Teaching an old building new tricks is a growing trend in the commercial real estate investment industry. Adaptive reuse is the process of finding an older building that once served a now-obsolete purpose and renovating it to take on new responsibilities. Historic buildings, like those in the notable Distillery District in Toronto, tend to be prime candidates as this makeover process preserves their architectural character and conserves their place in the community.
There are many advantages to adaptive reuse which real estate investors may find intriguing, such as tax incentives for historical preservation offered by federal and municipal governments; potential cost savings on development, particularly in the current trade-war climate that is boosting foreign steel and aluminum prices; leverage associated with the historic angle these properties present; and the favorable location of these historic buildings, which tend to reside in densely populated cities with future-growth capacity. These structures also benefit communities as a whole, improving the streetscape and contributing to the feeling of a more walkable and accessible space.
Applying Adaptive Reuse
Companies often snatch up historic real estate if they want to use it to their brand’s advantage or to establish a unique presence in the market. But not just any historic building can receive this repurposing treatment. According to “Adaptive Reuse” published by MIT, properties need to meet certain criteria to be eligible for this process:
- The site must express strong historical value within the neighborhood in terms of its street-facing facade as well as its ability to connect residents to the era it represents.
- The property must represent some societal value that community members and visitors could benefit from.
- The site’s structural integrity must be strong enough to support future use and its environmental conditions must be able to support renovations or other work.
DBRS-Rated Adaptive-Reuse Properties
Adaptively reused properties sport a high appraisal value because of the neighborhoods to which they belong and the historical value of their buildings. Based on a collection of these properties, the average age is 118 years, the average occupancy is 92.7% (suggesting a higher demand and tenant commitment, especially with office properties) and the average appraisal value is $187.5 million. The majority of recycled properties on the DBRS Viewpoint platform served industrial purposes before converting to another purpose. Piper’s Alley in Chicago’s Old Town neighborhood once served several purposes in the early 1900s, including a family-run bakery, but has since been reimagined into an entertainment hub featuring Second City, a famous improv comedy group present in the property since the 1960s. Piper’s Alley continues to enjoy broad appeal contributing to the walkable scale of a village within a big city and improving the overall urban landscape in its neighborhood. If Piper’s Alley had been demolished to make way for a newly constructed property, the opportunity to repurpose this historical landmark would likely have been missed. Many other buildings within the DBRS Viewpoint set and worldwide have similar stories.
Extending the Trend
Although not included in the DBRS Viewpoint set, Chicago’s River East Plaza is another great example of adaptive reuse at work. The “North Pier Terminal” was originally developed in the early 1900s as a bonded warehouse using the Ogden Slip, a private waterway with access to Lake Michigan. In the mid-1980s and 1990s, the pier was restructured to create office uses and to bring in retail tenants. Because of the rapidly changing character of the developing neighborhood, the property also met demand for the area’s need for public event space. In the 2010’s, the building became a multifamily apartment structure with retail tenants on the first floor, including Target, Pinstripes and other restaurant/entertainment venues.
Adaptive-Reuse Risks and Rewards
Property investors and managers can enjoy many benefits by adopting an historic property and converting it to serve a more practical purpose, the first of which is tax incentives. The federal U.S. Government issues a 20.0% rehabilitation tax credit for construction costs as long as the building fits the criteria. New York’s State Historic Preservation Office can issue the New York State Commercial Rehabilitation Tax Credit Program, providing 20.0% tax credits for expenditures on eligible rehabilitation projects to a maximum of 40.0% off construction costs. According to City Lab, the federal Historic Tax Credit saved prominent U.S. buildings such as the Apollo Theater in New York City (built in 1913 as a burlesque theater before becoming a famous Harlem-based project) and the Wrigley Building in Chicago (constructed by the chewing-gum tycoon, William L. Wrigley Jr., as corporate headquarters in 1920 and now serving as a historical office structure for many tenants).
As much as tax credits and financial incentives can offset construction and renovation costs, the strategy’s many other benefits appeal to investors and tenants alike:
- Renovating a building can be a much cheaper venture for companies than building a property from scratch.
- Many historically preserved properties are located in densely populated cities and prominent neighborhoods, which can benefit companies.
- These structures exhibit the character of other eras and create a more communal, urban space within the surrounding space, raising property appeal.
- Historic buildings, especially industrial properties, can be much more spacious and allow for a lot of interior-space manipulation.
- In light of new trade-war tariffs, renovation can help alleviate the costs of steel and aluminum required to construct brand-new properties.
But changing the purpose of an older structure is not foolproof — there are still potential concerns with adaptive reuse:
- Older buildings undergo more wear and tear than newer constructs, which can mean hidden costs in aged buildings including decay, structural issues, massive repurposing renovations, etc.
- Even after all investments and efforts are made, profitability is not guaranteed in a redevelopment, especially in a lower-demand neighborhood.
- Some older buildings may present some safety concerns if hazardous construction materials were used that have since been taken off the market.
Growing Opportunities for Adaptive Reuse
The adaptive-reuse trend is growing for a reason: advantages outweigh drawbacks. Establishing and maintaining a property’s historic and societal value should be a commercial priority for the community and for investors looking to own prominent properties. Urban landscapes are much more attractive with denser, more accessible areas that improve space in neighborhoods. The tangible economic benefits to adaptive reuse can also contribute to a neighborhood’s sense of place and character, drawing more visitors and increasing the values of all property types in the area. Before deciding to retire buildings, investors should look more closely at assets — not what they are, but what they could be.
A copy of this research is available on the DBRS website and the Viewpoint blog.
Follow Stephanie Hughes on Twitter @StephHughes95.