a discounted analysis important.
A different tenant offering $45 with fewer concessions could be more valuable. The right choice also depends on credit, length, flexibility, and future use. I would compare both offers using the same cash-flow method.
A tenant may offer space it no longer needs to another user, subject to its lease. That can add competition without a new building opening. A sublease may offer a shorter term or ready-built space at an appealing price.
From the owner's perspective, the original tenant may still owe rent. That can preserve current income while signaling a harder renewal ahead. The subtenant's payment and legal rights depend on the agreements, not a general rule that every sublease transfers all risk.
I would compare direct space with available sublease space in the same tenant market. Note remaining terms, furniture, layout, services, consent requirements, and the credit of both parties.
A company looking for a two-year solution may prefer a short sublease. A tenant planning a headquarters may need a longer commitment and more control. Those are different competitors, so a raw vacancy total needs context.
Labels such as Class A or premier can be helpful shorthand, but they do not prove performance. I want the specific features a target tenant values and the cost of delivering them.
Transit, parking, safety, reliable elevators, air systems, power, connectivity, meeting space, and nearby services can affect a tenant's choice. A costly amenity is useful only if it helps secure enough rent or retention to justify its cost.
Suppose a hypothetical upgrade costs $4 million and adds $300,000 of annual NOI once fully leased. That is a 7.5% simple yield on cost. If only half the expected rent benefit arrives, the yield is 3.75%, before financing and other costs.
Also ask whether the work merely prevents a decline. A necessary elevator replacement may protect existing tenants without generating extra rent. That can still be worthwhile, but it should not be described as new income.
An empty floor still sits inside a building that needs maintenance, security, insurance, taxes, and functioning systems. Some costs fall with use; others do not. Expense recovery depends on lease terms and the paying tenant base.
Assume a property has $8 million of annual rent and other operating revenue, with $4 million of operating expenses. NOI is $4 million. If revenue falls 15% to $6.8 million while expenses fall only 5% to $3.8 million, NOI falls to $3 million.
The income decline is 25%, larger than the revenue decline. This operating leverage is why I want a line-by-line budget. Assuming expenses fall at the same rate as rent can hide the pressure.
Check property-tax appeals and insurance quotes, but do not count hoped-for savings as completed reductions. The company needs cash while those requests are pending.
An office leasing plan may require money years before it produces steady income. Design, permits, construction, commissions, and free-rent periods can overlap with payments to lenders.
Consider a property with $2 million in cash reserves. It needs $1.2 million of tenant improvements, $300,000 of commissions, and $800,000 to cover operations and debt before new rent begins. The $2.3 million need exceeds the reserve by $300,000.
A profitable-looking long-term lease does not fill that immediate gap. Identify the committed funding source, its conditions, and what happens if opening is delayed. An unused credit line may have covenants or a maturity that limit its value.
I would also distinguish signed construction contracts from early estimates. Cost increases are easier to discuss before the reserve is exhausted than after work has started and the tenant expects delivery.
The OCC identifies refinancing and higher interest rates as commercial real estate risks. For office properties, the timing of a lease-up and a loan maturity can be especially important. A lender may value income that is already in place differently from a plan for future rent. [5]
Imagine a $40 million loan coming due against a building worth an estimated $60 million. If a new lender will provide 55% of that value, new proceeds are $33 million. The company needs another $7 million before refinancing fees or reserves.
If leasing requires $5 million at the same time, the combined need is $12 million. Those are separate uses of cash. A presentation that discusses refinancing and improvements on different pages can make the total less obvious.
Check extension conditions, interest reserves, recourse, guarantees, and cross-defaults. A loan described as nonrecourse may still contain exceptions or obligations that counsel should review. It is not a promise that the company can walk away without any consequence.
A building offered below its old purchase price or construction cost may be inexpensive, impaired, or both. The relevant question is what a buyer must spend now and what income can reasonably follow.
Using direct capitalization as a simple illustration, $4 million of NOI at a 6% cap rate implies about $66.67 million of value. If sustainable NOI falls to $3 million and the required cap rate rises to 8%, the implied value is $37.5 million. The method connects income and the required rate; an actual appraisal also needs property-specific analysis. [6]
Debt can make the equity change more severe. With $30 million of debt, illustrative equity falls from about $36.67 million to $7.5 million before selling costs. A share price well below an old value estimate may still reflect difficult economics.
