The Chicago CBD office market has shown gradual improvement with direct vacancy falling from 15.8 percent to 15.1 percent over the past 12 months. However, the struggling Class C market has slowed the recovery, losing 445,000 square feet in occupancy.
The direct vacancy rate in Class C buildings has increased over 150 basis points since 2010, to over 15.9 percent in the first quarter of 2013. As Class C direct vacancy rates continue to approach highs not seen since 2005, owners have begun to consider repurposing their buildings into hotels, student housing and other alternative uses. Some landlords have extensively renovated older, under-occupied office buildings to reposition the asset as Class A or Class B by offering modern amenities with vintage charm.
Many tenants in Class C buildings have smaller space requirements, typically less than 10,000 square feet, and pay lower-end rents over shorter terms. Even owners of well-performing buildings may still experience greater returns from alternative uses than a fully occupied Class C office building.
So what does this mean for the CBD?
In the Class C segment, any decrease in supply will improve overall fundamentals. As buildings are repurposed, displaced tenants will occupy other Class C buildings, but will also lease space in Class A and B buildings. Repurposed Class C buildings can help meet demand in other sectors, such as student housing where there is a lack of affordable, short-term rental units. While this repurposing trend is still in its infancy, the potential domino effect that can result from the elimination of obsolete product will positively affect Chicago’s economy and downtown office market.