In a recent survey, 51% of CEOs globally and 60% of CEOs across the U.S. anticipate that 2023 will remain a tepid year, with the economy picking up by mid-2024. As such, many companies are trepidatious about signing a 5-to-10-year lease, concerned about how rising interest rates and a looming recession may impact their future. But this isn’t to say they aren’t signing.
Top companies, such as Amazon, Apple, Starbucks, and more, have mandated significant in-person components to their work week, with demand for space in key markets increasing for less square footage than in years past. Interest continues to lean toward newly constructed and renovated Trophy and Class A space. This is to be expected within today’s uncertain market since newer product provides a sense of security—the aura that capital is flowing. Additionally, many of these assets, located in vibrant communities, are a draw as companies look to attract and retain top talent.
To combat this, many owners of standard Class A, Class B, and C lowered their rates, some even taking a “bring your own hammer and nails” approach to keep monthly rental costs minimal, with tenants responsible for their space’s fiscal and physical buildout. These efforts have been largely unsuccessful. With new and updated assets priced competitively, lower rates and a ‘do it yourself’ approach to improvements aren’t appealing to tenants.
So, what is?
Deals that are flexible, convenient, and incentivized.
Flexibility through early termination options
With more companies enacting return-to-office policies, offices will likely continue to see an increase in activity over the next 2-3 years, along with rising rates. As stated before, we are already seeing an increase in such activity in markets across the country, even if the inquiries are for smaller footprints. So, an early termination option after 2-3 years for a 5-year deal benefits both the tenant and the landlord. When the option comes due, the tenant will either stay or a new tenant will likely sign for more money.
The convenience of ready-to-go spec suites
Setting up an office is overwhelming for many companies, especially those operating remotely. Unlike traditional office spaces in which paint, carpet, plumbing, furniture, electricity, etc., are completed by the tenant with some financial assistance from the landlord, spec suites—fully furnished and ready to go—are operational in as little as 30 days, which is why they are growing in popularity. These ready-made options typically range from 1,500 to 5,000 square feet and cost landlords of Class A assets in Southern California around $60-80 per square foot.
It’s important to note that these suites are not just convenient. They are an excellent first stop on a tour to showcase a finished product to a prospective tenant before going to a second-generation space which may be a challenge to view differently. It doesn’t hurt that tenants typically lease spec suites at a 15-20% higher rate and 11 months faster.
Provide strategic incentives that transcend the competition
Landlords are, in fact, continuing to offer incentives, even if it doesn’t seem that way during a cursory review. For example, a 26-month lease you see as a comp on paper may very well be a 31–32-month lease. By calling out an early possession/access date months ahead of Commencement Date, additional months of free rent are realized. This is good for the tenant and landlord by making the rate seem higher than it is in reality. By determining the incentives offered within an area, such as free rent, cabling, furnishing allowances, etc., landlords can develop more competitive packages that boost an asset’s overall appeal.
There’s no question that the past several years have brought about numerous challenges. However, crafting deals that ensure tenant needs are addressed presently and in the future is not counterintuitive to preserving capital. It’s counterintuitive to driving it.