Occupant Mistakes

Occupants of commercial real estate, also referred to as users or occupiers fall into two categories - tenants or owners. To draw a finer distinction - both are tenants - however one genre pays rent to an unrelated third party, a landlord and the other pays rent to a related owner of the building. Most common in the second type, is a real estate ownership structured as a limited liability company, LLC, and the occupier a corporation. 
 
Today, I want to focus upon some common mistakes I witness occupants make in their commercial real estate decisions. 
 
No agreements. Too frequently, I see this with occupants whose building ownership is synonymous with that of the operation. A building is purchased, many times with debt, and a mortgage payment is originated. Additionally, property taxes, insurance, and maintenance are incurred. Resulting is a payment - rent - which ownership charges the resident. Unfortunately, the payment has no relation to a market rent for a comparable building. The owner has her costs covered and believes everything is golden. Unfortunately, a subsidy - charging the company less than market - devalues the operation. If a market rent was charged, a deduction in profit results. Conversely, billing too much places undo strain upon the occupant and ready sources of capital are consumed. This can limit the ability to hire, buy machinery, and grow sales. 
 
Once a satisfactory market rent is determined, it’s critical to have a written agreement between the parties - outlining the rent, expenses, term, increases, and options. 
 
I once had a client forced to move because no written agreement existed between the owner and occupant. Unbeknownst to the occupant, the owner had deeded small portions of the building ownership to various entities, such as ex-wives, charities, ex-girlfriends, and the like. When the owner met his untimely demise, the occupant - who was also a small owner of the building - found himself without an agreement and many different factions wanting their equity. A trustee was appointed to sort out the mess. The trustee’s only course of action was to sell the building and force the tenant to relocate. Extreme, but it can happen.
 
Extension rights. Extension rights fall in to numerous categories including options to renew a lease term, options to purchase the building, options to terminate the lease, options to take additional space, rights of first refusal to purchase and lease, as well as rights of first refusal and rights of first offer to purchase the real estate. Clearly, these understandings must be in writing in order to avoid conflict. However, one of the problems I see is the agreements are too vague. As an example, maybe an occupant has the option to renew the term of their lease for five years upon the expiration of the original lease term. If the language simply says - and occupant can stay for an additional five years at a mutually agreeable rate, disagreements can occur -  because no mechanism exists to determine a fair rental rate. Therefore, it’s important for options to not only be in writing, but also have clear definitions as to how rents and purchase prices are to be calculated. I’m involved in one such exercise currently where the language is very specific. If the landlord and tenant cannot agree upon a rate, each appoints, an arbiter to make an independent evaluation of the market. If those two arbiters cannot come to an agreement, a third arbiter is appointed by the previous two and her determination is final. This is a cumbersome process, but one which will avoid any disagreement. Finally, make sure the market lease rate or market purchase price is based upon comparable buildings within a comparable sub-market with similar amenities. In other words, it’s unfair to compare a 4000 square-foot address in the Irvine Spectrum to a 100,000 square-foot building in Santa Fe Springs.
 
Allen C. Buchanan, SIOR, is a principal with Lee & Associates Commercial Real Estate Services in Orange. He can be reached at abuchanan@lee-associates.com or 714.564.7104. His website is allencbuchanan.blogspot.com.
 

Random Thoughts

Ahh, springtime. Longer days, warmer temps, flowers abloom, the crack of the bat on opening day of MLB, NCAA final four, and the Masters golf tournament. You may be wondering how I have time to make any deals with all the sports happening this time of year. It’s tough. But in light of the screen time I’m spending, my thoughts these days are random. 

 
Please stay tuned as I run through a few thoughts I have clouding my consciousness. Someone famous once said - they’re only opinions, but they’re all mine”. 
 
Seller/buyer disconnect. I wrote an entire column on this topic last week. If you missed it, you can catch it online.
 
Not terribly long ago, we were immersed in a seller’s market. Occupant demand outstripped supply and sellers were bullish. Multiple offers were the norm. Asking prices were abandoned for the dreaded TBD in case pricing was pegged too low and money was left on the table. The amount of buyer activity determined the ultimate strike price. In order to compete in this frenzy, occupants were forced to shorten due diligence periods, jettison financing contingencies, and seemingly overpay. A listing translated into a guaranteed paycheck. 
 
My how the world has changed in two short years. The only thing keeping sales prices relatively stable is a lack of availabilities. 
 
