Note: I (Scott) enjoy putting my brain to work on investment and business plans. I plan to publish many theses, and act on only a handful. I sincerely hope for feedback and input from the community, and look forward to hearing from you! Please view these theses not as investment advice, or recommendations, but rather analyses in draft format from an amateur (me). This thesis does not recommend or identify a specific investment or syndicator. I have not made an investment behind this thesis at the time of this publication.
Thesis Summary:
The U.S. office sector is simultaneously experiencing understated and overstated vacancy, creating a historic mispricing opportunity for disciplined, all equity private equity syndicators. Current headline vacancy statistics materially understate the true future supply/demand imbalance because a large percentage of in-place leases (especially 2015–2021) will not renew as tenants continue to right-size post remote/hybrid work normalization. At the same time, vacancy is materially overstated because a significant portion of the existing stock, particularly 1980s–2000s single-tenant or corporate headquarters buildings, is functionally obsolete and will never again compete for modern multi-tenant occupancy. These buildings will either be repurposed, demolished, or left as permanent “shadow vacant” space that should be removed from any realistic competitive supply analysis.
This dual distortion has pushed office pricing to levels unseen in modern history: Class A and trophy assets in prime urban locations are routinely trading at 5–20¢ on the original dollar (and often below 10–30% of replacement cost). The result is an asymmetric risk/reward profile available only to buyers who can acquire assets with no near-term debt service, absorb 3–5 years (or longer) of negative cash flow, and hold through the inevitable bottoming and recovery cycle.
Core Investment Hypothesis:
In select gateway and “new-economy” cities (and perhaps only in these cities) that continue to exhibit strong population, wage, and corporate headquarters growth (e.g., Austin, Miami, Nashville, Dallas, Denver, Atlanta, etc.), a properly capitalized buyer can underwrite office investments to a binary but highly asymmetric outcome:
“Either this city fundamentally fails and its urban core turns into a dystopian ghost town with tumbleweed blowing down once-vibrant streets (an outcome that is extremely unlikely given observable demographic, tax, and corporate relocation trends, or this trophy-quality office asset will, within the next 3–8 years, return to 85–95% occupancy by the metropolitan area’s highest-paid knowledge workers, engineers, finance professionals, and executives who ultimately want high-end, amenity-rich, transit-oriented environments.”
Key Underwriting Tenets for the Syndicator
- Target Only Top-Tier Physical Product in Top-Tier Locations
- Trophy or Class A+ buildings with irreplaceable locations (downtown or prime submarkets), superior bones (floor plates, ceiling heights, views, natural light), and institutional-grade recent capital improvements.
- Avoid commodity product that lacks differentiation; obsolescence risk is permanent in second-tier buildings.
- Acquire at “Land-Value-Plus” or Lower Pricing
- Target basis of ≤20–30% of replacement cost and ≤10–25% of peak 2018–2021 valuations.
- Prefer all-cash or ultra low leverage purchases to eliminate refinancing and forced-sale risk during the cash-burn period. Good news refinancing (only after buildouts are complete and long-term leases with high quality tenants are signed) as part of the pro-forma is fine and a mark of sophistication by the operator.
- Capitalize for a 5–7+ Year Negative Cash Flow Horizon
- Underwrite to 0–20% occupancy on day one and model substantial tenant improvement (office buildouts) and operating deficits for the first 3–5 years minimum. Operator must assume that it will be a brutal uphill battle, with buildouts occurring over and over again to attract new tenants, and several buildouts having to be redone.
- Reserves must contemplate full-building capex repositioning (lobbies, amenities, spec suites, ESG upgrades) to compete with new vintage product.
- Exploit the “Shadow Vacant” Supply Removal
- A material percentage of competing stock will be withdrawn from the market via conversion (office-to-lab, office-to-residential, office-to-hotel/self-storage) or simple non-competitive hibernation. This natural supply contraction is already underway and will accelerate as loans mature and owners surrender keys.
- Capture the Eventual Re-Equilibration Premium
- Surviving high-quality assets will benefit from a classic supply-crunch re-pricing once growing cities absorb the post-COVID lease expirations (2025–2029 wave) and the obsolescence purge is complete.
- Rents for differentiated space are already showing 15–30% premiums to 2019 levels in many target markets; this spread will widen dramatically as effective supply contracts.
Risk Mitigation
- Geographic selection: Focus only on markets with sustained net in-migration of high-wage jobs and corporate relocations.
- Governance: Aligned operator with conservative underwriting, experience completing multiple buildouts, and managing large assets. Operator with major losses in this asset category is not a detractor – it is actually preferred, assuming that the primary reason for the losses stem from unexpected demand crunch and interest rate pressure due to COVID/post pandemic interest rate hikes.
- Structure: No reliance on near- or medium-term exit assumptions; permanent capital or very long-dated fund life preferred.
Conclusion For the first time in decades, private equity syndicators with true staying power can buy $500–$1,000+ per sq ft replacement-cost assets for $50–$200 per sq ft in the strongest U.S. cities. The downside is largely defined (continued urban decay that virtually no credible economic forecaster believes will occur), while the upside offers the opportunity to own the scarcest, highest-quality office space in thriving metropolitan areas at the bottom of the cycle.
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