Posted on | January 29, 2015 | No Comments
These are good times for real estate, so why do we all feel so anxious? 2014 was a banner year with lower unemployment, lower cap rates and higher purchase prices than anyone thought possible. Capital from around the world is flowing into real estate even though projected yields for assets purchased today are a shadow of pre-recession pro-formas. Gateway cities continue to absorb very high pricing – above pre-recession levels – while secondary markets are warming up. Investment managers are raising capital, growing their teams and enjoying the fruit of their considerable labor.
And yet…things aren’t exactly the same as they have been in the past. There are new disruptive business models, new real estate usage patterns, new regulations, and new institutional capital that is actively changing how the game of real estate is played and won. Meanwhile the overall economy isn’t exactly boring either. It’s difficult to predict what might happen in the next month, much less the next year or decade. In the midst of a recovery and growth cycle, we all continue to be surprised by what happens.
And the more surprises there are, the less likely our original assumptions are correct…hence, our collective anxiety in a strong economy.
But what if those surprises could be turned to our advantage? What if surprise can help us better understand what is happening and what might happen in the future? Julia Galef, the President of the Center for Applied Rationality recently wrote about how surprises help us discover deeper truths and understanding – that surprise is key to the scientific process. As she pointed out, Isaac Asimov once said that, “The most exciting phrase to hear in science, the one that heralds new discoveries, is not ‘Eureka?’ but, ‘That’s funny…’”
So, in the spirit of Isaac Asimov and Julia Galef, here are three things that surprised me in the last month: three surprises that are forcing me to question my assumptions and perhaps will help develop a more accurate picture of what is to come in 2015.
- Oil prices are half what they were six months ago. This surprised a lot of us, but we should have seen it coming. What else happens when there is more supply of something and no increase in demand? Will lower oil prices change the growth patterns of cities and suburbs? Will geopolitics change when oil based economies like Russia run out of money? How many investment strategies assume stable or rising oil prices whether they know it or not?
- Baby boomers are not downsizing. According to recent research by Nielsen, only a third of baby boomers plan to move to a new home in the next ten years. Of that third, half plan to increase the size of their homes, while the other half may decrease the size of their home, but increase the cost of that home through better finishes and better neighborhoods. How many economic predictions rely on the assumption that baby boomers are winding down?
- Interest Rates and Inflation have not gone up. Over the last few years, January has become a time when everyone predicts that rates must go up. And every year, that has not proven to be the case. Will it happen this year? How many portfolios rely on interest rates staying the same? How many strategies rely on them rising?
We live in a time of surprise whether we like it or not. This is a time when growth doesn’t happen evenly, and where loss or can happen in an instant. The mistakes we make today will likely come from our own cognitive bias: the assumption that what has always been true in the past will continue to be true. Look at your assumptions the next time you are surprised. Are they right? What might happen if they aren’t? Do you need to change them?
And the next time you catch yourself thinking, “that’s funny…” there is a possibility that you are looking at the seeds of your next brilliant investment strategy.
Posted on | December 10, 2014 | No Comments
Posted on | August 30, 2014 | No Comments
How many times, after an extensive planning session, have you or someone else in the room said, “Let’s see if we can get ‘buy-in’ from our clients, colleagues or the market?” I’ve always found the concept of “buying-in” somewhat problematic. If a strategy is bought into by whatever constituency you wish, will it actually be supported? Will a “buyer” own the success or failure of your strategy?
People buy quite a few things that they never use, never care about and quite often forget about. How many interesting tools, articles of clothing or various knick-knacks have you purchased only to lose in some closet or drawer?
Shouldn’t the goal of your strategy be to get others to share ownership? Owners, after all, tend to care far more deeply about the future of what they own. Owners have a tendency to prioritize resources, make sacrifices, adapt to change, and make every effort to create success. And with all the changes and uncertainty afoot, we need more owners than ever before – to solve problems, create resiliency and anticipate the future.
Instead of asking the question, “How do I get buy-in?” of your team, of your investors, and of all the other parties that can determine the success of your ventures, perhaps we should all ask, “how can I better share ownership?”
