Midyear U.S. Economy Mixed for Companies Evaluating Commercial Real Estate Needs

"Growing but uncertain" is the mixed message the U.S. economy is sending at midyear. Employment is up at the same time as housing sales are down, and increased economic growth faces fears of inflation and foreclosures.

The average of 145,000 jobs added monthly so far this year is considered a robust rate of growth, and the unemployment rate of 4.5% is near a six-year low. While job growth is a good sign generally for the economy, it can also increase the demand for office space, increasing effective rental rates overall.

Concern about inflation was fueled by the record surge in gasoline prices, but other categories of goods and services saw price declines, holding the overall inflation rate to 2.7% so far this year. Yet the ripple effect of higher energy costs on prices will continue. For tenants, higher inflation can mean increases in the cost to build out space and increases in the cost of doing business in general, potentially affecting relocation decisions.

Economic growth is back on track, having jumped in the U.S. from a meager 0.7% in the first quarter to a healthy 3% in the second. This meant the economy needed no more stimulation, and the Federal Reserve kept interest rates steady as they have for the year. Higher interest rates could impact landlords' availability of capital for tenant improvements and base building upgrades as well.

Finally, concern continues about the housing market, with sales of existing homes down 10.3% in May from a year ago and foreclosures on the rise. The ability of the U.S. economy to be resilient and absorb the foreclosures and surplus of homes will determine if economic growth stays positive. For tenants, positive growth will hopefully drive the revenues needed to cover long-term financial commitments like leases for commercial space.

A Letter of Credit Might Be a Smart Option to Secure a Lease

Cash is often in short supply at rapidly growing companies. Yet the need for more space can also be pressing. To avoid substantial cash security deposits, many companies turn to letters of credit.

Commonly associated with international trade, a letter of credit is a binding document issued by a bank that guarantees to provide funds if certain conditions are met, such as goods being shipped. But a letter of credit can also be crafted to cover obligations in leasing space.

Landlords typically like a letter of credit because it is an independent contractual obligation with the issuing bank, rather than an asset of a tenant. This becomes vitally important if a tenant becomes insolvent and its assets are tied up in court. A letter of credit can also be written to cover nonpayment of rent for a year or more, possibly greater than a cash security deposit the tenant could afford.

Tenants, especially high-tech firms financed by venture capital, value the way a letter of credit can potentially make cash available that would otherwise sit as a security deposit in a landlord's non-interest-bearing bank account. A letter of credit can also replace the need for personal guarantees on the lease from company owners, which can affect personal assets and most owners like to avoid if at all possible.

To get a letter of credit, a tenant will need a strong relationship with a bank that knows its business, and pay a fee of around 1% of the outstanding letter of credit amount. (Some landlords will agree to have this amount amortize, which makes it less costly over time.) There are also legal costs. But when cash is tight, a letter of credit may be the best way to secure a lease obligation.

Older Buildings Can Also Be Green

If your company wants to lease space in an energy-efficient "green" building, you might think that your choices will be limited to new construction. And indeed, much of the attention devoted to environmentally friendly buildings does focus on new projects that are designed to be green from the ground up.

But there is a certification process for existing buildings as well under the same Leadership in Energy and Environmental Design program that certifies new construction. LEED for Existing Buildings takes a look at how a building is operated and maintained. It seeks to maximize operational efficiency while minimizing environmental impacts. The intent of LEED for Existing Buildings is to provide a way to certify the efficient operation of a building and create a plan for ensuring high performance over time.

In addition to energy efficiency, the LEED rating system for existing buildings addresses whole-building cleaning and maintenance issues including chemical use. This is part of the way ongoing indoor air quality is maintained, along with temperature monitoring. The performance of lighting fixtures and available daylight are also measured. The rating also considers recycling programs and facilities, along with exterior maintenance programs. Even a building's orientation on its site and proximity to public transportation factor in. Major upgrades to lighting or heating systems are not necessarily required.

Tenants can be assured that when building owners and operators use LEED for Existing Buildings to certify a building, they are working with a recognized, performance-based benchmark that measures operations, improvements and maintenance on a consistent scale.