Odd Lots - What It Really Takes to Convert an Office Building Into Apartments

Episode Date: July 6, 2023

Big cities like New York have two real estate problems. Housing is scarce and office buildings are empty (or at least under-utilized.) So there would seem to be an obvious solution: turn the offices into homes. And indeed there has been a lot of talk lately about "office-to-resi" conversions. But it's very hard, for a wide variety of reasons. Zoning, financing, and then, of course, the operational aspects of the construction all need to be in place. So what does it take? On this episode, we speak with Joey Chilelli, managing director at the Vanbarton Group, a firm that's been involved with these projects for a decade and long before the pandemic upended both real estate markets. We discuss the challenges involved in actually pulling off these complex projects.See omnystudio.com/listener for privacy information.

Hello and welcome to another episode of the Odd Lots podcast. I'm Joe Wisenthal. And I'm Tracy Allaway. Tracy, I think everyone sort of knows that in many cities, but definitely in New York City, there's sort of this weird, like, there's two simultaneous real estate problems. Yes. And they sort of complement each other in a weird way. Right. Okay. So rents are too high. There's a shortage of housing, and we have a bunch of empty office buildings. And there's a sort of obvious solution, which would be take all the

empty office buildings and convert them into preferably affordable housing. And yet it seems to be very difficult to do that. That sounds super easy. Just like, oh, we're going to turn these offices into homes now. Just live in like an open plan trading floor or something. Yeah, it sounds nice. It sounds all right. You know, put up some walls to people have some privacy.

Okay, but on it, actually, this reminds me when I was at university, I had a friend who lived in a warehouse in London and they built their walls out of cardboard to segment it. Hopefully that's not what we're doing here. But on a serious note, there are a number of difficulties, it seems, in doing this. And there are sort of physical ones around the actual layout of these former office buildings, but there's also regulatory, financial. And I hear people talk about it in a sort of abstract manner. But today, I think we're going to dive into them in a little bit more detail.

Right. So, you know, we joked around. But it is, everyone says it is very difficult to convert an office into a residential building. But again, you know, the opportunity. there, but we really understand, like, what are the constraints? What are, like, the real physical constraints? And how big is the opportunity? Because in theory, like, clearly more can be done. But, like, how much are we, like, moving? Can this move the dial? It's, like, a really interesting question. Yeah. And the other thing I kind of struggle to understand is New York itself is a city with a long

history of carving up older buildings into new types of apartments. And so I wonder why it seems to be so much more of an issue this time around. Well, I'm very excited. excited because today we do in fact have the perfect guest. You know, lots of people have been talking about this question really, you know, since the pandemic struck. But our current guest has been working on it for a long time since well before it was trendy to talk about. So the perfect guest. We are going to be speaking with Joey Kaleigh. He's the managing director of the Van Barton group, which has been involved in the office to residential conversions for about a decade. So Joey, thank you so much for coming on Odd Lots. Thank you very much. Thank you for having me.

What do you do at the Van Barton group? So I'm within the asset management group, and we oversee essentially the execution of the business plan once we acquire assets. Okay. Different buildings. So I'm going to start very broad, but then hopefully we can sort of get more into like each one of these difficulties or problems. But what are the constraints around converting office buildings to residential? Yeah. For starters, it's the zoning.

So is the building that you're looking at? at within a zoning district that allows for it to be converted. Okay. That's number one. If that checks the box, there are essentially a whole list of things that you go through. And for me, and when I evaluate these, the structure and the lighten air and the possibility of lighten air and bringing that in to create residential units and ceiling heights. So on a kind of concrete floor to the underside of the structure.

above, what is that height? And if that height is less than a certain distance, say if it's less than nine foot six or if it's nine feet, then once you factor in all of the MEPs, the mechanical systems that need to go in above. It's just like plumbing, electric, sprinkler, electric, all those things that need to go in the ceiling above. Yeah. Then you drop your ceiling down. And if that goes below eight feet, really, that makes it very difficult to do, especially in New York, where you're not going to be able to market units that have a finished ceiling less than eight feet. So the ceiling height after the zoning district is one of the most crucial. So let's say, okay, there's a building. It's in an area that can be zoned. Theoretically, the zoning allows for the conversion.