Posted on | August 4, 2014 | No Comments
“We enter a new era. Are we ready for the changes that are coming? … In the perspective of fifty years hence, the historian will detect in (this decade) a period of criticism, unrest, and dissatisfaction to the point of disillusion – when new aims were being sought and new beginnings were astir. Doubtless he will ponder that, in the midst of a world-wide melancholy owing to an economic depression, a new age dawned with invigorating conceptions and the horizons lifted.”
- Norman Bell Geddes, 1932
“We are called to be architects of the future, not its victims.”
- Richard Buckminster Fuller, 1978
As our society changes, so do our cities – the places where civilization happens. Just as our cities changed after the Great Depression and in the post-war period, they are changing now to accommodate the needs, desires and resources of society. In the second decade of the 21st century, we are still recovering from a frightening global financial crisis, facing changing demographics, and profound innovations in technology and global communication. How will our cities change, and how can we steer them to make not just habitable but better than they were before?
That isn’t a simple question to answer – in great part because no one person or entity owns or controls a successful city. There may be a strong political leadership, powerful corporate interests, organizations, tribes and thought leaders that can exert some influence, but at the heart of any successful city is fundamentally the sharing of ownership. The streets, the infrastructure, the buildings, and even the identity are owned by everyone who lives in the city. In the emotional or spiritual sense, it is intuitive that the city is shared. In a successful city, it is not uncommon to see someone pick up a piece of garbage or give a tourist directions to a museum, or shovel the snow off the sidewalk in front of their home or business – it is, after all, their city. Every citizen owns and is responsible it. When people don’t share ownership, however, only the most oppressive regimes can keep up even the appearance of a functioning metropolis. City workers perform only the minimum tasks asked of them. Security is corrupt and often non-functioning. Garbage is left in the streets. New investments in private and public space from anyone other than the leaders become scarce and those free to leave, do.
Equally important as the emotional ownership is the shared economic and legal ownership. Over the centuries, we have created a series of structures, customs and laws that support sharing the city and its resources. Financial and governmental arrangements such as leases, mortgages, regulations, taxes, and shared services all support a rich shared ecosystem that allows a city and a society to flourish. As those structures change, so does the nature of the cities themselves.
Cities are shared, and how we share ownership will determine the shape of their future.
As an example, North American cities underwent a tremendous transformation in the second half of the twentieth century. As predicted and to some extent encouraged by Mr. Bell Geddes’ prescient Futurama exhibit for General Motors at the 1939 World Fair, cities transformed through an expansion of the suburbs and the steady “emptying out” of the central downtowns. Superficially, this was enabled by factors such as new industries, massive engineering of roads and bridges, wide-spread automobile ownership, the expansion of the economy after a brutal depression, and an explosive post-war population surge. But the most powerful driver of transformation was the often overlooked innovation in shared ownership created by the Federal Housing Administration in 1934: the 30-year self-amortizing home mortgage.
No one thinks of a mortgage as particularly innovative, and yet it changed the decisions, behaviors, and opportunities for millions of people, perhaps even more than all the brilliant design, engineering and technology of the 20th century. Before the 1930’s less than half of the U.S. population could own their home. A few short-term, balloon payment mortgages, where the entire principal had to be repaid in 5-7 years, were available, but only a small number of people had the means to take advantage of such loans to buy their own home. In 1910, the census showed that only 46 percent of families owned a home. Everyone else rented.
What happened over the next 80 years is well known and impressive to consider. Home ownership soared to over 65.9 percent of families in 2013. An astonishing majority of people in the US live in their own homes.
By any measure, the thirty-year mortgage has been very popular…and with good reason. As long as home values rise, the considerable cost of interest is mitigated or even superseded by the increased value of the home when it is sold. But there was an important catch to this innovation in shared ownership that transformed the landscape far more than a simple change in ownership structure: up until the 1970’s a mortgage only worked for a single-family home. Anyone who wanted to own their home would have to leave the city center for neighborhoods and suburbs with room enough for individual houses. Mortgages weren’t available for apartments until federally insured condominium mortgages were developed in the 1970’s. Until that time, if you lived near the center of the city, you were a renter. If you wanted a mortgage, you moved out.
