What will the future of office space look like? What are companies looking for right now? Benjamin Osgood will share insights coming directly from office tenants. He has brokered over $250M in real estate transactions and is the founder of Recreate Commercial, a global provider of tenant advisory real estate services. Benjamin entered the commercial real estate industry in 2006 where he was on the listing teams that represented prominent Bay Area landlords such as Ellis Partners, Legacy Partners, Graham Street Realty and Grey and Reynolds Properties.
Tell us a little bit about you
We’re a global provider of commercial real estate services for tenants and occupiers, what makes us unique is that we don’t represent landlords or property owners. We represent companies in all sizes, we have some clients that are bootstrapped startups with their first seed money all the way to fortune 500 companies and publicly traded companies on the NYSE and NASDAQ. Our offices are n San Francisco, but we also have presence in LA, and Silicon Valley and we work globally. We have real estate providers in every major city in the world, and that allows us to help our clients anywhere.
One of the reasons we’re talking today is that, as a firm that represents office tenants in the Bay Area, nationally and globally, we’re uniquely positioned and uniquely informed to report on the state of the market and, in the middle of this COVID pandemic, where the sentiment lies, and what are companies really doing, what moves are they really making in response to the pandemic. And I I think this is important to raise, because a lot of what I’m going to share on your your program is really, in contrast or dissents from what you might be reading in the trades, or business outlets, because we have to remember, a lot of this is clickbait and there’s a lot of hyperbole in the media to generate clicks and generate advertising. And I’ll speak to that more, but the reality is really what we’re seeing and that’s what are tenants really doing? What moves are companies really making? And I think some of what I’ll share my surprise your listeners.
I believe that most of our listeners totally understand what is happening with the media. So why don’t we jump into what is really happening with office real estate? And what will it look like in the near future?
As I’ve been sharing with people, I really feel that we now have both feet planted, and what we’re referring to as stage three of this pandemic. Stage one was when we all got hit with this, and it was almost like driving a car to a blizzard, no one was thinking about what they were going to do. In the following week or month, they were just trying to get through the next few days, there was there was a disconnect in the information we’re receiving, but then that started to subside, and then we started to settle in with the reality of working from home, being forced to work from home, we overcame a lot of those challenges. But still there was no foreseeable return to any type of normalcy, or any type of office. And in that stage two, we found that a lot of companies took a very short sighted, knee jerk approach to their real estate. They started putting their space up for sublease, they started either laying people off, furloughing people, telling their employees don’t ever come back, we’re going to convert to a virtual first company. And we’re never going to come back to an office again.
Now, in stage three, we’re finding out that many of these companies have completely reversed that decision. Companies are going back. In stage two, companies were starting to say, Well, if we were to go back, what would that look like? Are there good deals on the sublease market? Do we bring back our employees some of the time? In stage three we’re actually transacting, meaning we are getting leases signed, we’re getting renewals signed, we’re getting sublease assigned. Granted, the volume is maybe at 10%, maybe 15% of pre COVID times, but that’s still 14% more than we were in stage one and stage two. So we’ve made huge progress.
To answer your question, what’s the office going to look like? To answer that, we have to think about what we’ve learned in COVID. And we’ve learned a lot, we’ve learned that we all don’t necessarily need an office for work, because as the pandemic has shown us, we can work anywhere if we need to, give us a laptop and a wifi connection, and we’re good from the work side of things. That’s not a blip, I think that’s going to be a trend that we’ll continue to see.
But what we’ve also learned on the other side of that is that we still need a physical place to come in, meet with our team, foster our company culture, mentees need a place to be mentored, a lot of people take a job, at least younger in the workforce, because they want to learn from the people with experience. Conversely, supervisors want to see their people working, they want to make sure that, even though the Slack channel is green, the light is on, that they’re actually working.
