How Can Tenants Capitalize on Opportunities in the Office Market?
One of the ongoing topics of discussion over the past nine months has been surrounding how companies will use office space going forward. There have been numerous articles written about how working from home will negatively affect the office market. It is interesting how the pendulum has swung in the past few months and that now there is mounting evidence that many executives want their employees to return to the office. In most cases this will not be a return to the way things were. Most companies are evaluating the merits of a hybrid model incorporating both working from home and the office. This will cause a need to redesign the office in many ways to facilitate the new way of working, foster employee engagement and collaboration and strengthen culture. In many cases this will also cause a net decrease in the amount of space leased.
In most major submarkets there is currently a glut of available sublease space and direct vacancy has increased. In addition, leasing activity and net absorption are off significantly from the levels achieved in 2018-2019.It is predicted that there will be more direct vacancy as subleases expire. Offsetting some of the negative news on the supply side is continued interest and activity from companies relocating to Denver.
While landlords have not lowered asking rents yet, there has been an increase in concessions including free rent and increased tenant improvement allowances because of the supply/demand dynamics. The chart below clearly shows the decrease in absorption and the corresponding increase in vacancy rate.
We believe that the change and uncertainty will create opportunities for tenants that are thoughtful and prepared. What should tenants with leases expiring in the next 3-4 years do to capitalize?
Step one is to understand your current situation. What is your fully escalated rental rate? How does that compare to current market? When does the lease expire? Is there a restoration obligation? What is your current landlord’s position and exposure?
Step two is to understand how much space you will need going forward and how it will be configured. How much will this cost? How will your current and future employees react to the “office of the future”?
Step three is to carefully evaluate location and building quality. Is your current location and building quality ideal as you look forward? Is a relocation within your current submarket or to a different submarket the best choice?
Step four is to understand the timeline and its impact on negotiations. The amount of time required to complete a successful office lease transaction will vary based on size and most tenants underestimate how much time is required. We counsel our clients that it is rarely a mistake to start the process too early and almost always a mistake to start too late.
Looking into the future, we believe that there will be opportunities for tenants to restructure leases early as well as relocate early. Either one of these options will enable you to redesign your space to attract and retain talent, improve morale, and bolster company culture. In addition, it is highly likely that occupancy costs will be reduced.
What is the ideal path forward for your company? The answer requires some thought and due diligence as every situation is different. We recommend to our clients and potential clients to follow the above steps and put your company in a position to capitalize.