Chapter 6 Office & Industrial Property

1. Chapter 6Office & Industrial Property

2. Major Topics Office Property • Defining office space quality • The demand drivers for office space • Translating employment growth to office space demand • The trends that shape the amount of space required per worker • The supply drivers for office space Industrial Property • The demand drivers for Industrial property • Factors driving the location decisions • Affect of e-commerce • Physical and design trends “Real Estate Principles for the New Economy”: Norman G. Miller and David M. Geltner

3. Class A • Excellent location and accessibility • Rent rates in upper 33% of total office market range Class B • Good location and access • Rent rates in upper 60% of market sector’s range Class C • Buildings generally more than 15 years old • Rent rates in lower 40% of the market • sector’s range Office Property Definitions “Real Estate Principles for the New Economy”: Norman G. Miller and David M. Geltner

4. Office Property Definitions • Net Usable or Leaseable Area • The actual area of a floor or an office suite that can be occupied Efficiency Ratio • The percentage of total usable space to the total gross space in the building. Load Factor • The percentage of space on a floor that is not usable, expressed as a percentage of usable area. “Real Estate Principles for the New Economy”: Norman G. Miller and David M. Geltner

5. Reasons for cyclic Real Estate market • Competition and need to anticipate the market • Lead time factor • Inconsistent capital flows • Lease terms Expansion Phase: Rising occupancy and Rents, increased construction rates Mature phase: increased vacancy, construction still on going Recovery Phase: Excess supply keeps rent low, little or no construction, demand picks up Correction phase: rents declining, minimum new construction Typical Cycle “Real Estate Principles for the New Economy”: Norman G. Miller and David M. Geltner

6. Office Market Demand Analysis • Employment trends • Influence of computers, telecommuting and shared space • Industry and tenant breakdown • Breaking down types of businesses • Impact of local taxes • Additional factors “Real Estate Principles for the New Economy”: Norman G. Miller and David M. Geltner

7. Influence of Computers, Telecommuting and Shared Space • Trends that have decreased the amount of space required per office worker: • Less filing space required (electronic archives) • “Office hotelling” i.e. sharing office space by employees who spend much time away from office • “Telecommuting” i.e. working part time or full time from home using the new communication facilities “Real Estate Principles for the New Economy”: Norman G. Miller and David M. Geltner

8. Industry and Tenant Break Down • Typical Tenant Size • Square Feet Per Employee Required by Type of Business or Industry • Migration patterns and market share “Real Estate Principles for the New Economy”: Norman G. Miller and David M. Geltner

9. Breaking down the Types of Businesses • Standard industrial classification (SIC) business analysis • By breaking down the businesses we get following information for each SIC group: • Employment projection • Percentage of employment requiring office space • Average amount of space per worker • By following the SIC group trends the real estate analyst can make precise estimates of office space demand “Real Estate Principles for the New Economy”: Norman G. Miller and David M. Geltner

10. Central Cities vs. Suburbs • Actual rate of absorption is almost always biased towards the suburbs • Over 2/3 of the office space in the last 10 years in the largest U.S. cities has been absorbed in the suburbs “Real Estate Principles for the New Economy”: Norman G. Miller and David M. Geltner

11. Additional Factors 1. Space which might be eliminated 2. The sublease space market 3. New space coming online 4. Tenant migration patterns 5. Contiguous space analysis 6. Lease expiration patterns “Real Estate Principles for the New Economy”: Norman G. Miller and David M. Geltner

12. Impact of Local Taxes • Local governments compete to get companies (more than 50 employees) within their jurisdiction by giving tax benefits to the employers • These incentives matter a lot in location selection when a company is expanding or moving, however the incentives don’t matter to a stable company “Real Estate Principles for the New Economy”: Norman G. Miller and David M. Geltner

13. Supply Side Drivers of Office Space • The expected value of a completed office building must exceed the cost by a sufficient margin to be worth the risk of investment • Expected finished value is derived by estimating the net operating income (Value = NOI/R, where R is the typical return on capital for investments of similar risk) “Real Estate Principles for the New Economy”: Norman G. Miller and David M. Geltner

14. National Office Market Trends • Increase in office hotelling and hence decrease in per employee space requirement • Increase in telecommuting and office sharing • The average square footage per employee grew rapidly • Decreased density of occupancy per worker changed the rules of thumb on parking • Suburban office markets have fared better than CBDs • City governments in turn have increased incentives to keep major employers in the city “Real Estate Principles for the New Economy”: Norman G. Miller and David M. Geltner

15. Introduction to Industrial Property • Industrial property is of two types: • Manufacturing (Heavy and Light) property • Distribution Warehouse property • Some properties include both, such as “flex space” “Real Estate Principles for the New Economy”: Norman G. Miller and David M. Geltner

16. Manufacturing Property Characteristics • It is mostly custom built and owned by user • Finding a suitable location is very crucial • Many local governments court manufacturing firms with tax incentives and financing enticements • Difficulty in finding location “Real Estate Principles for the New Economy”: Norman G. Miller and David M. Geltner

17. Factors Influencing Location Decisions • Labor Cost, Labor Climate and Skills • Weight Gaining or Losing manufacturing process • Proximity to Suppliers • Access to Transportation Facilities • Quality of Life • Utilities, Taxes, Insurance, Unemployment and other Real Estate costs • Environmental regulations “Real Estate Principles for the New Economy”: Norman G. Miller and David M. Geltner

18. Distribution Warehouse Property • Warehouses are unavoidable friction between production and consumption of goods • Demand is driven by the location of inventory requirements • Criteria of location selection for warehouse are • Minimization of transportation cost • Speed of delivery “Real Estate Principles for the New Economy”: Norman G. Miller and David M. Geltner

19. Supply of Industrial Property • Supply is the function of profitability and risk • Pre-leased property has the lowest investment risk • Measuring Profitability: Minimum return requirements would be the expectation that the total cost of construction including land and site preparation could be paid for through lease payments plus some additional profit “Real Estate Principles for the New Economy”: Norman G. Miller and David M. Geltner

20. Warehouses in the New Economy SPW or HTD Warehouse • Large running 150,000 to 500,000 sq.ft • Requires much more parking due to high labor use • Ceiling heights about 30 to 32 feet • Web-link Office/ Warehouse or “Flex” Space • Multi-tenant • Lower ceilings often 16 to 24 feet • Rear loading docks or drive in doors • Less than 30% finished space for offices or showrooms • Parking ratio 2 cars per 1000 sq.ft “Real Estate Principles for the New Economy”: Norman G. Miller and David M. Geltner

21. Alternate uses of Warehouse Properties • Call Centers • Self Storage Warehouses • The Carrier/ Telecom Hotel/ E-switch Hotel “Real Estate Principles for the New Economy”: Norman G. Miller and David M. Geltner

22. END “Real Estate Principles for the New Economy”: Norman G. Miller and David M. Geltner