Someone calls you up. I say, Joey, come check out this building. How long does it take for you to, like, size up whether it's even worth exploring further. You walk into the building. And like, what are you looking for broadly and hoping to see on that first, that first walkthrough? Very quickly. Really? Ten hours. Really? Yeah. You can go through it and see the ceiling heights, the depth of the floor plate, the actual floor plan and the depth of that and then the structure. Because if the depth is great and it works out, then you wouldn't need to do any structural reconfigurations. the depth just means like, you know, like here we're in the Bloomberg offices and we have this huge newsroom, which is very nice. But like space in the middle of that would not make for a good

unit because it would not be exposed to any windows. Correct. Correct. You'd have to make structural modifications to the building to be able to make that happen. So I think one of your famous conversions is downtown 180 Water Street. And you solve that depth problem by basically creating a sort of like inner atrium courtyard? Is that right? Yeah. We ended up cutting a 30 foot by 40 foot hole in the center of the building. Wow. 20-something stories went all the way. And that created a courtyard essentially for light and air to come down on the inside. And then there were studios and two or three bedrooms that had their bedrooms up against that. What was it that made that plausible? So, okay, so you see, it's called the floor plate is the term. And this is like

sort of, yeah, okay. So if we're on the six floor or seven floor of a building, that's the floor plate. The horizontal slice of the building. So this was 180 Water Street? Correct. Okay, so 180 Water Street in its previous version did not have like a suitable floor plate, but you understood that there was an opportunity to cut a hole in it. Correct.

It had a suitable floor plate at one point in time for office use. Right. Right, yeah, sure. But for residential it did not. in evaluating that. Yeah. Came up with the plan of cutting that hole in the center. Can you just talk a little bit more about that hole cutting?

Like, how did you sort of recognize that, yes, it's currently only capable for offices, but actually we can make the math work if we cut a giant hole down the center of a building. Talk a little bit about that evaluation. So with a lot of things, just about everything is possible, but it would cost a lot of money. Yeah. So you have to evaluate the structural. modifications that it would take to create that and ultimately what you're going to do with that building at the end of the day.

Yeah. Create the residence is how much money you're going to get on the rent and then eventually, you know, sell that building one day. And so when you evaluate that, especially in that courtyard area, what's the spacing of the column base from column to column and does it allow for enough space to be able to cut that in without really cutting out any other structural steel columns or. our supports, which when we cut that out, we still had to reinforce the rest of the structure and do quite a bit of that.

So when you're looking to convert an office building to apartments or something like that, how much of what you're looking to do is based on, I guess, people's preferences on where they live versus regulatory requirements about, well, you have to have so many fire exits and you have to have this number of windows and that sort of thing. So we look at it, we look at it, Evan Barton much differently in terms of you have to, obviously, look at the code requirements and have to build that within your plan. We take it much further in terms of,

we have a little bit more of like a hospitality approach to our multifamily buildings, our residential buildings, in that we look at the entire life cycle of the day and the resident and really put ourselves in the shoes of the resident, And not just in 2023, but in 2030 and beyond. So we try and incorporate as much technology and components that set this building up so that it's very much marketable at every point in time. Can you talk a little bit about, you know, again, I'm thinking about finding the right contractor, the right construction company that even knows how to like cut a hole in the

middle of a building, which seems tricky. Like, I imagine that's not something that every construction company can do. Yeah. But can you talk a little bit about, like, who, how many entities out there that can do that? And then maybe like, all right, the cost in 2023 for that, I assume are really a lot higher than when you started on 180 Water Street, both due to inflation and supply chain constraints. Can you talk a little bit about sort of operational constraints of, okay, theoretically, yeah, this is a cutholeable building, but actually getting someone to do that? Yeah. You have to find the right team members. And since we've been in the space for a while, we've kind of brought on board and continued to work with for the majority of it. I'd say probably 70% of our team members or

repeat team members. So when you say team members, these are contractors. Yeah. And people you work with and some of God, okay. We have the vision and know how to execute. We bring on our consultants and our other team members to really evaluate those nuts and bolts pieces of cutting the holes and doing those things and be the experts in their field. And finding the experts is difficult. And it takes years to create that team that you're comfortable with to cut a hole in a building and know that everything is going to go as well. I wanted to ask you a little bit more about the financing because all of this,

you know, cutting holes in the middle of building sounds very expensive. And it does seem like a lot of the office conversions are often aimed at a sort of premium segment of residential. And this has been one of the criticism. Yes. So how does that fit in with the decisions on whether or not to go ahead for these projects? Like, is it just a fact of life that you have to create more expensive apartments that are going to pay for this? Or could you do this on a more affordable basis? You could do it both ways, right?

