Six forces are converging in a post-COVID New Zealand that will fundamentally change our urban centres. Left to converge, the results could be untenanted building stock and distressed landlords alongside the now age-old housing affordability problem afflicting our younger generations. 

But, with development industry foresight and councils and Government helping to front foot, an alternate reality could see the rise of repurposed building stock as mixed-use vertical communities, creating new models of sustainable urban living.

1. Recession

Firstly, out of COVID, we will be in recession; how deep, no one knows. But if we look at history, and post-1987, we will see a similar pattern of the drop-off in demand for commercial office space, with businesses taking smaller tenancies and vacancy rates spiking. 

While the forces at play in 1987 were different, the recessionary effect is the same. On Black Monday — October 19, 1987, the biggest one-day fall in the history of the stock exchange – the Dow Jones fell 22 per cent in one day. Compare that to the near 30 per cent fall over two weeks of the Dow Jones in March this year and it gives some idea of what the COVID recession could look like in terms of severity.

Australian banks are forecasting house prices will fall 10 per cent in the next year and, according to Australia’s largest home lender (Commonwealth Bank, owner of ASB Bank in New Zealand) they could go down 30 per cent if the downturn continues in 2022.  

We will also see in a recession a pressure on people’s incomes: where there were two incomes in a household, there may be one now, or two reduced incomes. 

The ending of the New Zealand Government’s wage subsidy – which, to some extent, has kicked the can down the road – will bring with it a wave of redundancies, liquidations and unemployment that could make the GFC look like a training day out. 

Recessions, unemployment, falling house prices and building vacancy rates all go hand in hand. 

2. The drift to A-grade stock

Combine the above with an already-noticeable drift into newer, flashier A-grade buildings – as an example, 3,200 people in Auckland’s CBD are still scheduled to move into the new $1 billion, 40-storey PWC tower in the Commercial Bay precinct this year. This drains other areas, like Shortland Street in Auckland, of tenants and life. In Auckland, pre-COVID vacancy rates in B- and C-grade space increased to over 15 per cent. 

Businesses had already started to ‘trade up’, moving to new, modern, seismically safe premises. It’s no surprise the Britomart precinct is fully occupied and has Auckland CBD’s lowest vacancy. The same is true of Wellington’s CBD, and Christchurch, post earthquakes; it is all-new. 

There will be more of this drift post-COVID, as businesses seek modern, hi-tech and safe workplaces. What had been A-grade stock becomes B- and C-grade, and untenanted. 

3. Remote working uptake and ‘downsizing’

Now that businesses and their staff have experienced first-hand remote working at full blast, they will likely continue with it in various forms. And many staff, having had a taste, now want the flexibility of working between office and home.

The current financial constraints that businesses are under combined with laid-off staff freeing up more office space and the move towards remote working for their remaining workforce, businesses will be looking to downsize tenancies or move to smaller spaces.  

The headline story in the 21 May edition of The Australian gives some indication of the carnage this will wreak on commercial landlords over the ditch, where “almost $50bn could be wiped from the value of commercial office properties across Australia’s major cities as a surge in the number of work-from-home staff forces employers to reassess how they operate their businesses and dampens demand for a corporate footprint in central business districts.”

The same will be true of New Zealand’s city centres. Landlords will be competing for an ever-smaller supply of commercial tenants, with the new, seismically sound, hi-tech buildings being the winners. The 30 to 40-year-old ‘old bods’ of commercial will experience the pain, with tenants moving out. 

According to economist Tony Alexander, “Few new office buildings are likely to be built in CBDs around the world. The trend to remote working is widely expected to lead to reduced demand for office space in city centres.”

4. Hotel boom left under-utilised

Along with these three forces, we’ve seen the biggest hotel construction boom in New Zealand between 2017 to 2020 where, in all cities, a record number of new hotels were either built or repurposed. But now, they don’t have the international tourists to occupy them, potentially for some years.

In 2019 alone, a $2 billion boom created over 1000 new hotel rooms in Auckland, Wellington, Queenstown and Christchurch with another 3900 under construction into 2020, some two thirds in Auckland. This was all off the back of international visitor numbers soaring to nearly 3.9 million in July 2019. 

​That investment in building stock and hotel rooms was built on an international tourism forecast that has literally disappeared overnight.

That is just the new stock. The majority of the country’s hotel stock is dated, with many built in the late 1960s and early 1970s. Post-COVID, we hear of hoteliers talking about how to repurpose their older stock into strata title for private units and affordable housing.

If we don’t expect a return to 2019 international tourism levels in the next two to three years, we need to rethink how to purpose this new and old hotel stock in meaningful ways. 

5. Retail moving online

With more and more retail moving online in a post-COVID world, this will equally put pressure on large landlords and malls. Reduced margins and online trading literally means reduced tenancies. 

Online sales are predicted to double in the wake of the pandemic, with up to 20 per cent of brick-and-mortar stores expected to shut for good, according to a recent report from global financial services provider UBS.

The pivot to online shopping as a major trend is expected to continue post-health crisis. And while retailers that survive won’t abandon the bricks and mortar combination, they will be vacating existing tenancies, looking for smaller footprints and cheaper rents.

6. Housing affordability 

Nothing alters the reality that house prices have risen over twice as fast as incomes in the past 10 years, and we have a whole generation priced out of the market. And with deposits of 20 per cent required and banks tightening up on credit, they continue to struggle to get into the market, even with historically low interest rates. 

Out of COVID, the banks are ‘spooked’ by the very high numbers –some 100,000 mortgages in New Zealand and 730,000 mortgages in Australia– asking for and receiving some sort of mortgage holiday. This, combined with rising unemployment and precarious employment, means the banks will be even more reticent to lend to young people, the very people most likely to be laid off in this environment. It is very unlikely they will relax their credit criteria, and more likely that they will tighten them as they go into risk mitigation mode. 