Impact of our Presidential election. I get asked quite often what to expect if Mr. Trump is elected vs Mr. Biden. Generally, a republican administration can portend tax cuts, an increase in defense spending, loosening of government regulations, and the appurtenant boom in the economy. To the extent this boom causes prices to rise - interest rates must be hiked in order to cool the fever. 
 
Counter to this would be a democratic administration with higher taxes, cuts in defense, more regulation, and a weakening economy.   
 
Yes. I’m oversimplifying. I can hear the detractors screaming - we have a democrat in office and the economy is just fine. In our most recent republican tenure, government debt increased dramatically. So the above are only generalities. 
 
Bottom line. Who knows? 
 
What’s happening with our economy? Speaking of said economy, what’s up? Consumer confidence is high, over 300,000 jobs were added in March, labor participation rate is now close to two thirds. If the economy is in the doldrums - why are employers adding so many jobs? Granted a big portion of the new employment is in the service industry where folks are spending money to dine out, take trips and buy experiences. Meanwhile, we expected a declining interest rate market this year as we anticipated the Federal Reserve would start the march down with inflation coming to heel. As of this writing, our benchmark ten year treasuries are topping 4.4% - bad for borrowers, good for savers. Retailers in the beauty trade are taking their lumps as well. 
 
Bottom line. Who knows. 
 
Springtime spells new beginnings. Another year and another batch of things to ponder. Should be an eventful balance of 2024. 
 
Allen C. Buchanan, SIOR, is a principal with Lee & Associates Commercial Real Estate Services in Orange. He can be reached at abuchanan@lee-associates.com or 714.564.7104. His website is allencbuchanan.blogspot.com.
 

Education of Buyers and Sellers As The Market Adjusts

In order for a real estate transaction to close - whether it is a lease or a sale - a properly motivated buyer and seller must be present. By this I mean you need an owner ready to make the next deal and an occupant who’s kicked the tires and is prepared to sign. Ideally, these motivations mesh into a synchronicity that is melodious. 
 
Currently, in our Southern California industrial real estate market we have a mismatch of expectations. Owners tend to remember how things were in early 2022 when occupant demand was robust, inventory was scarce, and interest rates were affordable. Folks who lease and buy these buildings perceive the opposite - a downturn in their business (less need for space), more addresses sitting vacant for longer, and borrowing costs that have doubled. A standoff akin to an old west gunfight has ensued. Fortunately, no one will be bodily harmed in said showdown. However, owners late to the fight may suffer financial losses. 
 
Today, I’d like to discuss our biggest task as commercial real estate brokers. That is educating owners and occupants to current market conditions. 
 
Understanding Market Dynamics. To grasp the current state of affairs, we need to delve into the factors shaping the industrial real estate market in Southern California. In the recent boom, investors favored constructing large warehouses for logistics operators, who primarily lease these spaces. Initially, the demand surged as online shopping soared, prompting distributors to expand their inventory storage. However, as the frenzy settled, warehouses across all submarkets now sit vacant, competing for tenants. While reducing rental rates seems a logical solution, constraints like promised returns to investors or fixed cost structures complicate matters.
 
Challenges Faced by Owners. Owners are grappling with the challenge of reconciling past experiences with present realities. Many are holding onto outdated expectations, hoping for a return to the heyday of early 2022. However, failing to acknowledge the shifts in demand, supply, and financing could lead to missed opportunities and financial losses.
 
Perspective of Occupants. Occupants, on the other hand, are feeling the impact of changing market conditions firsthand. With businesses adapting to new norms and uncertainties, the need for commercial space has shifted. This shift in demand has implications for leasing and purchasing decisions, as occupants navigate a landscape fraught with uncertainties.
 
The Broker's Role in Education. As brokers, our role extends beyond facilitating transactions; we are educators and advisors. Providing owners and occupants with comprehensive market insights, backed by data and analysis, is essential for setting realistic expectations and making informed decisions. By bridging the gap in understanding, we empower our clients to navigate market shifts with confidence.
 
Building Synchronicity and Moving Forward. Ultimately, success in commercial real estate hinges on collaboration and adaptability. By fostering open communication and collaboration between owners and occupants, we can work towards mutually beneficial outcomes. Embracing flexibility and adaptability allows us to navigate market shifts and seize opportunities as they arise, paving the way for continued success in an ever-changing landscape.
 
