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What Is Next for Downtown Cleveland Apartments?

March 15, 2024
NCAA

The recipe for residential apartment success in Cleveland’s central business district has seen significant changes, primarily because a substantial portion of its traditional demand base—those employed in downtown Cleveland’s office buildings—has yet to return.

Shifting Dynamics

While Downtown Cleveland Alliance’s Data Dashboard has visitor foot traffic recovery at a relatively strong 93.3% of pre-pandemic levels, its return to office statistics and workforce recovery statistics are at 78.8% and 58.5% of pre-pandemic levels, respectively. This behavior seems to have directly influenced the demand for space in downtown office buildings – at least for now.

Despite being a national leader in office to residential conversions, Downtown’s reported office occupancy rate is best described as being in a state of transition. Year end 2023 office occupancy is at 84% for Class A space and 81% for Class B space according to CBRE. While the jury is still out as to whether downtown Cleveland’s office employers no longer see as much value in the cultural and collaborative benefits of having their workforces interact together on a non-virtual basis, case studies of office building upgrades from office markets throughout the country are proving out that landlords are seeing rent and occupancy benefits from investments made to update office spaces to contemporary needs. Answering whether office building upgrades make sense employs case-by-case analysis and complicated calculus. However, as the combination of presence and proximity of workforce continues to be a driver in office employer site selection, it is important for policy makers to not take their eye off the health of downtown’s apartment market as they evaluate the best ways to address the current disruption and develop opportunities going forward for office buildings.

Net Migration

In 2023, the greater Cleveland apartment market exceeded national norms for occupancy and rent growth according to RealPage. As more households were renting apartments units, apartment community owners were able to push through rent increases. Throughout the region, both of these numbers were aided by low construction activity. However, the market in Central Cleveland lagged the rest of the market in occupancy and rent growth in large part due to the combination of supply additions and outmigration. Outmigration has troubled major cities nationwide since the pandemic, with few exceptions. However, the outmigration from center cities trend is slowing nationally and Cleveland is no exception.

Work From Home Hurts Demand for Downtown Living

The reported softening in the Downtown Cleveland apartment market “is not unique in that many midwestern urban markets are experiencing similar softening,” according to Nathan Young, a partner with Columbus based market analytics firm Vogt Strategic Insights.

“The Pandemic, and lingering effects thereof, continue to influence the Downtown Cleveland market. Obviously, the office market was gutted with Covid and with the ‘new normal’ of telecommuting, it will be sometime before the office market recovers. In downtown markets, office and residential certainly have a symbiotic relationship… one feeds off the other.”

Commenting further on the current state of demand for apartments in downtown Cleveland, Young said:

“Stabilizing the [downtown Cleveland] apartment market will involve addressing the tangential components. Make Downtown more appealing and more exciting. Invest in entertainment and encourage office workers to return – a crowd draws a crowd.”

Aside from the work from home trend and office employers at least temporarily choosing to forego the cultural and direct interpersonal communication benefits of in person work, other factors are also at work. Other knowledgeable sources offered other reasons for the current state of vacancy in downtown apartments:

  • Millennials are moving out of downtowns because they are starting families
  • Seasonality – everyone hunkers down in the winter
  • Tenants are shopping for deals more often
  • Safety issues
  • The supply that developers brought to market simply exceeded demand at the current time – the market should stabilize over time
  • Competition from suburban apartments surrounded by suburban neighborhood amenities

Where Is Downtown Apartment Demand Still Coming From?

Analysts agree that downtown’s restaurants and night life still attract residents. Residents continue to migrate into downtown Cleveland and nearby neighborhoods from outside of the area. One source observed that renters coming into the market where $3,000 apartment rents are the norm do not mind rates for higher end luxury apartments in downtown and surrounding areas. The same source said that developers have been surprised by the strength of international demand driven by Cleveland Clinic, Case Western Reserve University, and to a lesser extent, MetroHealth.

Significant demand also exists for affordable or workforce rental housing in downtown Cleveland and in virtually every other market, according to Pat Clark, a partner with Danter & Associates, LLC, another Columbus market analytics firm. Notwithstanding demand, this type of housing is now more difficult to develop due to increases in lending rates, site costs and building costs.  Nationally, there is also demand for high-end senior rental housing, which is usually developed in vacation or resort areas as well as in some downtown areas, which should be pertinent to safer areas of downtown Cleveland.  Generally, demand for student housing is also increasing post pandemic, which is relevant for downtown Cleveland due to the presence of Cleveland State University and – to a lesser extent – Cuyahoga Community College.