Millennials are often the worst affected: unable to own and unable to save deposits due to high rents. They are also the generation most seeking the amenity, convenience and ‘vibe’ of living in the city centres.

A way forward: Mixed-use and vertical communities

Now, more than ever, we need to be thinking about innovative solutions to address these problems: both the landlords and hoteliers with unoccupied buildings and the young generation struggling to own property and afford rents. 

Many buildings in our cities are fine structurally and, yes, they need upgrades, often seismic, but they could be repurposed into what are relatively new concepts in New Zealand: vertical communities, mixed-use models and alternative models like co-living and co-housing.

Good urban development post-COVID will involve repurposing old or distressed stock to support flexible mixed uses. 

Repurposing untenanted older stock isn’t a new idea. There was a spate of development around 2015 in Auckland where older office buildings were repurposed into new residential apartments and snapped up by the market. Among the benefits were the large floor plates, high ceiling studs, views, carparks and inner city amenity.

The challenges for developers were primarily in making these developments viable, with structural and seismic strengthening and rezoning costs having to be factored into the development equation.

What we have is an opportunity to do mixed-use in a way we’ve never done it before. Examples are ground level activation with retail and hospitality, commercial mid-levels, with residential living at the top. 

Mixed-use also isn’t new, but it is relatively new in New Zealand. And mixing up more uses, such as co-working spaces and new residential models like co-living, will involve some innovative thinking. 

Mixed-use has the benefit of being more resilient to market shocks, as you have a variety of asset classes in one: e.g. retail, residential and commercial. When one income stream goes down, you have the others to fall back on.

The trick is do mixed-use well and create vertical, green communities. And that means a few things: 

• Relaxing our planning rules to allow mixed-use and different business models operating in one building
• Drawing on international best practice and co-living models like those from California. International housing management models like co-living in repurposed city blocks for young professionals is a great solution for landlords and millennials alike
• Investing in urban design and our social and green connectedness. Think living walls, green rooftop gardens, shared amenities and bringing nature into our cities
• Investing in the right residential product mix for today’s generation
• And opening up our capital markets to allow investment in to make this a reality, as we don’t have the capital depth in the New Zealand market to really do this well.

Greening Up

Regenerative design and repurposing old stock – over building new – is the single most sustainable thing we can do in the construction sector.

The millennial generation is seeking green in design, in the economy, and as a way of living. They will also pay for it. If there was one lesson out of COVID during lockdown it was the importance of bringing nature into our cities. When you can’t get out to nature, it is really important to bring it in.

There is a whole mental health and wellbeing equation that goes with bringing nature into our urban environment. What this could look like is green vertical communities with communal roof gardens, living walls, etc. 

Enabling capital flows

Historically, New Zealand has a capital problem. Our start-ups look offshore for investment. Our capital markets are relatively shallow. And, we have a well-intentioned Government that is currently positioning itself as the country’s ‘developer’ on borrowed money. 

Add to that the real post-COVID problem for development: Landlords are often developers, and when their rental incomes are diminished or uncertain, they don’t have the confidence or leverage with financers to get capital to invest in development. The net effect is a reduction in development finance and development activity.

To really unlock urban development, and to innovate and flourish in what is a much more tenuous, capital-poor world than pre-COVID, there needs to be a rethink on capital inflows.

Capital is ultimately the key enabler for good urban development. Unlocking it, and paths to it, is critical to reimagining our urban development and getting to better.

The good news is there are plenty of people in the world that want to invest in New Zealand. Now, more than ever, we are positioned on the global stage as the country of choice, a COVID-free island haven. Let’s leverage this.

While there was a review of the Overseas Investment Commission (OIC) in late 2019, it really only addressed investments where there was a ‘national interest’ lens. Post-COVID, we believe the OIC and the rules in place for foreign capital flows need to be relooked at.

This goes both for New Zealand companies with shareholdings listed on other stock exchanges or in other markets – where the OIC rules can act as barriers to development – and for overseas investors looking to be part of New Zealand’s development community. 

A relaxing and opening up of the OIC rules, particularly in light of COVID, would enable offshore capital and investors to stimulate development in our urban development and new models.

It doesn’t mean allowing foreigners to come in and buy up housing, increasing house prices for New Zealanders. It means putting frameworks around enabling capital inflows into development and investment activity and streamlining rules for corporates with a mix of on and offshore ownership.

Relaxing our planning rules

The other big enabler for this to happen is we need to simplify and relax our planning rules to enable flexibility of modes of use.

Local councils would need to get on board and help the development community to get to mixed-mode uses and enable repurposing and rezoning through simple, streamlined processes that allow different uses of a building, mixing strata titles with commercial and retail leases in models. 

There are real challenges for developers converting older stock, and developers need to be able to buy unlettable office and/or retail buildings at lower or discounted rates to factor in the ‘onion effect’. The ‘onion’ effect refers to the myriad of issues developers encounter when peeling back the layers of an older building in order to bring it up to code both seismically and structurally. Big issues like access, upgrading lifts and seismic strengthening on old carcasses can be very expensive. However, from an asset return, sustainability ROI and generational affordability ROI, the dividends can be huge.

If we come together to think as a development community about how to work through these post-pandemic realities, we can be more nimble going forwards. And, we can create better, greener, and more vibrant inner-city centres.

Out of every crisis comes opportunity.

The Urban Development Institute of New Zealand (UDINZ) is a newly formed organisation, chaired by Dame Fran Wilde, to encourage collaboration and unity within the sector. Learn more at udinz.nz.