Home Month and Year September 2022 Commercial Real Estate on the Mend

Commercial Real Estate on the Mend

Encouraging momentum


The momentum is encouraging. The COVID curse has faded. The new normals of business have settled in. And, in particular, there is a much-awaited pivot of good news for Calgary’s ravaged commercial real estate, with more than a third of the downton core space sitting vacant.

A strong economy growing at a pace unseen in more than a decade has spurred investment in Calgary’s commercial real estate sector, including multi-family residential. Rre/Max Commercial Real Estate recently released its Real Estate Report for 2022, and tracks that investment in Calgary commercial real estate reached almost $1 billion in the first three months of the year.

Demand for industrial and flex-space buildings have been among the hottest market segments, after having been in a severe slump since 2019 and before.

Whether it was legit or just a high-profile distraction, the two years of pandemic commotion have gotten the brunt of the blame for Calgary’s commmercial real estate doldrums. But the detailed numbers show that lockdowns and other disruptions were, by no means, the only culprits. For several pre-pandemic years, Calgary’s commercial real estate market has been a fluid dynamic of highs and lows, impacted by various key factors.

“Indicators like city and province-level GDP growth, net migration, energy prices, inflation and federal interest rate decisions,” explains the plugged-in and Calgary-savvy John Fisher, executive vice president, CBRE Advisory & Transaction Services. “Positive results in the first three should increase the demand profile for commercial real estate in Calgary, lowering vacancy and raising rental rates. There is no doubt that the continued recovery in the energy industry is key to Calgary’s short-medium term recovery.

“Longer term, continuing to put a concerted effort into diversifying our industrial base to make advances in agricultural, financial, renewables and software technology industries will help balance our demand profile and lead to less severe market cycles.”

The post-pandemic mindset and business recovery is also happening. Not as quickly as some would like, but happening. There’s a positive factor when it comes to the rebounding of Calgary’s commercial real estate. “It’s most definitely good news and we are certainly seeing a case for optimism,” notes Todd Throndson, principal and managing director with Calgary’s Avison Young Commercial Real Estate Services. “We saw positive absorption in Q4 2021, as well as declines in office vacancy in Calgary commercial space. Specifically, overall office vacancy decreased to 26 per cent, down from 26.1 per cent the previous quarter, and downtown vacancy also ticked down from 29.9 per cent to 27.7 per cent.” He adds that he expects the next 12 to 24 months to be relatively stable although global events could play a major part in the economy.

Avison Young’s gradual but encouraging absorption and vacancy curve numbers show that “premium space is becoming scarce with only 7.8 per cent headlease vacancy in prime, downtown, Class AA space and, thanks to this higher demand and shrinking supply, we’ve started to record some upward pressure on rental rates for top quality space both downtown and in the suburbs,” he says.

“Given the prolonged downturn affecting Calgary’s office market – which started in 2015 – landlords have lowered rental rates to attract and retain tenants.”

For stereotypical reasons, references to Calgary’s commercial real estate usually focus on “downtown.” According a recent CBRE report about Calagary commercial real estate, actual office space vacancies and absorption varies and unevenly distributed. CBRE shows that empty office space is disproportionately concentrated in the west end of downtown, where the leasable space is mostly in older buildings and the vacancy rate is close to 50 per cent. Among newer, more amenity-rich buildings, the vacancy rate is much lower, at an average of around 20 per cent.

The report also tracks the glaring differences between pre-pandemic years and the impact of lockdowns and people working by remote. Between 2012 and 2021, the price gap between the net rental rates in Calgary’s newer and higher quality buildings (which CBRE calls class A) and older or less lavishly equipped buildings (class B) dropped significantly. In the fourth quarter of 2012, the rental rate for class A was about $40 per square foot, and class B was about $30. In the same period in 2021, with lockdowns and other COVID disruptions in place, the rate for class A space was $13.07 and the rate for class B was $8.81.

John Fisher describes a “flight to quality” by some Calgary commercial tenants, who are now more able to afford high-quality space than they were in the past. Overall, while the numbers show that downtown space was the most battered by pandemic broadsides, Calgary’s overall commercial real estate situation does show positivity. “Calgary’s vacancy numbers may be a little deceptive to the activity that we are seeing in markets outside of downtown. While the suburban office markets account for 26 per cent vacancy, certain areas do have strong demand and are experience a surge in activity. “

While Calgary’s commercial real estate market continues to deal with the impact of factors like GDP, migration, energy prices, unemployment, inflation and federal interest rates, one relatively new pandemic consequence remains unpredictable: WFH (work from home).

“Office leasing was dramatically impacted when provincial orders asked employers to keep their workforce home,” Fisher points out. “It had a severely negative impact on vacancy and new deal origination which really depressed rental rates. The same is true of the retail real estate asset class. Varied lockdowns and restrictions put tremendous strain on the profitability of many retailers, forcing them to adjust their business plans or even close their doors.”

Despite abrupt and future trends, Throndon attributes it to a kind of workplace transformation. “The office as we knew is not dead, but it is changing. Density of people within the office is going to decrease. Features and amenities such as media and technology collaboration space to allow remote and in-office employees to work together effectively are going to become standard. Our conversations with landlords, tenants and economic experts are indicating that in net terms, tenants are planning to take more space than they give back in the foreseeable future.

“We have certainly seen some companies downsize, due to staff demanding a balance between work from home and the office. Another change is the average office lease is getting smaller,” he says. “While Calgary is a large tenant market with many tenants taking up more than 100,000 square feet, the majority of activity in the market over the last few years has been from tenants taking up less than 10,000 square feet. This is partly due to the pandemic stretching the office space decision-making out as long as possible, and also due to a high proportion of expiry dates for larger-sized tenancies rolling over in 2024 to 2026.”