Chicago's 'Zombie Buildings' Are Taking A Bite Out Of Office Values — And Their Numbers Are Growing

This Halloween in Chicago, the zombies frightening commercial real estate stakeholders aren’t out for brains. So-called zombie buildings are after property values and rent revenues, and they won't be limiting their presence to spooky season. 

Zombie buildings, properties with high vacancy and low utilization, impact adjacent businesses and transit systems, Boston Consulting Group Managing Director and senior partner Jeff Hill told Bisnow in an email. And that spells significant reductions in property, business and sales tax collections, as well as lost rent and plummeting values.

“When combined with high interest rates, these factors create a vicious cycle of lower rents, lower foot traffic, lower vitality and significantly lower building valuations — further reducing investment,” Hill said.

A BCG analysis projects that zombie buildings will cost Chicago billions of dollars. The consulting firm estimated that office building values are poised to decline by between $20B and $25B from pre-pandemic levels as a direct result, accompanied by a loss of annual rent revenues ranging from $2B to $3.5B.

The predicted “steady state” for a zombie building is one with about 60% to 65% occupancy, according to the BCG report.

Chicago’s CBD already has more than 30 such properties at 65% occupancy or below, data Transwestern provided to Bisnow shows.

The impact of zombie buildings on the surrounding area and the resources needed to reverse that impact over time are concerns for Collete English Dixon, executive director of the Marshall Bennett Institute of Real Estate at Roosevelt University. 

“The impact of that vacancy, the impact of that loss of office worker presence has a lot of ripple effects,” English Dixon said. “It's the rock in the lake. … It affects retail, it affects the perception of safety, it affects small businesses. It affects the whole ambiance of what was the vibrancy of Chicago.”

Some of the buildings with the highest vacancy rates in the Transwestern data have clear reasons for their lack of occupancy but unclear paths back to health.

The 490K SF building at 401 South State St. has been unoccupied for years. It was once home to Robert Morris University, which leased 355K SF from 1996 to March 2020, according to The Real Deal. Since then, Deutsche Bank filed a foreclosure lawsuit alleging the building's owner defaulted on its $47.8M loan on the property, and the building was auctioned off in a sheriff’s sale in March. It was purchased by special servicer CWCapital Asset Management for $20M.

Salesforce moved its main office space to a newly constructed trophy tower this year, vacating 116.8K SF at the office property at 111 West Illinois St., accounting for a massive chunk of the 235.7K SF available in the building, which is 48% occupied.

While office buildings with extremely high vacancy rates may be edge cases for now, an impending wave of distressed loans maturing is striking fear in many office owners that their number could proliferate.

Nearly 1 in 4 Chicago properties tied to mortgage-backed securities are distressed, the highest rate in the country by a considerable margin, according to an analysis by Kroll Bond Rating Agency released last month. The situation is even direr for office properties, roughly a third of which are in some form of distress, a rate that only trails Denver.

Two office buildings top KBRA’s list of notable distressed CMBS loans: Aon Center's $400M loan and Prudential Plaza's loan of $388M.

The Aon Center loan moved to special servicing in February, though a modification and three-year extension were negotiated this summer. The 2.8M SF office tower did, however, experience a 47% drop in value last month. A Morningstar report said the property was revalued at $414M, down from a valuation of $780M when JPMorgan Chase provided a $536M loan for the property in 2018.

The building was 76% occupied as of December 2022, a decline from 89.7% in 2018, although the Morningstar report says several new tenants have signed leases since.

This past summer, Wanxiang America Real Estate Group, majority owner of the 2.2M SF One Two Pru, requested its $389M loan be transferred to a special servicer ahead of its August 2025 maturity date, saying it hoped to secure a loan modification and extension to better position Prudential Plaza. As of July, ratings agency Fitch reported the owners were current on the loan.

At that time, the building was 78% occupied, though Wanxiang said it expected occupancy to decline over the next several years as leases expire, the Chicago Tribune reported.

“The reality is there is going to be refinancing and revaluation,” English Dixon said. “So even if maybe you're at a pretty decent leasing level and maybe you're at a pretty steady state of occupancy, that is going to be a factor in how your buildings are valued when it comes time to refinance.”

The fragile state of the office market, with zombies and distressed loans lurking, is already forcing some owners’ hands. 

On Monday, Blackstone put a 1.3M SF office property at 350 North Orleans St. in River North up for sale after its $310M loan matured and the company failed to obtain new financing, CoStar reported. The building is just over 65% occupied, according to JLL materials.

Though some in the industry remain focused on getting return-to-office numbers back to pre-pandemic levels, current trends may be here to stay.

Over roughly the past five months, Chicago office buildings have had about 53% occupancy compared to pre-pandemic numbers, according to Kastle Systems data. That number has fluctuated slightly from week to week, but it has been largely consistent. 

Kahler Slater CEO Glenn Roby said at Bisnow’s State of the Chicago Office Market event that Kastle’s 53% RTO rate might be the new norm. Trying to compare current trends with pre-pandemic activity is using the wrong standard. 

“The goalposts should be in a completely different place,” Roby said. “Trying to return to where it was is not what we should aim for.” 

More zombie buildings are sure to reanimate if remote and hybrid work trends continue. The BCG report says the rise of generative artificial intelligence is poised to exacerbate the problem, slashing the need for office space even more.

The difficult question is figuring out what to do with emptying buildings, English Dixon said. 

She said the market is “scratching its head” to figure out what its options are. Full-block buildings with minimal windows are hard to convert to housing, and conversion into big-box retail isn’t a good choice, either, English Dixon said.  

Ultimately, she said, it will come down to collaboration between multiple parties to find innovative solutions that utilize the available space. 

“Government and the private sector have to find a way to revitalize our cities, and zombie buildings are a huge threat to that,” English Dixon said. “We're going to have to find ways to work together to try to address that, to mitigate that. It's going to take some real creativity and take some real tough decision-making.”