ultimately it comes down to what your basis is in the building when you purchase it. And if you have a low enough basis when you buy that on a per square foot basis and knowing we've done this a while, we know what it'll take to convert a building. So if that basis is a certain amount, we layer in the amount that it takes to convert it. And we know at the end of the day where we're going to end up on a per square foot basis and our all-in basis. And so you can determine based off of that. that initial basis, which way it really needs to go. So if the basis is a certain amount,

say if it's, you know, three, four, $500 a foot, if you're buying a billion and $500 a foot, and it's going to cost you $500 to convert, you know, you're in $1,000 a foot. That's a pretty hefty price today. And so you know that you would have to get very high rents, market rate rents to be able to make that pencil. If you're able to purchase the building at a much lower basis, it gives you much more flexibility. And then, you know, layer into it the need, in my opinion, for legislation to be able to make that easier. And so then you can target different segments of the market. So it's not all at the luxury end of the spectrum. So just on that basis, what is the, you mentioned legislation. And my understanding is there is, or maybe there was

some tax credit support for doing these kind of conversions. Can you lay out, like, what would you expect to see in terms of government support for doing this at the moment? So as of now, there isn't any incentive, but there were debates in New York State Legislature to incorporate some sort of a tax abatement as part of this. And for that tax abatement, there would be a certain amount of units within that converted building that would be affordable. I think that's fantastic. We need that. That will help the housing crisis. and that'll target a market that it really needs that housing.

That is not there. Another end of it is the date. I don't know if you've heard about the date within zoning being able to kind of convert buildings as of right. So downtown in the financial district south of Murray Street, it was in the early 90s. They changed that date to 1977. So buildings in specific districts south of Murray Street, it was. were built prior to 1977, you could convert those as of right completely to residential. And it could be market rate. Here in Midtown, it's 1961.

What is the basis of these dates? Like, I don't quite understand, like, what is it about a building? What happened in 1966? It's very like why a building in 1965, they're uncomfortable with offering the carte blanche. what's some of the intuition or logic behind some of these constraints? It's very much arbitrary. Okay. And at that point in time, yes, it worked to help alleviate some of the vacant office space in the financial district.

But the way that that really needs to be and the mayor's task force and others have been a proponent for is changing that date to 1990, for instance. Why even have a date? Why not just say, yeah, if there's a date? If the market says, you know, like, it's doable. And if the market would value this particular plot of land more as housing than as office, like what is the logic behind having a date? So there are a couple of things with that.

One, they proposed in 1990 with a rolling date. So then as, you know, in 2050, we don't have the same problem. And we're saying we need to change the date. So it always cycles out. But one thing within zoning and changing some of the districts, say, in, in Chelsea, some of the manufacturing areas. They're only zoned for manufacturing right now. An issue of just changing that to residential is do we, and they need to study this,

and they really do, and they need to put the time in on this. And I don't think it's a good idea just to flip the switch and allow for residential to go immediately without studying. Do we have enough schools and hospitals and markets? All of those things are the components of why there is a date in. these areas. Interesting. So just on the idea of maybe getting more government support, more tax credits, a loosening of some of the restrictions, one of the criticisms that you hear in New York specifically is that property developers already make a lot of money. And while this might help

on the housing front alleviate the housing shortage, we're basically giving them even more money. What would be your response to that or how could you alleviate some of those concerns? Yeah, I think it's easier to say that from the outside looking in, but ultimately the risk that we're taking on in converting these buildings and making these investments is our risk. And we should get paid for that. It's not to say... Is it a risk, though, in New York if you make a bunch of really nice apartments?

Like, surely... It is always a risk. No matter what. And yes, New York is a fantastic market. And, you know, the best market, in my opinion, to ever do this. because not only that we feel strongly, many people feel strongly about the market here and residential and multifamily. So yes, it is a great market to do it.