I would update rent, vacancy, concessions, capital work, and debt assumptions before calling a discount a bargain. A stale net asset value is not a current exit price.
Housing demand does not make every office suitable for apartments. Floor depth, window access, structure, plumbing, ventilation, elevators, fire safety, zoning, and construction cost all need review. Existing tenants may also have rights that delay the project.
For a concrete legal example, New York City's conversion rules include light-and-air requirements and dwelling-unit width-to-depth provisions in Section 15-112. That is one part of a local rule set, not nationwide approval or proof that a particular building can convert. [7]
I would request plans from qualified professionals, a permitting analysis, a priced budget, and a funding schedule. Any tax incentive should be tied to actual eligibility and obligations rather than assumed as free money.
Separate the office hold case from the conversion case. If conversion fails to receive approval, can the owner keep operating? If approval arrives but financing does not, who pays the carrying costs? Optionality has value only when it can be used on workable terms.
Suppose an original conversion budget includes a $25 million purchase, $35 million of construction, and $10 million for design, financing, carrying costs, and reserves. Total planned cost is $70 million.
If the finished property's estimated value is $80 million, the projected margin is $10 million before any costs omitted from the budget. A 15% increase in the $35 million construction line adds $5.25 million, cutting that margin to $4.75 million.
Now consider a delay that requires another $3 million of carrying costs. The remaining margin is $1.75 million. This simple example does not include a lower final value or extra equity costs. It shows why conversion should be underwritten as a development project, not a guaranteed fallback.
I would ask what expenses are fixed, which remain estimates, and how the budget handles delays. A drawing of attractive apartments does not answer those questions.
FFO adjusts net income for specified real estate accounting items. It can help compare performance, but it does not equal cash available after every lease allowance, commission, repair, or debt payment. Review its reconciliation together with the cash-flow statement. [8]
For an office REIT, I would pay particular attention to capitalized leasing costs and redevelopment. Ask which outlays are recurring, which are excluded from adjusted metrics, and which are needed simply to keep income from falling.
Look at per-share results too. Selling properties can raise cash while reducing future income. Issuing shares can fund work while spreading the outcome across more investors. Both may be sensible, but the tradeoffs should be visible.
A dividend should be tested against those choices. A high quoted yield can reflect a low share price, and the payment can change. Office income is not guaranteed because a company has a long history.
Listed REIT shares can be sold in the market, but the available price may be well below your cost. Nontraded and private REITs may limit redemptions or offer no ready market. Read the actual liquidity rules, valuation process, and fees. [9]
Ordinary REIT shares do not qualify as direct 1031 replacement real property. The company's ownership of office buildings does not change that rule. A separate structure requires its own tax analysis before you rely on it for an exchange. [10]
I would want a portfolio case that remains understandable without assuming a nationwide return to old work patterns. The building must serve real tenants, the budget must cover the work, and the balance sheet must give the plan time to succeed.
No single outcome follows from hybrid work. Tenants, locations, buildings, lease terms, and financing differ. Some companies may shrink space while moving to a better building. Review the actual rent roll and cash requirements rather than making one prediction for the whole sector.
No. A REIT may define occupancy using signed leases and accounting commencement. Attendance measures people using the space. The building can earn rent while desks are empty, although low use may affect the tenant's next leasing decision.
Free rent, improvement allowances, commissions, and downtime can absorb the increase. Compare the full cash schedule over the lease term. Face rent alone does not show what the owner earns after the cost of securing and serving the tenant.
No. Physical design, legal approvals, tenant rights, cost, and financing can prevent or delay conversion. A qualified team must assess the specific building. Treat a possible conversion as a separate project with risks, rather than a guaranteed rescue plan.
Not necessarily. Earlier values may use rents, costs, and financing assumptions that no longer fit. Update the expected cash flow and capital needs, then account for debt. A lower share price can reflect a real decline in the value left for shareholders.
Ordinary REIT shares are not direct replacement real property for a 1031 exchange. That remains true when the REIT's assets are offices. Have your tax adviser assess any separate proposed exchange or contribution structure before committing funds. [10]
Educational information, not an offer or a personal tax, legal, or investment recommendation. Examples are hypothetical and omit stated adjustments. Tax treatment depends on your facts and current law. Review your transaction with your CPA, attorney, and qualified intermediary. Real estate investments can lose value and may be illiquid.
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