Monthly Archives: October 2010

Build Baby Build? Yes, in CRE!

By Ken Ashley

LOS ANGELES (October 6, 2010)

We know the vacancy rate is sky-high, and we read all the same gloomy outlooks on commercial real estate that you do. Is it insanity to even think about building again? Well, after a visit with our psych, and a big swig of Red Bull, we’d like to


I'll be OK Cowboy!


suggest five reasons that it is time to begin the process of putting on hard hats.

Reason 1: It Takes a Long Time To Build These Buildings

A major urban office building can take three years to deliver from first concept to actual product delivery. Even “shoebox” type suburban buildings can take 18 months. Given the financing environment, and bored city zoning and building officials, the first projects will likely take much longer than they used to. If we assume our friends in the development community can pull it off, then suburban buildings would be available for tenancy in mid to late 2012 with urban product following in 2013. If we could see three years into the future, many in commercial real estate would be much richer and would have made different choices in 2007 and 2008. So, developers will begin trying to “make the doughnuts” soon because of the timeline involved…and besides, hope springs eternal.

Reason 2: It’s Not Just About the Demand; Follow The Money

Knowing that the market will eventually return (more about that below), and also realizing that there are many billions of dollars chasing erstwhile distressed real estate, some will make the decision to build instead. It is difficult to get major distressed deals closed, and there aren’t nearly as many true opportunities as many thought there would be. For example, so called core product (substantially leased) is now trading at pre-2007 levels in many US cities.

So what’s a poor financier with a couple of billion supposed to do to earn his fees? Why, we thought you’d never ask!


Fee me baby one more time


Tenant demand is only one factor in the buy, build or hold equation. Follow the money, and those behind the money. When you do you will see that capitalism drives projects and creates entrepreneurial zeal (yes, we know you might call it something else). Money will find a way into commercial real estate, and for at least some, that will be by going vertical and creating new product.

Reason 3: Big Tenants Drive Markets

Speaking of tenant demand, there will, in fact, be some of that again. It’s not like corporate America shuttered the store and will never return. We are hearing an increase in interest in build-to-suits by very large tenants due to large or highly specialized needs.

The next wave will also be created by large companies who can’t find the perfect solution for their requirement. Perhaps some will start with a so-called forward build, but this activity by very large users will eventually lead to developers creating speculative buildings in hopes of catching some of the activity. Small users pay more and fill in the gaps, but large users, and the hope of attracting them, make developers take enormous risks. Occasionally, those risk pay off for those with an unusually high tolerance for risk and aggressive bankers’ demands.

Reason 4: They Don’t Make ‘Em Like They Used To

And thank goodness. We’ve written in this space before about the buildings from the “wavy ’80’s,” and earlier generations. Corporate users today are not only


Let me get this straight...


looking for inexpensive real estate, they are looking for modern floor plates, green buildings, and the latest amenities. As many owners are finding, it can be hard and expensive to make an existing building fit this mold.

If you begin to dissect any submarket in America building by building, you will discover a fair percentage of the product is functionally obsolete, or close to it. As we heard an investor say once, these are “high tide” properties that only lease when the market is near its peak.

So given the appetite for newer and more efficient buildings, some will march ahead and break ground. Besides, there is precedent in many markets around the country for so-called “first mover advantage.” Those that create the newest, coolest product first will make the sale (this works in shoes too, by the way).

Reason 5 The Wall Street Journal Says So

Well, sort of. Ok, they said it will be years till we recover in commercial real estate with “much pain is yet to come” but they also suggest that “Pressures on rents seems to be easing.”  All this is in an October 5th article entitled Signs of Recovery for Office Market. “In a sign that the country’s commercial real-estate market is finally turning the corner, new statistics show that office rents that have been falling throughout the economic downturn are beginning to stabilize” reports journalist Anton Troianovski.

The article does go on to talk about  – once again – all the pain to come in commercial real estate (sip some more Red Bull), but we bet developers only hear the good news on rents.

So, here’s to you Mr. Developer. Make it happen once again!

Thanks to Tony Wilbert who first suggested the idea for this post. He’s very sane to be in commercial real estate PR at Wilbert News Strategies.