But there is still risk with it. There are cost overruns that could potentially happen in the conversion. There are numerous operational things that could happen after the fact and during lease-up and things like that. New product could come online and compete with you. Recessions could hit. Other things could hit that could bring the prices down from when you start. the discussion of that project.

Let's say you got the, you know, the legislator cooperated and changed the tax code and they moved up the dates and a bunch of other stuff happened that was sort of favorable from a policy perspective. Like, okay, how much do you think just office Teresi in general could like move the dial in both directions? Because that's sort of the big question here. And it sounds like, you know, you've done a handful of projects. But it, you know, they, it doesn't seem like it's a possibility everywhere.

And there are lots of buildings that, as you say, you can like walk in and say, no, this is not going to work. So like, how much is this in terms of when people talk about there being a crisis of office, you know, people not going to the office and et cetera like that? How much could it move the dial in your view? It's going to be one one piece of the puzzle. It's not going to be the solving piece. Okay. This won't solve the housing crisis altogether. But not many things on a broad brush will.

But doing these things will certainly help and will certainly get more units on the market. How closely do you follow the sort of return to office headlines? If you see a news article that says, Jamie Diamond says everyone at JP Mortgage should come in four days a week instead of three, do you immediately start incorporating that into your forecasts and expectations for rent? No, but we follow it very closely. We also invest in commercial office. We have many office buildings in our portfolio. So we follow that very closely. Here in New York City. Here in New York, also in San Francisco, Seattle, Los Angeles. So we follow it very closely. Can we take a minute to talk about some of those markets from an office, just a pure office perspective? Because people

are so gloomy on it. You know, if you look at the shares of the publicly traded proxies, I guess for some of these markets pretty down in the dumps. There are challenges. New York is well ahead of many of the markets that I just mentioned. And I think that it comes down to, you know, the city and the administrations within those cities and making sure that they drive that traffic to their central business district. And, you know, for instance, San Francisco, it's, you know, it's seen better days. Yes. And we're looking at a lot of different.

opportunities there where we could potentially convert because you have people out eating at restaurants. There are places that are busy and packed. Not all the offices are occupied, though. Here in New York, we've seen that return. We've seen a lot of people come back into the office. You know, we really saw the residential multifamily takeoff in, call it May of 2021. That's when we really saw that trajectory. And it's helped with all the,

return to office and with Jamie Diamond saying four days a week or five days a week for managing directors and that's what we need. This might be a slightly weird question but I remember the other big crisis in commercial real estate was sort of post 2008 when you had the death of retail and the dead malls all over America and there was a move then to try to convert some of that space either to new community facilities, gyms, and things like that, or in some cases, residential. How successful, I know this isn't your area of expertise necessarily, but how successful were those efforts and what can they tell us about the current situation?

Yeah, I think it's area dependent because some of those areas where you're able to change a mall to more of an outdoor mall, put some multifamily on top of those retail shops, and maybe some parking below it, that creates a whole new life cycle in a whole new area with entertainment, living, and then, you know, then you can bring in some office components too. And so I think there are some clear distinctions that separate the two. But I think the whole idea of breathing life into these areas is the key. And what we're doing downtown in our conversions is really breathing life into these buildings in neighborhoods. And once you do that and you bring people into those areas, then it's just

kickstarts everything else. It kickstarts the retailers. And then, you know, even offices want to be there. I lived in the financial district for, I think four years from 2011 through 2015. And it was like picking up. But now when I go down there, like there's just like so much more and like around the seaport and stuff like that. Yeah, the tin building. I was like, oh, yeah, it's really nice. And I was like, oh, man, I kind of wish I, no, I really like, I mean, it was a good time. Can you talk a little bit about business and the constraints in the pandemic high inflation period that we've experienced? Because again, we talked about you've been doing it a long time, but everyone who's doing any sort of construction in 2022 and 2023 is probably seen headaches. Can you talk about those headaches?

And have they abated at all? Have they eased in any way? Yeah. I think we saw a run up of pricing, certainly in 2022. and a lot of time trying to to get people signed on with a contract. They were very busy. They didn't necessarily have the time for this or that. And that kind of also goes back to building that team.