Education of owners and occupants is key to success in commercial real estate. By equipping buyers and sellers with the knowledge and insights needed to weather market shifts, we can bridge the gap in expectations and reach agreement. I’ve often opined - “allow the market to be the bad guy”. If I tell an owner - here’s how it is, I’m asking that reliance’s be placed upon my experience and credibility. I could be wrong. However, if we engage in a process of discovery - the market is sending the feedback. 
 
Allen C. Buchanan, SIOR, is a principal with Lee & Associates Commercial Real Estate Services in Orange. He can be reached at abuchanan@lee-associates.com or 714.564.7104. His website is allencbuchanan.blogspot.com.

What can Little House on the Prairie teach us about Commercial real estate

Fifty years. Wow! Has it really been that long since Half Pint, Ma, Pa and Almanzo graced our tv screens? In a word, yes. Little House on the Prairie, the iconic 1970s series about a pioneer family struggling to make their way on the prairies of Minnesota just celebrated its golden anniversary. Little did I know the series was filmed in our very own Simi Valley, California right down the road from the Ronald Reagan presidential library. Admittedly, my wife is a larger “bonnet head” than I - but I cooperatively loaded the car with water and snacks and left the house at 6:30 in the morning in order to make an 8:45 bus tour of the original filming location. The day unfolded with sights, sounds and scenes from another era - that of our youth and unspoiled innocence shared by many of us in the seventies. I’m officially now a Landon head. 
 
You may be wondering what any of this has to do with commercial real estate? Indulge me as I draw a few parallels. 
 
Sense of Community. In the rolling hills of Simi Valley - err, Walnut Grove - community wasn't just a concept; it was a way of life. The Ingalls family relied upon their neighbors for support and camaraderie, facing challenges together and celebrating victories with a common goal - survival. Commercial real estate brokers also enjoy a strong community forged by transacting together. You quickly discover on whom you can rely, and those that require a bit more caution. Reputation is hallmark. Commercial real estate transactions can be long, difficult, and stressful. If there is enjoyment with your colleagues on the other side of the deal, the journey is so much more fun.
 
Pioneering Spirit. The pioneer spirit runs deep in the veins of characters like Charles Ingalls and his family. Their courage, resilience, and willingness to venture into the unknown embody the essence of taking a risk. The career of a commercial real estate broker is pioneering as well. You see, we are not paid a salary, but rely upon revenue generated from closing transactions. In effect, we eat what we grow. We experience a harvest, similar to the Ingalls, after - many times - a long growing season. But harsh winters or early spring rains can destroy our efforts and crater our work. 
 
Hopeful Attitude. Despite the harsh realities of frontier life, optimism never waned in the Ingalls household. Their hopeful outlook and unwavering determination served as examples to others. Longevity as a commercial real estate broker must start with an optimism for positive outcomes. You simply must look at every situation and know in your gut that something great is going to occur. If you allow negativity to creep into your brokerage, the universe will deliver less than stellar results. Many in our trade are quite superstitious and will not discuss transactions in progress until after they have closed. Pioneering families in the 1800s were also superstitious but relied upon a deep faith in God to carry them through difficult times.
 
Adaptation to Change. Change was a constant companion for the Ingalls family as they navigated through shifting seasons, economic fluctuations, and societal transformations. Their ability to adapt and evolve in response to change was instrumental to their survival and prosperity. Likewise, in commercial real estate, adaptability is key to staying relevant and resilient in a dynamic industry. Who would have imagined the advanced technologies today that allow us to work from anywhere and achieve wonderful outcomes. 
 
Long-Term Vision. Beyond the immediate struggles of pioneer life, the Ingalls family held onto a vision of a brighter future - a vision that fueled their determination and guided their actions. In commercial real estate, having a clear long-term view is essential for success. Setting specific actionable goals is paramount. Necessary for success must be an attitude of “playing the long game” and not getting consumed with short term distractions. 
 
The day resonated deeply with me. I came away with an appreciation of Michael Landon’s legacy, his style and un-compromised standards. His creative character development, attention to detail, and sense of humor gave us a glimpse into the harsh life in the prairie. So, as we celebrated fifty years of Little House on the Prairie, let us also celebrate the enduring wisdom it imparts, guiding us forward on our own journey through the prairies of commercial real estate.
 
Allen C. Buchanan, SIOR, is a principal with Lee & Associates Commercial Real Estate Services in Orange. He can be reached at abuchanan@lee-associates.com or 714.564.7104. His website is allencbuchanan.blogspot.com.