Real Estate Yoga

By Ken Ashley

(ATLANTA) October 2nd, 2010

The market opportunities for tenants are great these days. In fact, it almost seems like many ownerships are holding a “Fall Sale;” everything’s marked at 50% off! At the same time, we are beginning to hear many clients and others in industry talk about growth. The challenge is occupiers aren’t ready to lease the space for expansion just yet. Also, if one signs a seven, ten or even fifteen year lease, the needs of the company are bound to change.

Go Long, but Option Up

Of course, there is much more to an agreement with a landlord than just the face rate of the lease. Flexibility in the arrangement is both a hallmark of good representation and a reflection of the current market conditions.

Can your lease do this?

So, if you need to have a little real estate yoga, what kinds of options are available for tenants?

Please Don’t Go

Termination options are the most radical ways to leave a lease. There is a degree of certainty in a termination option that is nice to have. Many a decision maker has told us they hope to never need this kind of option, but they take comfort in knowing the ability to terminate is present in the lease.

These options come in many different flavors. The simplest is to negotiation the right to unilaterally terminate approximately three quarters of the way through an obligation. Most landlords will want notice (period is negotiable but we try for about 6 months), unamortized tenant improvement dollars, commissions and a fee of 1-6 month’s rent.

We sometime discuss a variation of this approach called a growth termination option. Put simply, if the landlord can’t accommodate a predetermined square footage or percentage of growth, then after midpoint in the lease, we have the option to leave. The advantage here is the landlord is usually a little more flexible on exit fees, because if we leave, their building is likely leasing up nicely. The risk or reletting the premises is question is perceived to be less.

The main reason landlords don’t like termination options, is they severely affect underwriting of an asset when they go to market to sell. Most will tell you if a tenant signs a 15 year lease with an option to terminate at the 10th year, investors look at the obligation as only 10 years.

Maybe Yes, Maybe No

So what can you do short of leaving a building if your needs change? Like a good Ray Charles song, the landlord says please don’t go baby – we can work it out! Of course, the key is to negotiate options to grow, contract or move in the initial lease negotiations. The nice thing about these options is you don’t have to do anything and as most landlords will tell you options always inure to the benefit of the tenant.

There are long legal tomes that address all the various iterations of options, but briefly they fall into a Right of First Option, Right of First Refusal and Sublease.

A Right Of First Option is the clearest and strongest right that can be granted to give a tenant flexibility in the future; the option grantee is given the right, but not the obligation, to lease additional space in the future.  To be enforceable, the option should set forth exactly what space is subject to the option, the price and terms on which the tenant can exercise the option, the date or dates on or between which the option is exercisable. Landlords usually won’t give up this kind of right easily because is encumbers their space. Large space users stand a better change of securing a Right of First Option.

A Right of First Refusal is an alternative to an option.  Unlike an option, a right of first refusal does not entitle the tenant to lease the space in question.  Instead, if and when the other party decides to lease the asset to another tenant the holder of the Right of First Refusal can require the space be leased to him or her for the same price and terms that the owner is willing to accept from the third party.  Obviously, a right of first refusal is much weaker from the standpoint of the holder that an option: it does not set the price and other terms for the lease in advance and the tenant is subject to a deal someone else has negotiated for the space in question.

A Sublease simply allows another tenant to step into your space and use it based on terms upon which you mutually agree. There are a number of important issues to deal with in sublease language. Keep in mind that in this market the tenant may have a valuable commodity when lease rates rise. Don’t allow a landlord to recapture the space and cancel your lease just because you request approval of a sublease. Also, make sure the landlord approves or disapproves of a subtenant within a reasonable period of time and fee.

We Can Always Agree to Agree

Finally, keep in mind that you are likely to have market leverage at most points in the future if you are a growing and well paying tenant. Capitalism is a great thing and the ultimate sanity check in all things economic. Real estate is no exception and most landlords will work to keep things fair so they can keep you as a tenant. Good landlords are acutely aware of the cyclical nature of this business and try to create long term relationships, not short term profiteering.

So now that we’ve been through our Real Estate Yoga class don’t you feel better? Now off to work!