But then also, we’re rethinking what is the workspace used for? Is it for work that is heads down? No, totally not. We need a place to come in, collaborate, innovate, throw ideas on a whiteboard, get over caffeinated, hang out with our team. We’re tribal people, we want that human connection, I want that human connection. Most people want that human connection. Our prediction as to what’s going to happen with the workspace, I think most companies, and I say most, are going to need a physical space. And we can’t forget that the office is very much a commodity in both hiring and employee retention. We know that companies want that really cool place to come work, there’s a reason why those employees stay there and why culture is so integral to a company success, and zoom meetings have their limitations, I don’t have to tell you that.
We’re also thinking, one of the big lessons that we’ve learned in COVID, is that maybe we don’t need to spend so much of our lives commuting. And maybe we don’t need to go into the office five days a week, we especially understand that we can now do the work component of things almost anywhere. We’re definitely seeing an office space that’s configured differently, for one, is it going to be dense, linear benching? Probably not. Even pre COVID, we knew that that was not the greatest way to work, it was simply a way to hedge against very expensive rent. Pack as many people into as dense of a space as you can.
And it’s going to be more collaborative, more soft seating, more whiteboards on casters, maybe more of a residential feel with plants and furniture that reflects a more chill and welcoming environment rather than just heads down linear benching. We have clients, not only in various sizes, but we interface with almost every type of vertical out there, we have a thriving technology practice, we have a thriving nonprofit practice and professional services practice. So we’re talking to a broad spectrum of occupiers, of office tenants. And one thing they’re all saying is, the biggest takeaway is that, We realize we’re taxed on working from home 100% of the time, it has lost its charm, but also, not commuting five days a week is pretty cool, too. So we are anticipating and predicting a hybrid. The fatigue of working from home 100% of time hit its limitations. It doesn’t matter if you have roommates, or a spouse, or kids. I won’t even go off on a tangent on all the limitations and challenges with working from home all the time because we’re all aware of those. But that’s that’s what we’re seeing, come in meet with your team, maybe two, maybe three days a week. And then do your heads down work elsewhere.
That has been a popular topic that I have also been hearing, the ability for people to work a couple days a week from home, and three days from the office. How do you think that will affect how much office space companies will look for? Do you think it’ll be the same, or smaller?
That is an excellent question and one that we get asked all the time. I think it’s zero sum. On one hand, we are decreasing our densities. So by way of example, pre pandemic, especially in major cities, like New York, Chicago and San Francisco, we were planning for, let’s call it 150 square feet per employee. A high, dense tech build up, give or take 25 square feet. And now that’s almost upended. We have partners at Gensler in All Steel. And they’re all working on about 325 square feet per employee, which is more than double the square footage. On the other hand, the space is being configured much differently. Now we’re taking that same square footage, but rather than line it out with just rows of linear benching, it’s more soft seating, it’s like, Grab that corner over there with your team, grab your tablet, or laptops or whatnot, grab a coffee, let’s talk, let’s collaborate, let’s innovate. Let’s throw some ideas on a whiteboard. You just need more space for that type of use.
And also, people say, Well, we’re not going to be sending as much of our staff back. Yes, that’s true. And people are also saying, But maybe people aren’t going to the office every day of the week, that’s also true. But you’re still going to need a lot of room to spread out. And with rents falling so drastically, companies can now afford to take on that extra square footage, or just maintain the same footprint that they’ve had in the past, pay less for it, and reconfigure it to recognize the changing needs of what the workspace needs to provide.
During the last recession, and the.com boom, a lot of landlords defaulted. There were some deals, but right now, I don’t see any deals. What is going on with the space right now? Do you think that will change anytime during the remainder of COVID?
I think the lack of volatility that we’re seeing in the pricing of the these office properties and assets is indicative of how very different this pandemic world is, in contrast to previous, more predictable cycles. Are we seeing a lot of defaults? We’re just not, because tenants are still paying their rent, at least in the office sector. Now, obviously, retail and hospitality is a totally different conversation. In terms of the office sector, tenants are paying their rent. We have to remember, when people were subleasing their space, and during the recession, or during the dot bomb, following the.com boom, it was because something was fundamentally flawed with their business or the economy. And that’s not the case now. People are putting their space up for sublease not because their business isn’t doing well. It’s because some smart CFO is thinking, well shoot, I’m paying X amount of dollars for per month on a space that the government is saying I can’t go in and use, even though our business is thriving, why don’t I find someone to help me out and take some zeros off my balance sheet? But the business fundamentals haven’t changed.