Yeah, right. Making sure that you have the repeat contractors or vendors. But we certainly saw the increase in prices of things. You also saw the whole crisis with shipping containers and the price of those skyrocket. How did that affect it? So we actually had it around that same time as when we were purchasing our glass for 160 water, the project that's currently being converted to residential. And we were looking to locally source as many products as possible,

but we couldn't get this glass locally. So we needed to go to Spain. And during that time, shipping containers were extremely expensive. It was hard to get things going. We also saw a trucker strike. in Spain. So we had to... Remember the perfect storm era?

Yes. Yes. That's like that. You really have to go through every iteration and create backup plans. So we made sure that we had a private escort for our glass to the docks and to make sure that it got on the containers when it was supposed to and to us. Because you have to follow every piece that closely. Because if not, it could get lost in things. The same thing with our generator, even though it was not.

made in the Midwest here in the U.S. We had weekly calls with our contractors and the manufacturer because of parts being an issue and what goes into the generator. So we had to really press them and say, hey, we'll fly out there. We want to come out there. We want to visit the plant. Make sure everything's on track. And it was that pressure that it really made sure that they understood that this was a very high,

high priority for us. It's kind of crazy you have to go chasing generators. in this day and age. But since you mentioned glass, I have to ask, what's the deal with windows in New York? Sorry, that went very Seinfeld all of a sudden. What's the deal?

What's the deal with windows in New York apartments? No, but this is one of my pet peeves about New York real estate, which is, and I sort of alluded to this before, but you have a lot of tenement buildings that have been cut up into smaller apartments into these traditional railroad apartments, and the window is always at the end in the bedroom,

which apparently is also. required by legal statute, but my preference, certainly, as a renter, would be if I'm going to choose one room in the apartment to not have a window, it would probably be the bedroom. So why is that? And would loosening those type of requirements help these conversions? Yes, it would help, but I would say that the, well, I guess depending upon who you ask, it could hurt the quality of life because the rules for light and error there for a reason. And so that, that the general population and residents aren't necessarily taken advantage of. I appreciate other people might have different opinions.

But yes, for instance, at 180 water, we noticed that some of the units that didn't have as much natural light as others went quicker because people have a preference for less light in their apartment or in their bedroom so that they could sleep better. And that's a lot of times in New York. People were just there to sleep and go out and explore the city. But yes, because of the requirement for that. Yeah, I'm with you. I would, I would love windows in every room. I would like to make that clear.

But if I'm going to choose, a lot of New York apartments have just one window. Yeah. We do have the ability for blackout shades, which we incorporate a lot of times in our units. Oh, yeah. That's nice. The sun-drenched units, but we have the ability to have the blackout shades. to help with that. Big fan of blackout shades. Can we talk a little bit about financing? And obviously, you know, interest rates a lot higher this year than they were, you know,

say a year ago or certainly two years ago or certainly pre-pandemic. Who is financing this? And how much is, you know, it's sort of this perverse situation. And we've talked about it just with residential real estate in general where we want more of it. And maybe more of it would even be the key to easing inflation, and yet higher rates seem to be one constraint on the creation of new units. How does that play out in your world? Yes, that is, it's a deal killer. I mean, if the environment that we've been in has put a massive constraint on commercial real estate, and there's just no mistaking that. What do you mean? So talk, walk through specifically, what is, what's changed or what's that constraint look like? It could say that in terms of financing,

your spread over LIBOR, what it was, are now SOFER, which a lot of loans are. Originally, call it 2021, going even back to 2020. I remember closing a loan February 23rd of 2020. And at that time, LIBOR was 0.11. Yeah. Point 1-1, which is incredible. Now, you know, LIBOR is well over 5. Yeah.

That, you know, 500 basis points, difference is tacked on. because you're going to have to pay whatever the LIBOR is plus your spread to the lender. So instead of being in a, you know, call it a 4% range, now you're in a 9% range on your debt. And that it has massive impacts on the interest that you pay on the money that you're being lent to do these projects. And it puts so much of a downward force on it that it really makes it so that a lot of these, projects are not able to be done right now. Ensure you could get, you know, interest rate caps on that, but those cost quite a bit of money because they're products that bring your risk down on the interest rate, but you have to

pay for that privilege. And the cost of that factored into everything else just makes a lot of these just not viable. Can I just say I love that you brought up the benchmark lending rates because we're recording this on June 29th. Tomorrow is the last ever day for LIBOR who is getting published. It's tomorrow. So moment of silence. Aren't you going to a LIBOR? Aren't you going to a LIBOR? It's awake. I'm going to awake for LIBOR tonight. That's great. But just on this note, I mean, you've done conversions before rates got hiked. So 180 Water Street and now you're doing 160 Water Street, I think you said. I take the point about financing in general is more