Reflections from Paradise - Commercial Real Estate Insights from My Florida Keys Adventure

I Just got back from an unforgettable getaway in the Florida Keys, and let me tell you, the experience was more than just sun, sand, and sea. It got me thinking about the commercial real estate scene down there, and boy, do I have some stories to share. So grab a mojito and join me as we unravel the lessons I learned from Ernest Hemingway's haunts, Harry Truman's hideaways, and the breathtaking beauty of the Keys.
 
The Importance of Location, Papa's Way. Picture this—sipping a daiquiri at Sloppy Joe's in Key West, where Hemingway himself used to hang out. It's a reminder that in commercial real estate, location reigns supreme, just like Papa's favorite watering hole. Those prime waterfront properties? They're like Hemingway's prose—timeless and always in demand.
 
Rising to the Challenge, Like the Old Man and the Sea.  Hemingway once said, "A man can be destroyed but not defeated." That resilience is evident in the Keys, where they've built structures strong enough to weather hurricanes and rising sea levels. It's a lesson in resilience for commercial real estate professionals—adapt or be swept away by the tide.
 
Hospitality Truman Style. Did you know Harry Truman used to vacation in the Keys? His Little White House in Key West is a testament to the region's hospitality legacy. It's a reminder of the lucrative opportunities in the hospitality sector, where commercial properties can cater to guests seeking a slice of paradise.
 
Preservation vs. Progress, a Tale of Two Islands. Just like Hemingway's love for adventure and Truman's love for relaxation, the Keys balance preservation with progress. It's a delicate dance in commercial real estate, where developers must tread carefully to honor the region's natural beauty while meeting the demands of a growing market.
 
Beyond Tourism, Truman's Legacy. Truman's time in the Keys wasn't just about leisure—he also laid the groundwork for the region's military and research facilities. It's a reminder that commercial real estate opportunities extend beyond tourism, with potential in sectors like healthcare, education, and technology.
 
Riding the Waves, Key Largo Style. Key Largo, with its vibrant coral reefs and laid-back vibe, is a metaphor for the commercial real estate market—constantly changing yet always captivating. By studying the historical market trends of the Keys, investors can navigate the waves with the confidence of a seasoned sailor.
 
As I bid adieu to the Florida Keys, I was reminded of Hemingway's spirit of adventure and Truman's steadfast leadership. Their legacies, intertwined with the breathtaking beauty of the Keys, offer valuable insights for commercial real estate professionals. So, here's to the lessons learned from Papa's haunts, Truman's hideaways, and the timeless allure of the Florida Keys. Cheers to the next adventure in commercial real estate!
  
Allen C. Buchanan, SIOR, is a principal with Lee & Associates Commercial Real Estate Services in Orange. He can be reached at abuchanan@lee-associates.com or 714.564.7104. His website is allencbuchanan.blogspot.com.
 

Advice I’m Giving These Days

Hello friends! I’m penning this on the balcony of my stateroom on a ship somewhere in the Caribbean. With Nassau in our rear view mirror and steaming toward San Juan - the weather is slightly overcast, mid seventies with a mild breeze blowing. Well not really,  but a man can dream. Actually, I’m just pecking away at my dining room table in Orange. But I digress. Today, I go deep on the advice we’re giving to a client of ours who wants to purchase a building. They’re woefully short in space and have placed a bandaid on their growth by adding 3PL pallet positions. 

 
Based upon our direction in early 2024
 
We’re early. Which is good if we can get seller capitulation. Which we have. We’ve actually found someone willing to sell to us. Problem is, our idea of value differs. But, remember 2021? We couldn’t compete with the number of buyers in the market with deep pockets and a rabid desire to own. In my opinion, those times return this year as rents stabilize and interest rates decline.   
 
The real soft spot in the market is the rental market. I believe a financially qualified tenant could make an an unbelievable deal today. Not quite to 2019 pricing - but close. Waiting to purchase costs money. Let’s say today’s value is $358 per square foot and we can strike at $350 per square foot and every month you rent costs $1.00 per square foot. If you wait twelve months, you must buy the same building at $338 per square foot.  
 
So based upon this - their alternatives appear to be. 
 