Why Would Renters Want to Live In Downtown Cleveland Apartments?

One thing about the recent apartment boom in downtown Cleveland is that many recently constructed or renovated communities feature the latest in technology, unit amenities and property amenities that certain renters want. Developers are offering these technological upgrades and amenities because they know that consumers will pay for them. Today’s apartment communities are significantly different than most of the pre-existing supply because of technology and amenities and much of the region’s new advanced supply has been built in downtown Cleveland. Renters choosing downtown over the suburbs are likely simply doing so because of lifestyle preferences, unit technology, or various amenities. In other words, developers are delivering what many renters want. According to RealPage, Cleveland rents are increasing by about 3% so renters facing cost increases for rent may just decide that what they are looking for is in downtown Cleveland.

What Is In These New Units? Technology.

According to architect Joe Berardi, “technology is one of the areas where prospective tenants will pay particular attention.” Working with technology specialists, Berardi says his team “works to find creative ways to incorporate as many features as possible (within reason) that are easily controllable – ranging from security systems and locksets to thermostats and appliances.” The Berardi firm’s overarching goal is to determine how they can incorporate technology features that are user friendly, dependable, and compatible with various devices in ways that result in user friendly environments.

Turning to amenities within units beyond technological features, Berardi’s firm has found that high-end, low maintenance and durable products are desirable. Berardi says there is a strategy to his firm’s approach:

Thinking about the way tenants occupy spaces, we want to identify the priorities of where the high-dollar items are utilized while finding cost effective solutions in areas with less traffic/use. Kitchen cabinets and solid surface countertops (i.e., quartz) represent areas of high visibility and high use which dictate spending more while storage areas and closets represent low visibility and less priority to spending more. While the focus for storage and closets represents low visibility, it remains a high priority to provide ample storage – resulting in a compromise in the strategies employed by the design team. Another area is the usage of Luxury Vinyl Plank/Tile (LVP/T) products that come in a wide range of colorways and patterns – mimicking high-end natural products like marble and wood – and easily maintained and/or replaced by developers at unit turnover.

Property Amenities Have Evolved Significantly

Berardi says that an architect’s design approach for property amenities starts with creating a hassle-free lifestyle for residents and creating an overall experience within the building. There has been a notable evolution in the caliber of amenities. “For instance, what used to appear as a standard residential coffee bar has transformed into a luxury café experience. Similarly, gyms have transcended the conventional setup of a treadmill and free-weights to feature Peloton bikes and state-of-the-art equipment – such as Rogue. Common areas have been reimagined as vibrant entertainment hubs or serene spaces for relaxation rather than utilitarian corridors/spaces.”

There has also been a trend by developers to offer luxury package programs that feature concierge services, attentive property management, valet trash services, covered parking and a mixed use experience that incorporates a commercial use component such as food and beverage, community retail, or personal services. Nationally, business center spaces are being replaced by co-working spaces at various sizes, and both bicycle repair and storage facilities are becoming standard. Across the country, service oriented amenities such as housekeeping, valet dry cleaning, and social event coordination and programming are also becoming more popular. Lastly, new apartment communities are increasingly more pet friendly with dog parks and pet wash areas.

Neighborhood Amenities Remain Important

Early on in the downtown multifamily development wave, cost conscious and savvy developers abided by the axiom that the surrounding city itself is the amenity for downtown apartments. Even now, whatever is in – or not in – the neighborhood within two or three blocks of an apartment community significantly impacts the desirability of the community and its units. Several local analysts offer that the activities, services and attractions offered by neighboring land uses could help stabilize the demand for downtown living. One seasoned market analyst that preferred to remain anonymous provided his observation that vacant commercial spaces in mixed-use buildings impair desirability in the minds of prospective rents and contribute to vacancy rates in the development’s apartment units.

Historic Office Building Conversion v. New Construction

When asked about general considerations regarding differences between the conversion of historic office buildings to apartments versus new construction apartments, Berardi said:

While many consider new construction as the best opportunity to achieve sustainability, adaptive re-use is possibly the single best way to conserve resources and reduce construction and pollution. This also offers a great deal of opportunity to find creative ways to address design challenges of changing a building’s character and functional use into a creative design product and repositioning a building for a further 25-50 years.

