Louisville, Ky.—It’s often said that when the residential market softens, there’s usually a commensurate (albeit delayed) uptick in commercial construction business. But this typical “seesaw” effect hasn’t been as predictable in recent years, given the impact of stubbornly high inflation, the increasingly popular distributed workforce model and, yes, the lingering impacts of the pandemic.
But instead of viewing this uncertainty as obstacles, Starnet members have become more adept at identifying the possibilities and potential for business in key end-use sectors. “Office is still the biggest market for our members despite the uncertainty about ‘return to work,” Mark Bischoff, Starnet president and CEO, told FCNews. “Healthcare, particularly the acute care segment of the market, and treatment rooms are strong as well.”
The group, which convened here for the recent Starnet fall conference, is also seeing strong demand in the K-12 education sector, despite the challenges that often come with servicing that sector of the market. “Members are finding ways to schedule staff and source materials around this kind of work,” Bischoff stated.
Hospitality, another key area of emphasis for commercial flooring contractors, is another critical end-use sector—especially now that, post-pandemic, the industry is seeing more spending, hiring and activity in leisure/hospitality. “It’s important to remember, though, that hospitality is not just hotels and leisure,” Bischoff noted. “It’s also restaurants, gaming and convention spaces, as well as senior-living centers and facilities.”
In the high-profile New York market, office projects have seemed to cool. “Some clients are in wait-and-see mode when it comes to office projects, because they’re not sure how much space they’re going to need moving forward with people continuing to work remotely,” said David Meberg, president and CEO of Consolidated Flooring, which not only serves the tri-state area but also Chicago and even parts of the Southeast.
While there has been some discussion around possibly retrofitting offices into high-rise residential developments, Meberg believes it’s simply not practical. “I know several architectural/structural engineers, and they all tell me that reconstructing all those offices spaces would be way too expensive and impractical,” he explained. “Just look at the way offices are constructed—the elevators are on the perimeter of the floors, while residential units are typically built from the center out. To reconfigure all the stairwells, plumbing and electrical would be a nightmare.”
Others attest to the challenges these potential office-to-residential conversion projects might entail. “While this could be seen an antidote for both the housing crisis and office vacancies—especially as remote work continues to remain strong—other studies have shown that the cost and barriers to do this could be still be prohibitive,” said Grant Petruzzelli, vice president of Atlanta-based DCO Commercial and a member of the Starnet Advisory board. “For one, each municipality has to consider impacts to traffic, parking, historic preservation and other covenants which could restrict its deployment. They will need to adapt their zoning requirements to make this feasible.”
Despite both the inherent and unforeseen challenges, the concept is garnering attention—particularly at the federal level. DCO Commercial’s Petruzzelli cited the Biden Administration’s recent directive to the U.S. General Services Administration to expand efforts to sell empty federal buildings that could be repurposed into housing. Vacancies in those buildings, he noted, reached a 30-year high of 18.2% in Q2 2023. In addition, the Energy Department unveiled a toolkit for creating zero-emission housing from commercial buildings, and the Transportation Department released guidance about how states, localities, and developers could finance conversion projects near transit, repurposing dollars to affordable housing projects. Other federal programs are also being launched to spotlight this effort and support it at local levels, he added.
The problem is—at least from a financing perspective—is many of these federal programs could create more red tape for developers, according to Petruzzelli. “These programs are often affiliated with other initiatives to support the disadvantaged, and that means complex eligibility and compliance requirements for tax credits,” he pointed out.
Then there is the issue of limited opportunities. Petruzzelli cited studies from the National Bureau of Economic Research showing only 15% of office buildings in the commercial districts for America’s largest cities are physically suitable for conversion. “Modern buildings have complex HVAC systems, centralized elevators and windows with limited-to-no operability,” he explained. “Residential units require independently operable HVACs, more elevator access than might presently exist and windows that can open for natural ventilation and emergency egress. Is the cost worth it?”
That doesn’t necessarily mean members should completely turn their backs on potential office-conversion work, observers say. Starnet provided statistics from a recent CBRE Research report showing there’s been a remarkable surge in office-conversion projects. Around 100 projects are set to be completed in major U.S. cities, compared to an annual average of just 41 between 2016 and 2022, the report stated. This trend promises to breathe new life into cities, especially as the demand for older office buildings has waned in favor of newer properties with amenities valued by workers.
Still, some are taking a wait-and-see approach. “While this new federal initiative can bring some of these projects to light, the challenges of these conversions still remain,” Petruzzelli added. “I am curious to see how many of these projects take root, but it’s at least a step in the right direction if these federal buildings remain unoccupied while housing needs increase.”
According to CBRE Research, there are 60 million square feet of office conversions planned or under way. Most of these conversions are transforming offices into multi-family housing (48%), followed by life sciences (19%) and mixed-use centers (18%). This could bode well for commercial contractors interested in exploring emerging opportunities in spaces designed for mixed uses. “Our members tell us they’re focusing more attention on multi-family applications, especially mixed use where you might have retail space and doctor’s offices on the ground level, but high-end residential on the upper floors,” Starnet’s Bischoff noted.
Expanding outside their comfort zone
While commercial flooring contractors are keeping an eye out for potential projects to bid on in their markets, they are also exploring additional avenues by broadening their product portfolios. “Some of our members used to shy away from products like ceramic, but we’re finding they’re more open to it now,” Bischoff stated. “They’re really going after that business as well as other product categories.”
Sobering statistics
The most recent data provided by the American Institute of Architects (AIA) showed the bellwether Architectural Billings Index—a nine-to-12-month leading indicator of construction activity—slid to 44.8. That’s the lowest reading since December 2020. Reduced billings were reported in all regions, with multi-family billings show the weakest activity. This was followed by commercial/industrial billings and institutional billings, which remained flat.