But do you find when you're talking to investors, to lenders, that it's easier to make the argument for conversions nowadays than it was maybe several years ago? It is for us. If you have a track record, you have the experience, you have the know-how. We know, like I said, you could walk into a building within a first hour or two. It is easier to communicate that now because this is much more of a headline. And thanks to you and everyone else and bringing this to the forefront, It allows us to really tell that story a little bit easier and give our investors a little bit of a glimpse of some of the expertise that we have so that they can be more rest assured that we have the know-how to do this and execute on this. You know, as you talked about, like, New York has, for as much as there are problems here in New York still, it's done a lot better. And no one really knows what the final, like, equilibrium is going to be, right?

It is still, to this day, like improving little by little, and you can look at MTA ridership, and it's still ticking up modestly, et cetera. How much does the uncertainty of what the sort of like ultimate stable equilibrium sort of affect the willingness of building owners to even come to you for that first call? Because they don't know. Like, they might have some guess that's like, well, maybe we're going to be a 50. Maybe we're going to be at 70. Maybe it'll go back to 90 in two years. And how much is that sort of like those estimates for what that final destination going to be?

to be sort of impacting whether to even go down the road on a particular site? I think it's different for different building owners. Okay. You have some of these family offices that have been investing in real estate for generations, and they hold various buildings, and they can hold, continue to hold, without doing anything because they're going to hold through this cycle and the next cycle and so on and so forth. So they're not necessarily feeling the pressures as other building owners who really have a certain exit date that they have in mind. And if they're not creating that value or if their value

has gone away from that investment, they need to figure that plan out and do it quickly. So I'd say it's different depending upon the investor. Here's a question we probably should have asked at the beginning, a really basic one. But who makes the decision to actually convert an office building to residential? Is it developers will approach a building owner with a plan or the building owner will tap people like you to explore those options? How does that process actually work? A little bit of both. So the buildings that we own, we always, even prior to acquisition, we're always evaluating the various scenarios where 160 water, for instance, we bought in 2014. We knew the ability to be able to

convert it. But that wasn't necessarily plan A. And so we're always. evaluating it, especially with our own assets. Other owners call us because they know we're in the space and they know we have a certain expertise, but, you know, there are developers that also go out to different building owners and say, look, I think your building is a prime candidate for this. We've had numerous discussions with other building owners just like ourselves, but they don't necessarily have our expertise. And so we go to them and say, hey, look, this is a prime candidate for this. Here are the potentials. And we look at whether or not we could do a deal with them where we come in on the equity side or if we just are there to assist on the conversion.

It does sound like that know-how is really difficult to like from day one. Like if Tracy and I were to say, oh, want to get into this, like replicating that would be one of the challenging parts, like building up that network of contractors and architects and people whose job it is to escort glass across the Spanish countryside. Or look for generator parts. Yeah. Yes, exactly. It is.

It really is. And you get down into the kind of nuts and bolts of it in terms of the building and how you do these things and especially office buildings where you have like a structural steel. We call it a structural steel and metal deck. Metal deck with concrete on top where you're carving out residences. But, you know, you're also reinforcing the structure with more steel. You have to make sure that plumbing risers or ductwork or electrical risers miss that steel. And you can't hit that.

But then you also have to have certain dimensions that are held within the apartment itself for code. And so putting all those together is like one big puzzle. And at the end of the day, needing to have a unit that is desirable and marketable. So it's a pretty big challenge overall. You know, to Joe's question about uncertainty over the outlook, I gather there are a lot of different moving parts here. But what's your base case for, say, in 10 or 20 years? What is New York going to look like? Are we going to be walking down, you know, Lexington Avenue? We're going to have lots more large apartment buildings versus empty office buildings.

