JBG Smith Sees Office Pain Continuing 'At Least' Through 2025
Declining office occupancy has taken its toll on JBG Smith, and the D.C.-area landlord doesn't expect to escape the red anytime soon.
The Bethesda-based REIT's 7.2M SF office portfolio was 82.3% leased at the end of Q2, down from 84.6% three months earlier, despite recording 166K SF of new leases in its most active quarter in three years, JBG Smith reported Tuesday evening.
The REIT reported a net loss in the second quarter of $24.4M, up from $10.5M during the same period last year. JBG Smith's stock price dropped by about 3.6% as of early Wednesday afternoon, and it has lost more than half of its value since the pandemic.
The company expects 485K SF of occupied spaces in its National Landing submarket will be vacated over the next 18 months. JBG Smith CEO Matt Kelly wrote in his quarterly letter to investors that these vacancies will put downward pressure on its net operating income and its overall earnings.
"We expect this pressure to persist at least through the end of 2025," Kelly wrote.
The CEO voiced optimism around new momentum in office leasing, saying that JBG Smith has seen success in backfilling some spaces that were vacated over the last year.
"Our current prospect pipeline is stronger than it has been in years and indicates a potential increase in new leasing activity," Kelly wrote.
But he noted that the overall D.C.-area office market is facing challenges due to a "permanent change in tenant demand patterns," and market data indicates a return to pre-pandemic levels of absorption is unlikely.
To reduce its exposure to the struggling office market, JBG Smith is continuing to take buildings out of service and redevelop them for multifamily, hospitality and other uses.
This year, the landlord took its 1800 South Bell and 2100 Crystal Drive buildings in National Landing off the market after Amazon exited its short-term leases at the properties to move into its new HQ2 campus. And Kelly wrote that it has begun phasing out 2200 Crystal Drive as tenants vacate. Removing these three buildings will reduce JBG Smith's National Landing office stock by 12%.
Meanwhile, it is doubling down on select office buildings that it sees as primed to take advantage of the flight-to-quality and consolidation trends in the market.
The REIT launched a $40M repositioning effort last month at 2011 Crystal Drive, building out a suite of amenities that will be available to tenants in its surrounding buildings.
"Tenants are going to shrink, so let’s be the building that’s the easiest possible place for them to shrink into," JBG Smith Chief Strategy Officer Evan Regan-Levine told Bisnow last month.
JBG Smith is also leaning further into the better-performing multifamily sector.
Its 6,318-unit portfolio of stabilized multifamily buildings was 96.9% leased at the end of Q2, up 1% from the prior quarter.
The landlord began moving residents in February into a pair of apartment towers on Crystal Drive in National Landing totaling 808 units. Kelly said in Tuesday's investor letter they are now 49.5% leased and "continue to lease faster than any of our multifamily deliveries since 2017."
And it has another 775 apartments under construction in the neighborhood at 2000 and 2001 South Bell St. Kelly said the additional income from the lease-up of these buildings should help offset the downward pressure on earnings from its office portfolio in the coming quarters.
The CEO also sounded a positive note about the overall commercial real estate market, pointing to slowing inflation and expected interest rate cuts as a reason to believe for the first time in years the market is "poised for recovery."
"Recovery periods in the real estate cycle often take some time to build, but market sentiment would suggest that the bottom is here, if not behind us," Kelly wrote in his letter.
