With the leasing market in a state of disarray and creditors looming in the background, property owners are offering aggressive incentive packages that they hope will break the bunker mentality among tenants and spur new activity, brokers say.
The incentives, which range from practical to lavish, are significant in a soft market where rents are falling rapidly. But with businesses pulling back on expenses and job cuts still accelerating, few tenants are testing the market.
Rise of the Benevolent Landlord
"Some landlords are trying to beat out the market by being aggressive," said Marc Shapses, executive managing director at Studley.
Free rent, for example, is a clever way for landlords to offer new tenants a discount for several months while not actually lowering rates.
Covering TI is another way to rope in new tenants. With build-outs being a major factor in the burden of relocation and construction costs falling, many landlords are offering turnkey options for tenants.
One of the boldest moves by landlords is offering to pick up existing lease obligations. Some landlords are willing to pay up to a year’s worth of rent at a tenant's prior location, said Paul Ehrenreich, principal at CresaPartners in Washington, D.C.
No one wants to pass up an offer that’s too good to be true, but the goal for many tenants is to pinpoint the perfect time to make a deal. Even with falling rates in major markets like New York, "there is concern that rents are going to come down further. People are trying to wait it out and not get locked in too early," said Shapses. However, he advised that tenants need to understand the risks of waiting and should never hold out longer than is necessary. No tenant wants to get caught in a situation where its space (or lack thereof) affects its business in a negative way, said Shapses. Companies need to be careful not to let the size of their offices limit potential growth.
But as long as a tenant is careful not to overextend itself, the potential to lock in a sweet deal is out there. Earlier this year, accounting firm KPMG, widely expected to renew its lease at 303 E. Wacker in Chicago in 2012, instead signed a 15-year, 260,000-square-foot lease
in the Aon Center. Last week, government technology contractor SAIC ironed out a 10-year, 171,000-square-foot deal
at the newly constructed Franklin Center in Columbia, MD.
Shapses, along with partner David Dusek, recently negotiated a major relocation for Ironshore Holdings, which recently relocated
from a 10,000-square-foot office at One Exchange Plaza to a 54,060-square-foot space at 1 State Street Plaza. The insurer had been looking to expand since June of 2008, but decided to sit tight at Studley's advice. The wait paid off and Ironshore ended up saving approximately one-third on the rent, said Shapses. If Ironshore had locked itself in last summer, it could be paying as much as 35 percent more than it is now.
Sublease space can be an attractive option to tenants looking to relocate, as it is often "built, furnished, wired and ready-to-go," said Shapses. But he also noted that subtenants need to be conscious of the health of the sublandlords. If the sublandlord goes under, then the tenant is forced to work out a deal with the property owner, or move out. "This should be dealt with before a lease is signed," he said.
Shapses pointed out that, in addition to landlords offering concession packages and sublandlords proposing space at cheaper rates, tenants should also keep an eye out for city and state incentives. New York has the Job Creation and Retention Program (JCRP), an effort that started after 9/11 to keep tenants downtown. "People thought the money was gone," Shapes said, "But there's still about $30 million left." Growing businesses with 200-plus employees are eligible for the fund.
The push by local governments can often play a major role in a company's relocation plans. State and county officials are receiving a lot of the credit for the relocation of Hilton Hotels to Fairfax County, VA
, which CoStar reported on last month. The Fairfax County Economic Development Authority (FCEDA) put together a $4.6 million incentive package to import the hotel giant from the West Coast.
Tenants Walk the Tightrope
The response to the landlords’ efforts has been mixed. "Tenants are more in the driver's seat, but not as much as you might think," said David Birdwell, executive vice president and COO of developer IDI. Even though some landlords are bending over backwards to rake in business, tenants are not immune to falling stock and the need to cut corners.
Many tenants have become hesitant to make long-term commitments - even ones that have a longstanding history at a particular location. Earlier this year, L-Soft International signed a short-term renewal at Corporate Plaza 1 in Landover, MD, the software developer’s home for the last 10 years.
"I would say short-term deals, be it relocations or renewals, are a definite theme right now," said John C. Olmstead, principal at CresaPartners, who represented L-Soft in the extension. "Due to uncertainty in the economy, the majority of our clients are doing short-term deals despite the fact that the overall Metropolitan D.C. market is as soft as we have seen it in years. Our recommendation is to lock in these below-market deals for as long as possible."
Hesitancy has also bred the opposite result, causing some tenants to shrug off a temporary option for a long-term solution. Ehrenreich, who recently negotiated a renewal for the Association of Women’s Heath, Obstetric and Neonatal Nurses (AWHON), said that his client was initially considering relocating and possibly buying a property. But when the downturn hit, the nonprofit organization opted to stay put. AWHON then considered a 20-month lease and an expansion into an adjacent space, but eventually opted to simply renew its old space for 10 years.
But either way, many tenants are falling back on the obvious answer: the safest option is to stay put. As it is in any economy, there is a major convenience in renewing. CresaPartners’ Washington, D.C. office has recently handled a slew of deals where the tenants decided to renew after seriously considering relocation. Among them were moderate-size office tenants such as Overlook Systems; Adducci, Mastriani & Schaumberg and ASPPA, (9,000 to 10,000-square-foot range) as well as larger scale flex tenants like Genvec Inc. (42,000 square feet).
Another problem with an unstable market is that there is no guarantee that rates are going to fall everywhere. The American Association of Pharmaceutical Scientists (AAPS) was considering relocation options two years in advance of its lease expiration at Colonial Place III in Arlington, VA. The drug company was scouting for new locations throughout the area, but opted to renew its 17,700-square-foot lease once CresaPartners predicted that the Rosslyn/Ballston region would likely experience a 4.5 percent annual average increase. "As tenant reps, this is challenging to explain to our clients in the Rosslyn/Ballston corridor because that is not the case in most other submarkets," said Olmstead, "But based off of information from CoStar and what we are actually seeing and negotiating for our clients, that was the assumption we used."
Shuffling Off the Financial Coil
Ehrenreich feels that the landlords themselves need to be closely evaluated. "We spend a lot of our time vetting the landlords to see how well they’re doing; focusing on what happens if the landlord does default," he said.
Tenants need to try and gauge whether or not their landlord (or any landlord) is going to be around in a couple years. Harry Macklowe had to turn over his $7 billion New York portfolio over to Deutsche Bank after defaulting on loans. Retail REIT General Growth Properties (GGP) just filed for bankruptcy.
According to Ehrenreich, it's a good idea to push for a clause in the contract that allows a tenant to opt out of its lease if the lenders end up taking over the property and don't honor the tenant’s demands.
Scott Haugen, asset manager for Opus, sees the majority of relocations occurring as a result of necessity. If a tenant needs to expand to a larger space, then relocation often is in the works. Such was the case with educational services provider DeVry Inc., which Opus recently signed to a 144,500-square-foot office lease
in Oak Brook, IL. But with tenants and landlords alike feeling the effects of the capital constraint, major expansions are becoming a rarity. If there are no adverse effects for staying in the same spot, oftentimes the simplest solution feels like the best choice.
"Tenants want to factor out uncertainty," said Haugen.