I think that it's unmistakable that there will be more residential. people still obviously want to be here and they love this city it's incredible and so i think there will be a more a more residential component to it but it's also a cycle where i think we'll add a lot more residential in this time period but in a certain outlook whether that's five years from now or 10 years from now the office space will not necessarily come back in the exact way but it'll be here and it'll be back. There is a large demand for Class A office space right now. So where's that coming from? So that demand. The existing tenant base wants brand new space, state of the art space. And, you know, whether it's brand new buildings, it's one Vanderbilt or Hudson Yards. These buildings are leasing up.

So people want that office space. It's this class B, class C, potentially mid block office building. that doesn't necessarily have a future right now. You can convert some of those, but it would have to be acquired for really pennies on the dollar. But that could be the case, or it could be raised to the ground, and then a Class A office building built. So we're kind of going through that now and how that all shakes out. But make no mistake, I think that New York in general with office will be here. Yeah. I imagine it's the return to office argument is a lot easier to make if you're bringing people back to shiny new buildings versus a crepit midtown tower. And I always have this conversation. I'm like, oh, a lot of people are back to the office

and people are like, well, you work in a really nice office, Joe. We do work in a really nice office here. Sorry, this might be a really naive question. Class A, class B, class C. Are these objective things or are these like you sort of know a class A office when you see it or a class B office when you see it? You very much know. Okay. Very much now. But it's not like there's some very bright set of like things that, oh, this is. It's not like the 1961. delineation? No, no. Okay. I wanted to ask, you know, just going back to support for these conversions and possible tax credits or other measures, you were talking about how the cost base is really important in doing these. If, you know, New York woke up tomorrow and I guess the mayor or

the governor announced some big support measure, would that immediately get factored into office building valuations in such a way that maybe it made conversions less attractive? Like, would everything suddenly be ratcheted up? No, I don't believe so. No. It would help, it would help maybe stabilize. The word I would use would be stabilized. It would help stabilize as opposed to increase.

There are still a lot of office buildings that are going to see decreases in value. There's class B and class C's that people were holding on to. and they're still thinking they're going to get a 2021 price for that. That has to work its way through the system of sorts. Yeah, this seems like a story that multiple guests have told us, which is that there is this sort of mental gap between what we can see on the screen when we look at, say, the ticker of an entity like a Vernado or something like that, versus where markets are private markets, in which case it sounds like there's still,

a pretty huge bid-esque spread in many of these cases. Like, has that narrowed at all? Like, do you see some movement? Have sellers? I don't know. What do you see on that spread? We're certainly starting to see some more movement. And granted, I thought that we would have seen more movement previously, whether it's six months ago or so. But we are starting to see that movement. I think a lot of building owners have already come to that realization. They're at that place where they understand that value has decreased. Yeah. Now it's more of the lenders are needing to step in.

Oh. And they're seeing the landscape and also understanding where they kind of stack up. And then that's kind of part of the flushing out, if you will, whether it's the owner understanding it. And then the lender and then it kind of starts to get out into the market. Just speaking of lending and I guess, you know, on the office, Terese, who is lending? I mean, we talked about the. price. But do you go to banks? Do you go to? Yeah. And has the mix changed? We do. The mix has changed.

There are, there are more people in the space. We've had a great relationship with Brookfield. Brookfield is our lender on 160 water. They did 180 water with us. They've done other deals where it's been a kind of a heavier redevelopment aspect to it. And so they've been a great partner in this space and they understand how it works. Are banks part of this or other like private investors or private lending? or any other, just in terms of the broad opportunities out there for finding money? Yeah, I would say it's all ends of the spectrum to four people to fill the full capital stack. It's going out and whether you need to have a mezzanine piece come in, it might be more on the

private side and alongside a traditional bank. I have a slightly weird question, but do you hate the inventor of open plan offices as much as some other people seem to? like when you walk into an office building and you just see a huge empty space, you go, oh, why did this happen? An empty space in terms of an open layout. I guess an open space. One giant room.

Yeah. Because my understanding is there are some office buildings that might be easier to convert if they're a little bit more segmented. Halls and stuff. Oh, I see what you're saying. So instead of just one floor plate that is complete as opposed to some cutouts and things like that, not necessarily. It's all about the era that.

it was built, in my opinion, and what they were going through during that time in a more modern era, you have some of these deeper floor plates because they were able to bring in HVAC that they didn't have in 1910 or 1920, where some of the buildings in the financial district, they have some more of these curves where it brings in that natural light and the air. I see. Because they didn't necessarily have AC at the time. And so you couldn't have a deep floor plate because people would be way too far away from a window. So really deep floor plates are in part a function of the technology available to get people heating and cooling.

