Monday, October 18, 2010

Why Are the Landlords Too Sticky?

With rampant vacancy, recovery hard to see and empty space losing non-recoverable income why, many people have asked me, are the Landlords so darn sticky about doing a current market deal?  Since it is good to understand how the world looks to the other side of the negotiations, here are some of the perspectives and realities of the Landlord's view of the world – financial, emotional, and externally imposed on them. 

Financial considerations are of course a big deal – people own property to make money (when the markets are not doing their once a decade chaos dips).  You’d think that they want their building full.  Well, sort of.  Here’s the rub – there are two competing priorities; cash flow now vs. capitalized future revenue which determines future valuation of the building.

For current operating costs that rack up regardless of occupancy – loans, taxes, insurance, some base line of utility services – there is tremendous pressure to get deals done and generate cash flow.  Add to that the fact that each month of vacancy is money that cannot be recovered.  It’s a use-it-or-lose-it asset.   So while the vacancy rate is historically high, there are deals being done and a landlord doing market deals can secure tenants.  There are some big costs in securing new tenants – commissions, tenant improvements, often concessions around moving and transition costs – but there are deals being done.

So what about the other landlords?  Some are simply not in touch with the market.  They may be in denial, or so far under that they can’t muster the funds to secure the new tenant.  These are the walking dead. If someone who can’t come up with a reasonable response offers you a good deal to have you take on all the up front costs, beware and be sure to do a title search and get anyone with liens against the property to sign off, or your lease is at risk if they take the property back.

Some building owners have external constraints – lenders or partners that have agreements in place regarding approvals or previously defined limits of negotiation latitude for what the owner can do. In these cases if the person/entity that controls these constraints doesn’t want to do a deal or doesn’t understand the current market environment, the owner (a term loosely used in many of today’s building ownership structures) may feel good about you as a firm and want to do the deal, but just can’t.

The other side of the cash flow goal is the long term value goal – capitalization of revenue.  Without going into sleep inspiring detail, building values are tied to the capitalization of current and anticipated net operating incomes – a multiplier in essence of that net income resulting in a calculated value.  While this isn’t the only component of the value, it is a major component, especially when it comes to loan underwriting, since net income pays debt service.  So the rub is that a discount of a couple dollars a foot to meet the market means a capitalized value decrease of around $25 a foot.  If the basic deal is $20 full service deal, minus maybe $8 a foot in operating costs (mid-rise class B office building example) they can sit on the space for two years to get the extra $2 and still be ahead, assuming they have the cash to carry it.  That’s their dilemma.  If they hold out and eat the carrying costs anticipating the market firming up or a tenant that for whatever reason just really wants their specific space, they come out ahead on multiple measures – but it’s a real gamble.  It’s a gamble many owner’s are losing right now.

As a tenant what this means is to take advantage of the down leasing market it helps to have a broker that has your interest and needs at heart and who understands the landlords perspective and issues to get you as the tenant the deal that best suits your company.

Kevin Grossman represents businesses in their lease negotiations for office, flex-tech, and light industrial spaces in the Seattle, Bellevue and Redmond markets.  For complex projects he represents businesses as far away as Vancouver, Spokane, Bellingham and central Washington.  Clients report Kevin invests the time to listen and really understand their organization, ensuring they make an informed decision and he gets the right deal completed for them out of the process.

1 comment:

  1. Since most landlords are "sticky" as you says they are, I think it is quite normal to have landlord of this attitude. Try putting yourself into their place and probably it will show you answers. There should be a balance right for both landlords and renter, or tenants, etc.

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