Berardi continues that in many cases, the transformation of underutilized or outdated Class ‘C’ office spaces that can be found throughout any city and that are often considered to be eye-sores represents a multi-fold opportunity. Transforming vacant office spaces in a mixed-use building to another use brings back the vibrancy of what are often depressed sections of cities. Berardi says that this transformation can be seen in Cleveland where many developers have utilized the benefits of the historic state and federal tax credit programs. Conversely, in areas where flat surface area remains (i.e., surface parking lots), new construction provides ample opportunity to develop valuable surface lots in the heart of some cities.

Unit sizing and design is another point to consider when analyzing historic office building conversion in comparison to new construction. According to Clark, while the actual square footage or size of a unit is important, the design of a unit is more important. “Potential renters never really inquire about the actual square footage but will immediately notice if a unit has a lot of wasted space.  In downtown areas with a lot of adaptive re-use development, this become more challenging, but if the project is new construction, the layout is more important than the actual square footage.”

Did the Pandemic Have an Impact on Design?

According to Berardi, the pandemic is responsible for the largest impact on apartment design in recent history. According to Berardi, “the single largest impact to the [apartment] design industry in the last 5-10 years is how we address air quality in response to the COVID-19 pandemic. As part of our due diligence, we focus on how the different project types and program requirements and determine what systems make the most sense ranging on factors such as indoor air quality to air changes per hour and how we balance fresh air brought into the spaces – both mechanically and through natural ventilation.”

The Pandemic Also Influenced Sustainability

Sustainability has been a priority of the apartment design profession for many years now and is incorporated into most architecture firm’s standard practice. However, pandemic ripples have impacted sustainability. Berardi says that while many designers and professionals feel it is their professional duty to pursue sustainability practices in design, the industry’s sustainability efforts remain challenged in many areas based on increasing construction costs and issues with product availability. Sustainability remains a focus based on documented environmental and personal health impacts. The overall effect of sustainability practices can be seen in various studies conducted by professional institutes that address not only the environmental impact of sustainable design choices and selections on the macro level, but also on the micro level addressing occupant comfort (i.e., indoor air quality and access to natural light, which helps syncing with Circadian Rhythm).

Going Forward: Various Headwinds Challenge the Current Development Environment

Outside of residential and office tenant demand, current challenges for many in the development world include construction product availability, as supply chain remains an issue for many categories of equipment and materials – especially electrical equipment (i.e., switch gear, generators, etc.).

Just before the pandemic, the development landscape was prime – rates were low, construction costs were relatively low and demand was high. The development community responded accordingly and flooded the market with new product, driving up demand and pricing for materials and labor. Even when there were storm clouds on the horizon, some of this pipeline product was already too far along and moved forward when such product probably should not have. With a locked in low financing rate and pre-purchased construction costs, developers were somewhat ‘pot committed’ to bring developments to market.

In the current environment, project underwriting has become tighter and more challenging, leading to complex funding sources to bridge gaps in funding. Being resourceful and utilizing alternative funding sources has become the necessary norm, especially where brownfield development in downtown areas competes with suburban greenfield development opportunities.

Conclusion

As we have previously written, given the overall success of residential living in downtown Cleveland, it seems apparent that people still want to live downtown if given the product – and neighborhood amenities – to meet their demands. It would only follow that more people would want to work in downtown Cleveland if competitive and desirable office buildings were available to meet their demands. Office occupiers battling in competitive business climates – and those in office jobs wanting to maximize their careers – should want to avail themselves of the greater network effect benefit potential that exists in downtown Cleveland.

For downtown Cleveland, the puzzle is: how do City of Cleveland planners and program managers work with landlords, architects and the rest of the development community to create vibrant, attractive and productive places for office work? One piece of the puzzle still could be for the City to offer or coordinate strategic assistance to. or in support of, office building owners to incentivize them to upgrade buildings to meet office tenant demand. Given the current office lending environment that is challenged by regulatory challenges, much higher interest rates, and decreasing values at this point in the cycle, now is the time for action for office buildings, especially given the symbiotic relationship between apartments and office buildings in downtown Cleveland. Apartments still need incentives to work in downtown Cleveland and office buildings need them now more than ever. Preserving and investing in downtown Cleveland office buildings helps downtown Cleveland apartments and helps greater Cleveland maintain its economic core.

KJK will continue to monitor emerging office market conditions as they develop. If you have any questions, please contact KJK Partners Steve Marrer (SAM@kjk.com; 216.726.7267) or Richard Morehouse (RAM@kjk.com; 216.736.7292).