And it would work much better for a trading floor, for instance, to have that. Just real quickly, you know, we talked about some of the architectural issues, but from a sort of like safety and code issue, are there like major distinctions between office and residential in terms of what needs to be changed? Yeah. I mean, you have various requirements in terms of whether it's the sprinkler and fire alarm coverage. in systems to egress and making sure your stairwells are a certain width and certain means of egress in and out, your elevator systems. There are definitely distinctions. I wouldn't say one is necessarily much more cumbersome than the other. It's just a part of the overall process. Joey Clarely, Van Barton Group. Thank you so much for coming on odd lives.

Yeah, thank you for having me. Yeah, it was really interesting. That was great. That was super interesting. Tracy, I really enjoyed that conversation. I sort of obviously had an intuitive sense that is pretty complex, and I found that that was really helpful in understanding, like, so many different dimensions of what it takes. Yeah, and it does sort of crystallize this idea of almost a double whammy for doing these at the moment, because they're expensive to do, it certainly seems like. And at the same time, the cost of financing them seems to have gone up quite significantly getting back to that capacity point.

And the uncertainty and the fact that different types of buyers, It's really interesting to think about the owners of buildings that have some sort of like strict lending commitments where at some point the owner can no longer say, oh, we're in it for this cycle. We're long-term investors. And the lender steps in. It's like, yeah, that's nice. You got to sell the building because we don't want to like end up the zero here. The other thing is thinking back to previous cycles, I know I brought up the shopping mall analogy. But I remember people talking, you know, back in like 2013 or something like that about how, well, some shopping malls are.

are doomed. Like, you can't do much with them. But there were a lot of luxury shopping malls that were doing fantastically well at that same point. So it does seem like you are getting these like different performances within the sector. I wish I could remember the name of the guest that we had on. But it was, and I feel bad that I don't. It was a previous CRE episode. And the guest made the point, it was a previous real estate episode. And the guest made the point that after 2008, 2009, the money was made by like spreadsheet people. And there's like, well, here's the cash flow of X or Y. And it was like all those people like buying like, you know, single family houses out in the deserts of Nevada. And you didn't really need to know that much about Nevada or anything. You just

know that like, yeah, this looks good on paper. Here's how much it costs. Here's what I can get for it. Here's what I can borrow at right now. I'm going to buy a thousand houses. I think I can rent them out here, et cetera. And then hearing Joey talk about like the team and it's just intuitive, like the team of like contractors and architects and people who would know how to cut a hole in a building, etc. Right. It's very different skills it seems like than like spreadsheet skills. Yes.

But I would say like the spreadsheet portion of it still seems extremely important. Yeah. And there's also a huge wildcard factor in there, which is New York or the U.S. government on a federal level going to do something on like a tax credit basis to help get more of these done. I think it was Jim Castillo was the guest that we had on to talk about it. That was a really good episode. But yeah, I do think like the spreadsheet stuff still seems really tricky.

And then it's like, okay, well, if you cut a hole, how much are we going to get for the square footage for the units that have a little less natural light because they're looking into the courtyard? And so it does seem like there's a lot of uncertainty. And you ask that question, like, can you lose money? Yeah. I feel confident that if I went into New York real estate, I would find a way to lose money. Like, I know it's supposed to be a really good, Mergin. I wasn't sure which way you were going to go out. I feel very confident in my skills, my ability to lose money on real estate

deals. I think I could pull it off. I bought my place like at the top of the market last year. So I'm doing the same. Yeah, I think we'd be good at that part. All right, on that happy note, shall we leave it there? Let's leave it there. All right.

This has been another episode of the All Thoughts podcast. I'm Tracy Alloway. You can follow me on Twitter at Tracy Allaway. And I'm Joe Wisenthall. You can follow me on Twitter at the stalwart. Follow our producers, Carmen Rodriguez at Carmen Armin and Dashel Bennett. at Dashbot. And for more Oddlots content, go to Bloomberg.com slash oddlots, where you can find transcripts, a blog, and a newsletter, and check out our Discord, discord.g.g slash oddlots.

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