A San Diego developer is converting a vacant medical office building into micro-apartments, a strategy that may work in other regions facing a shortage of affordable housing and high counts of aging or obsolete offices.

Hotel Investment Group’s traditional focus has been on hospitality properties, but one of its subsidiaries is in the process of redeveloping an empty, 1975-vintage medical office property at 7798 Starling Drive into a micro-unit apartment building with 90 units ranging from 320 to 450 square feet.

Renovation of the two-story property is expected to be completed by year’s end in the Birdland area of the high-demand Kearny Mesa neighborhood of central San Diego. Developers said monthly rents at the renamed Starling Place will range from $1,600 to $2,000 — below the San Diego regional average of $2,143, which is up 12.5% from a year ago in a market with a slim 2.3% vacancy rate, according to CoStar data.

“We are meeting an essential housing need in one of San Diego’s most ideally situated urban hubs,” said Darshan Patel, CEO of Hotel Investment Group and its DPA Capital division, which is overseeing the office overhaul.

Development costs were not disclosed.

Despite housing shortages in many large cities, micro-units have yet to catch on. A 2014 report from Urban Land Institute defined these units as being from 100 to 500 square feet and generally priced from 20% to 30% less than traditional apartments in the same neighborhood. They have been built mostly in urban areas of major cities such as Boston, New York, San Francisco, Seattle and Washington, D.C.

Patel told CoStar News that the concept is gaining ground in housing circles, though he’s so far not seeing it being deployed nationally on a large scale. The reuse strategy is a priority for DPA Capital largely because it offers a way to build more apartments in less space while keeping units at below-market rates.
The idea is to devote more of the project’s 46,000 square feet to rentable units and less to communal amenity spaces — such as gyms and clubhouses — that often go unused but drive up construction and rental costs in traditional apartment projects, Patel said.

The strategy is among several that have surfaced in many states, but especially in high-cost California, as developers, housing advocates and government leaders deal with a worsening shortage of housing that is affordable to working families.

Housing demand in California has outpaced construction for the past two decades as home prices have risen significantly and consumers are priced out of single-family housing and many types of apartments. According to the state’s Department of Housing and Community Development, California needs to boost its supply of housing by at least 1.5 million units by 2029 to keep up with demand. The San Diego region alone is responsible for adding at least 100,000 of those units.

Old Becomes New

Real estate economist Alan Nevin told CoStar News that repurposing older and underutilized office properties — generally those built 40 or more years ago — could be a viable and relatively affordable way to supplement housing being produced through traditional residential projects in San Diego and other high-cost cities.

“We have numerous older office buildings around the city that are considered ‘C’ quality or in many cases just obsolete,” said Nevin, director of economic and market research at consulting firm Xpera Group in San Diego. “It makes sense that you could see some of those get repurposed as micro-apartments.”
Nevin said the micro-unit conversion concept is gaining traction nationally but is still primarily deployed by smaller regional developers and investors in urban pockets that have already been developed and are now seeing reduced use. Larger multifamily developers tend to emphasize projects at larger scale and higher price points to optimize their return on investment, especially in California and other states with high construction and land costs.

Micro-units in dense urban areas could help replace the stock of what are known as single-room-occupancy, or SRO, properties, containing what are sometimes referred to as efficiency apartments that sprouted in downtown San Diego several decades ago, often in repurposed older hotels and motels.
Nevin noted downtown had 12,000 SRO units as of 2000 but that number has since shrunk to fewer than 6,000 as older properties were torn down and replaced by luxury apartments and other high-end commercial projects. A few micro-unit projects have been built downtown over the past five years, though the concept remains rare elsewhere in the San Diego region, he said.

CoStar data shows Hotel Investment Group purchased the Kearny Mesa property for $4.2 million in December 2017. Developers said the office-to-residential conversion has proceeded smoothly, though such a project does pose some structural design challenges.

“This kind of conversion requires you to be very creative when trying to draw straight lines in an existing building” between residential-oriented elements that will be configured differently from an office setup, Patel said.

Plans for Starling Place include a communal laundry and common parking areas, with each of the one-bedroom and studio apartments designed in a “Modern Euro” style. Patel said developers are aiming to appeal to traveling professionals, college students, nurses, military personnel, young couples and others looking to save on rents.