Covid kicking it down the road is a weird title, but, it’s a great concept. In this episode of the podcast, we’ll discuss what it is and just how that panned out for one specific REATA client now that the year is expiring. Last year we recommended to several REATA clients that they extend their leases for only 12 months. Why, you may ask? Our reasoning was that demand for office space had not only evaporated, but had gone negative meaning companies were giving back space faster than they were leasing it. At the same time, there was about 8 million square feet of office space still under construction. It’s the classic supply and demand discussion. Supply is increasing while demand is not only down, but non-existent. Therefore, rents must fall.
Landlords reactions to short-term renewal requests were as you would expect them to be – they hated it! Short-term leases don’t really add value to the building and it gives tenants greater flexibility to find other options whether that’s other buildings or going to work from home. But several landlords agreed to 1-year extensions. Some said they wouldn’t do anything less than 3 years, but ended up agreeing to 18-24 month extensions.
Last year, we were working with a client to expand and extend their lease either in their current building or one down the street. It was going to be either 5 or 7 years. When Covid hit we immediately called the client to discuss the situation and we recommended that we halt all negotiations and reconsider everything. The client had lost a couple of employees just before Covid and they are in the financial services industry. As you may remember, the stock market fell precipitously in the early days of Covid. We made the recommendation to just extend their lease, where they were, for 12 months. They didn’t need to expand right away and needed time to stabilize their employee base as well as their client base. Client was thrilled with this option-they didn’t even know that extending for only a year was a possibility. The idea of signing a long-term lease commitment for MORE space right at the time when the future was so uncertain scared them to death-understandably.
Fortunately, we knew that landlord well and understood that their weakness was available cash. They were having a hard time competing to keep this client as a tenant because they didn’t have enough money to pay for the improvements needed. When we called them and proposed a 1-year deal that wouldn’t require they spend ANY money on improvements, they jumped at it.
The deal we had teed up with the other landlord provided a decent amount of money for improvements, but our client would have had to pay about 40% of the cost out of their pockets. But that was a smart landlord with readily available cash. They understood the impact Covid would likely have, so they revised their offer to turnkey TI’s for the tenant. TI’s stands for tenant improvements. Turnkey just means that the landlord will pay for the entire cost of the work. It’s a really nice deal for the tenant. But you must clearly define the scope of the work. Otherwise, problems could crop up later. Anyway, back to the story-we ended up extending the tenant’s lease for 12 months and that will expire in a few months. We started discussions a few months ago about what to do now. We could extend the lease another year. Negotiate with the current landlord to expand and extend. Move everything to a work-from-home or hybrid model. Or, move to a different building.
Working from home or having a hybrid model wasn’t something this client wanted to consider and they were ready for a new look after being in the same building for 16 years. We toured several buildings and ended up back at the building where the landlord had offered a turnkey TI package after Covid hit. We didn’t want to waste a lot of time haggling back and forth so we went to them and said the client would either extend their lease for another year or move to their building. Those were the only options under consideration. We asked them to give us their best offer right from the beginning-no negotiation.
Not only did they offer everything they had prior, but they increased the number of months of free rent and expenses from 5 months to 12 months on a 7-year deal. The TIs were turnkey like before but they actually got them priced this time and they turned out to be $60/square foot instead of the $40/square foot they were expecting. Pretty happy about how this turned out for our client. But we told them we wouldn’t be surprised if the market is even better for tenants 12 months from now. They wouldn’t get hurt by waiting another year. But they were ready to get a deal done and stay focused on their business. Otherwise, they would have had to go through this song-and-dance 3 years in a row. That takes a lot of time and mental effort and it just wasn’t worth it to them for the potential additional savings they MIGHT get by waiting.
As a fiduciary, we always put our client’s needs first and that includes only representing tenants to avoid conflicts of interest.
Bob Gibbons is a Real Estate Advisor & Tenant Advocate (also known as a tenant rep) with REATA Commercial Realty, Inc. which is a tenant advisory firm based in Plano, Texas. Bob serves companies in Plano, Frisco, McKinney, Allen, Richardson, Addison, Dallas and the surrounding areas and specializes in companies which lease or buy office and warehouse properties.