Stay put. By striking a short term deal with his current landlord, we can watch the market and react when pricing becomes more favorable. 
Positives: 
+ avoid moving twice 

Negatives:
·        space is smaller
·        already racked
·        3PL is costly 
 
Strike a short term Sublease. Similar to staying put but different in that the space need is solved. All of this money is sunk. The client builds no equity and potentially misses out on market opportunity as the two year sublease term is a long time.
Positives: 
+ cheapest space alternative
+ racked 

Negatives:
·        no equity
·        racking RE-config
·        uncertainty after 22 months 
·        two moves
 
Buy the deal we found
Positives: 
+ certainty
+ size
+ divisibility
+ one move 
Negatives:
·        price impasse
·        expensive
 
Lease with an option to buy. 
 
Positives: 
+ lowers his basis
+ rent is equity
+ one move
+ time to ramp up operation 
+ speed of move.
Negatives:
·        absolute non-starter with the ownership
·        difficult to peg an option price
 
Strike new lease.
Positives:
+ preserves operating capital
+ cheaper 

Negatives:
·        no generational wealth creation
·        expense at the end of the term?
·        Over 120 months no equity build-up and loan pay down. 
 
What will the client do? You’ll have to stay tuned as this saga is just now unfolding. 
 
Bon Voyage!
  
Allen C. Buchanan, SIOR, is a principal with Lee & Associates Commercial Real Estate Services in Orange. He can be reached at abuchanan@lee-associates.com or 714.564.7104. His website is allencbuchanan.blogspot.com.

Can Subleases A Market Make?

By the time you read this, we will have exhausted two months of 2024. Christmas lights will be appearing in home improvement retailers in no time. But I digress. 
 
Last month, I wrote about subleases. You might believe this is deja vu all over again. And, in some ways it is. It’s just uncanny to me how our industrial market activity has gelled around these remnant sales. 
 
In my associate’s and my practice, the majority of deals we are currently pursuing are subleases. Allow me to become a bit more granular and describe each situation. 
 
Efficiency. We represent - and have since 2010 - an occupant whose business spans the western United States. Currently, their SoCal locations house operations in Ontario, Santa Fe Springs, San Diego and Valencia. This company has increased their top line revenue organically and through acquisition. Hiring has been at a fever pitch - their appetite for space therefore unquenchable. However, substantial investment has been made in the mother ship hosting each sub market. We’ve found it more economical to add a building or two versus uproot, move, and consolidate. Until now, that is. A desire to be under one roof and increase efficiency was the driver for their present relocation. One of the leave behinds was the previous locations. Akin to crossing a stream and having your feet split between two rocks - this group will stage its move and transition from three buildings into one by year’s end. Meanwhile, term remains on the leave behinds and must be addressed. We’re currently engaged to find a surrogate. Once the move occurs and the buildings are vacated - very little time will remain on the leases. Careful coordination with the owner’s representatives has begun. It’s a work in progress. But one caused by growth - not caused by overzealous space consumption. 
 
Aquisition. In 2022, we were hired by an estate. Tragedy had struck the year before as Covid claimed the life of a family member and patriarch of the company. Owned were the enterprise and the real estate that housed it. Growth of the business over decades found the operation straddling three addresses. Now the de facto owner - the executor - angled to sell the buildings and the company. You see, none of the following generations had experience running the business - thus no desire to continue ownership. The executor’s timing was impeccable as he maximized both real estate and company values at the top of the market. Included in the real estate sale to an investor were three - five year leases. However, the business buyer had excess capacity at another location and didn’t need the three leased buildings. Consequently - as frequently is the case - an acquisition caused a real estate requirement. In this case, the disposition of the three leases. We advised the tenant to market the subleases aggressively and the market responded in kind. With any luck, we’ll be done this week and all three will be subleased. 
 
Market timing. We represent an eCommerce distributor. All manner of foot ware, wearable technology, and beauty products are imported from China and sold locally through mass retailers. This group, based on the east coast, has been on a rampant kick to acquire competitors and grow its business. Part of the inventory is stored in a building in the Inland Empire and the overflow in a third party logistics provider. It’s now time to purchase premises to accommodate the growth. However, there is a problem. This buyer’s idea of value is less than the going pricing. We’ve not found a seller willing to capitulate. We believe there are more price declines coming but the space needs are stressing the operation. Subleasing a larger facility for two to three years seems to be the answer. If the purchase market responds and we can acquire at our price point, we’re not hampered by a long term lease. But, if not, we simply renew with the owner and continue our operation in a leased address. 
  
Allen C. Buchanan, SIOR, is a principal with Lee & Associates Commercial Real Estate Services in Orange. He can be reached at abuchanan@lee-associates.com or 714.564.7104. His website is allencbuchanan.blogspot.com.