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May 2009 |
Miller, Rubenstein,
Hoffman & Hawkinson
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2009: Market Perspective
 As most industry professionals projected, 2009 will not be a
healthy year for the commercial real estate market. Reports from across the country are indicating a significant surplus of available space, falling rental rates and vacancy rates not seen since the early 1990s.
For tenants that have weathered the vicious economic fronts, the timing is ideal, as there will be no shortage of attractive options available should a lease expiration be imminent. To slow the bleeding, many landlords are opening up to
very early renewals at substantial discounts for the promise of occupancy until the market improves. When that recovery gets underway, however, is also a decision-hampering concern.
The sheer depth of the current financial crisis has left many proven economists mystified as to when markets will improve. The array of esoteric investment product collapses and the global influence on the United States' vitality has
created a writhing nest of economic tentacles with border to border reach, impacting all corners of country. Landlords have no choice but to do all they can to secure occupancy while the mess is sorted out.
While the national office vacancy has only increased from 13 percent in the third quarter of 2007 to 14.3 percent by the third quarter of 2008, most real estate professionals are in agreement that vacancy statistics will worsen at least
until the end of 2010.
Rents for office space in some of the nation's most recognized markets--New York, San Francisco, Orange County, CA--may be 20% lower than they were two years ago. A drop of this magnitude will send many landlords scrambling and a large
number of them out of business. Much of the space that once belonged to large industry players will become highly discounted sublease space, socking landlords competing with direct space for lease squarely on the chin.
Central business districts, downtowns primarily, will be hardest hit in 2009. High traffic, high visibility pedestrian areas tend to attract investment advisors, insurance companies, banks and other professional services
companies--industry sectors hit the hardest by today's conditions.
Unfortunately, suburban markets are certainly not immune either. In some markets, such as Raleigh, suburban office vacancy will far surpass the rate of its commercial business district submarket. However, the nature of Raleigh's
sprawl-driven growth in the last 20 years has led to a less concentrated CBD.
Tenants on the hunt for space will be offered concessions not seen in some time, often going well beyond just abated rent. Serious reductions in rent, greater allowances and very favorable concessions will be spelled out in leases across
the country. Because of that, aspiring tenants would be wise to carefully tour potential properties with a tenant representative that has "real-time" market knowledge to ensure they are able to take advantage of this tenant-favorable
environment.
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Challenges and Opportunities with Financially Struggling Landlords
 The weakening financial wherewithal of commercial landlords
is leading to increased scrutiny by prospective tenants as commercial mortgage troubles continue to mount in today's unprecedented lending crisis. Since the real estate boom of the mid 2000's went up in smoke in the last year or two,
property owners are watching their "un-refinanceable" debt climb to dangerous levels.
Financially healthy tenants are beginning to steer clear of fiscally questionable landlords, and now it seems one of the more significant business risks in office leasing may very well be signing a lease with a soon- to-be insolvent
building owner.
Tenants have control of the commercial real estate market like never before. A typical "tenants' market" is part of the fundamental real estate cycle when the supply of commercial space outpaces demand. Often caused by a particular
industry sector bottoming out or a light recession, landlords respond by offering concessions to tenants, whether in the form of reduced rent, larger allowances and in general, more amenities for less. They tend to last for only a few
quarters, and the end is usually fairly predictable. Today, however, the real estate cycle as we know it has been dramatically thrown off its axis. Landlords, not tenants, are now often the trepidatious party at the negotiating table.
For tenants, creating the most cause for alarm is their ability to remain in their space should their landlord default on its mortgage. There are a number of protective lease clauses tenants must consider standard language today, such as
strict non-disturbance agreements. However, smart tenants are going a step further by asking (when appropriate) to review the financial records of their prospective landlord, turning the entire leasing market on its head. While it has
always been typical for landlords to review the financial records of prospective tenants, it may be the landlord who is now the riskier party in the transaction.
Tenants should also seek "self help" lease language that allows for them to hire and be compensated for a third party handling of building services that landlords are unable to fulfill as a result of financial hardship, such as minor
repairs and small construction projects. Additionally, tenants should give serious consideration to requiring landlords to place agreed upon allowances into escrow accounts to ensure the funds' availability in the event of foreclosure.
Many of these very tenant-centric lease concepts have not been commonplace for many years, and with their re-emergence in the face of what appears to be a prolonged downturn for landlords, the commercial real estate market may very well be
witnessing the dawn of the "age of the tenant."
There is rumbling about industry players lobbying for a commercial real estate bailout as a result of the mortgage pall that's been cast over so many of the country's landlords. Whether or not that gains any traction, there is no question
that this is no ordinary tenants' market. With an experienced tenant representative and some business savvy, companies relocating or renewing their leases within the next 12-18 months should see exceptionally favorable terms.
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Online search tools still require professional insight
 Despite the best intentions and tens of millions spent by
Web-based commercial real estate listing services, looking online for the right office space may not be a very effective strategy for a prospective tenant.
Unlike residential property where the primary features -- square footage, interior finishes, floorplans -- remain static through the marketing and sale process, commercial office space is exceptionally variable. While it may be marketed
online in one form, a visit to the property often reveals a completely different space.
Office space is almost endlessly flexible. Walls can come down. Finishes can change. Rents go up and down, and lease terms can be negotiated. For example, a prospective tenant responding to an online listing for 10,000 square feet may be
toured into a series of smaller offices that require substantial renovation and the relocation of a current occupant to become the contiguous amount of space required. Suddenly, the prospect faces a significantly more complicated
transaction than its Web listing boasted.
Perpetuating the problem of misleading Web-based property listings is the failure of the property management industry to fully embrace the capabilities of today's Internet. As a result, most online listing tools provide no real
decision-making value, and their content demands to be scrutinized by a professional working on behalf the tenant.
It is possible to enable listing pages to be consistently accurate and content-rich. Content management tools allow for the rapid aggregation of data, potentially enabling landlords to be specific about available square footage, using
animated floorplan options and authentic financial data. They could even integrate the ability to instantly chat online with building representatives to provide real-time information about a space.
It's important to note that like law, commercial real estate is a professional's industry. To truly benefit from its practice, a business needs the hands-on guidance of a professional. Lease terms, market data, usage strategies, hidden
costs and environmental factors -- as just a few examples -- are financially impactful components of the office leasing equation that can vary greatly from property to property and require an experienced professional's insight to be
accurately calculated into answers a business can readily understand.
In real estate, precedents are set within local markets by noteworthy transactions. With each closing, new data feeds the market for real estate professionals to leverage on behalf of their clients. A productive search for office space
means physically looking at options, comparing amenities, valuing locations, talking to employees, and knowing how your neighbors use their space. The ability to wield "street-level" commercial real estate information is a primary reason
to engage a tenant representative. That type of information doesn't appear online until well after its use has been exhausted.
There are certainly a number of ways in which the commercial real estate industry can leverage the Internet. By all means, a visually appealing, search engine optimized and consistently updated Web site is one of the best ways to attract a
prospective client and bolster a firm's brand, especially in today's "content rules all" Web mentality. But even with the long adopted acceptance of digital signatures, online document management, video-conferencing and virtual tours,
there is no replacing the real value of working with a tenant representative when negotiating your next office lease.
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