Most of our clients are thriving. Granted, they’re paying rent on space that they haven’t been able to use for a year. But that doesn’t mean their employees haven’t been thriving working remotely. And because of that, we’re not seeing a tremendous amount of defaults from the office sector. If tenants are paying their rent, and landlords can cover their debt service, meanwhile, their NOI is severely impacted. But that’s to be expected. They’re not going to default. And even in the little volume we’ve seen in major cities where buildings are selling, they’re barely selling it at a 10% discount off of their pre COVID sticker price. I think that goes to show a few things, one, investors understand that we’re not seeing a lot of defaults. So these rent rolls aren’t being severely impacted. Two, it shows their confidence in the return of the office sector. Because remember, when someone buys a building, you don’t buy the cash flow based on a snapshot of the next 10 or 12 months, you’re looking at your entire hold period.
As investors, we’re looking at this building and saying, Okay, our rent roll is going to be impacted for a while our NOI is going to be impacted for two, maybe three years if you’re really bearish. But over the next five, seven years, this is still a great buy. This is why we’re not going to offer that deep of a discount. So going back full circle to your question, no, we haven’t seen many defaults at all. And it’s reflected in the pricing. And we really haven’t seen any landlords become distressed because of the fact that their tenants are paying rent.
And when you mentioned the 10% discount is that on the sales price or lease price?
That’s the sales price. If we switch gears over to the lease price, you have to make the distinction in pricing between direct space and sublease space. On a direct basis, tenants who are renewing their space on a direct basis, or signing a new direct deal will be lucky to get a 15, maybe 20% discount. On the sublease front, however, there has never been a better time in the last 10 years for tenants in any major market to get a great office sublease. And you can expect to pay up to 50 even 40 cents on the dollar. And with a space that probably has very little wear and tear, a lot of these companies signed a lease, they moved in, maybe for six months, maybe a year, and the pandemic hit and you’ve got brand new stuff, brand new tenant improvements, and most if not all are coming fully furnished. So there’s tremendous value there.
And again, it comes back to the fundamentals, a landlord is looking at their five year, seven year plan, and say, Well, I’m not going to lower my rent too drastically because we’re going to bounce out of this. And I don’t want to sign a five year lease at a 50% discount and then be locked into that lousy income stream for a while, and have the market find out that I just did this low deal and everyone wants the same deal. A sublandlord on the other hand, is just a company that can say, We’re not using the space, if I can find someone to take half that load off my shoulders, great. And they’re dropping their rental rates considerably. To that end, smart companies right now are in the market, understanding that 1. We’re going to return to an office, there’s vaccines, we’re going to go back to an office, it’s going to look a little different. But we all need a physical space, no one wants to go work for your virtual first company. There’s nothing exciting about that.
Now understanding that they know that the best time to get the best deals are right now, because the best deals are going to be in the sublease sector, brand new tenant permits, super deep discount, fully furnished, and that’s everything from low voltage run throughout, AV and video conferencing, etc. But they are finite. Those are all going to dry up by virtue of a sublease. The leases all have an expiration date that we’re getting closer to. And also there’s no new sublease inventory that’s been hitting the market. In a normal market, sublease gets leased, a new one comes on the market, but there’s no new inventory. The smart companies right now are capitalizing on these opportunities and snagging these incredible sub leases.
That’s not to say that there’s not going to be great deals six months from now, or a year from now. But after the subleases are gone, you’re going to have to sign a direct lease with the landlord. Remember, landlords have not come off their rents, it’s only going to be landlords competing with other landlords. And there’s no reason for them to drastically lower their rates. So you could still get a good deal, but it’s not going to be as good of a deal as you can get right now. And office furniture is brutally expensive. And so when you can pick it up at a deep discount, 10 cents on the dollar, it’s such a win for a company right now.