The classification of commercial office buildings is an art, rather than a science. However, it wasn’t long ago that it was pretty obvious which buildings were Class A and which were Class B. It was apparent by just looking at the outside of the building and where it was located, what class it was grouped into. Now, the lines are more blurred. What may look like a Class B building on the outside could completely surprise tenants upon walking through the doors. How are rent increases and vacancy rates changing demand for these classes? What other variables are shifting the demand and makeup of the landscape?
Traditional Class A & B Buildings 101
Although the lines are getting blurred, let’s first discuss the general differentiators between Class A and B office buildings. Generally speaking, Class A buildings will be high-rises of at least 30 stories, have higher-end amenities, include under-ground parking, and provide 24/7 security, to name a few. Conversely, Class B product generally has a less efficient layout, smaller windows, older HVAC systems and many times with columns in the way of the rentable space area and windows — making it less energy-and-space efficient.
While classification criteria varies from market to market, it is clear that most of the top markets in the U.S. are working with very similar checklists. “In Los Angeles, for example,” says James Malone, senior managing director in Colliers’ Los Angeles office, “it was historically based on age, how many floors the building had (30 plus stories at minimum), whether there was underground parking, onsite property management, 24-hour security and amenities like retail shops, fitness centers and valet parking.” Public transportation is very important to markets like New York and Seattle, where, historically speaking, if the building was not along the subway or light rail system, the building would not be as desired and it may fall into the Class B or even C category.
However, some other factors that used to be a dead giveaway, like the age of building, location of said building and the LEED certification are no longer accurate markers.
The Changing Landscape
In today’s commercial real estate world, most top markets have flipped to a landlord market where supply is constrained and the demand for office buildings (especially large blocks) are at an all-time high. This low vacancy has pushed rents higher and higher, and in many cases, tenants are looking to Class B office buildings because of cost. For example, German airline company Lufthansa, moved from a prominent Class A building into a much more cost-effective Class B building right next door.
Also, many of the extras that differentiated Class A from B are the near standard for most buildings today. In recent years, developers have redeveloped many older structures to enhance the tenant amenities to command premium rents as trophy buildings (or Class A+). Renovations like refinishing lobbies and shared spaces, introducing 24/7 security and enhancing HVAC and other building systems to provide a more energy efficient environment, have flooded the landscape. In Washington, D.C. for example, over the past six years, at least five buildings a year have undergone major renovations to reposition them from Class B to Class A.
So how do we distinguish buildings now?
In Los Angeles, an amenities race is heating up. Many owners are going through extensive renovations of lobby and common areas by doing things like removing water fountains and adding outdoor seating as well as bringing in big-time retail tenants, like the Alamo Drafthouse, converting a Class B building on the outside to a Class A building on the inside.
Another differentiating factor is whether buildings were built from the inside out or outside in. “Years ago, buildings were built for the exterior aesthetics (outside-in),” says David Burden, a top Colliers broker in Chicago. “But now the focus is on building for internal efficiency, or from the inside-out. Giving buildings more self-generated spaces (like atriums), bigger windows and more energy-efficient systems.”
But is Class A space always the most desired? The current climate indicates that this is, in fact, not the case anymore. Many outliers exist in markets all over the U.S. There are tenants who want Class A, but they need big blocks of space and need to move soon. Because the availability of big block Class A space in markets, like Chicago, is limited and it takes years to develop a new block, these types of tenants often have to take a previously classified Class B space. But is it still Class B?
Additionally, take the adaptive re-use trend popping up all over the country. Many buildings could be classified as Class A because of price and renovations but because they were built in the 1960s, where do you put it?
And what about technology firms that have a heavy millennial employee base. They’re looking for that trendy, gritty, exposed brick space, which, in most markets, is essentially Class B loft space. In some cases, brokers are actually seeing some developers renovate towards this “feel.” These buildings are often far inferior in terms of quality and efficient systems, but because they’re just as high in demand as a Class A trophy tower, the waters become even more muddied.