In the 1970’s some people used condominium mortgages to stay in the city. In the next few decades, more people chose urban living and some city neighborhoods came back to life. In a few cities, suburban growth slowed while urban growth increased. For example, the U.S. census reported in 2011 that Chicago’s overall population decreased by 7 percent over the previous decade – and yet the population in a five-mile radius from the center of downtown grew by 36 percent.
City center populations continue to grow – driven by changes in technology and the growing preferences of well-off baby boomers and millenials to live, work, and play within walking distance. But there is a downside to this recent success. Thanks to the law of supply and demand, living in today’s revitalized downtowns is becoming too expensive for many people who want to live there – and that could limit future growth.
Is it possible for shared ownership to change again? Just as the 30-year mortgage developed the shape of the 20th century city, is there another structure that could facilitate the needs of the 21st century city?
Before considering what a new shared ownership structure might become, it’s important to clearly understand what a lease and a mortgage share in common. If one rents a home from a landlord, one agrees to a lease of a defined term, usually one year. Every month during the term of that lease, rent must be paid to the landlord. If one buys a home with a mortgage, one agrees to a defined mortgage with a lender, usually ranging from 15 to 30 years, where interest (rental fee for the money) must be paid monthly. If a renter stops paying rent or if a borrower stops paying their mortgage, both are eventually evicted, and the possession of the home reverts to the landlord or the lender.
Of course, there are very important differences between a mortgage and a lease, including the capability for a borrower to retain appreciated equity on any increase in value in their home – but in fundamental ways when one leases a home, one pays rent for the property, when one mortgages a home, one pays rent for the money.
Having a mortgage is simply another form of renting. This is certainly supported by historical data on home ownership. Despite the current 65.9 percent home ownership rate, the percent of families that own their own home without a mortgage today is about 20 percent. Compare that to the rates of free-and-clear ownership in 1910 of about 30 percent. Viewed this way, a smaller percentage of Americans today own their homes than in 1910. Most Americans are still fundamentally renting their home, but use a different kind of rental agreement called a mortgage.
A similar financial construct allowed for most people to “own” cars as well. Car loans allow for “owners” to make a regular payment on their cars until they are paid off. Built into that payment is interest, or “rent” for the money needed to “own” the car. If a car owner stops paying the loan, the car is repossessed by the lender.
Renting money for a house and a car were crucial enablers for suburban expansion. Only by “renting” money could people afford to live in a home far away from the city and drive to work, shopping and to recreation. Without the mortgage and the car “loan”, the suburbs might never have happened. But how good a “deal” is renting of money to own a home and a car?
Consider the cost of “owning” a car: even with a car loan or lease it is expensive. According to AAA’s 2013 ‘Your Driving Costs’ study, the average sedan costs $760 per month to own and operate. A larger car, such as a truck or SUV, is even more expensive.
At the same time, it appears that most car owners do not use their car all the time. For example, the 1995 Nationwide Personal Transportation Survey conducted by the US Department of Transportation calculates that the average time spent by drivers in their cars every day is 1.2 hours – or five percent of the total time. That means that for 95 percent of the time, the car is not in use and is not providing value to the owner.
For most people it costs $9,000 every year to “own” a car that they only use five percent of the time. But what if you could monetize some of the 95 percent? What would happen if one had only to pay for 50 percent or 30 percent of that car? What if you had a membership in a club that gave you access to a car when you needed it, but shared it with other members when you didn’t?
That’s precisely what car sharing services like ZipCar, Car2Go and DriveNow do. Members only use cars when they need them, and the services are free to monetize the untapped 95 percent idle time by sharing the cars with other members. Drivers are able to pay less on a monthly basis to have access to cars at their convenience – and a single car is used by many people in any given day. The value proposition to users is very compelling, and these kinds of services are growing fast. At the end of 2013, Zipcar claimed that their revenues had almost tripled in four years from $106 million in 2008 to $279 million in 2012 and has grown to 850,000 members.
Instead of renting property, or renting money to own property, these services offer membership based access to assets.
The appeal of these car-sharing services is often somewhat misunderstood. The thousands of users who become members every year aren’t joining just to save money – they are gaining access to more than they could possible get if they were owners. Just as belonging to a health club allows you to use facilities such as swimming pools or tennis courts that far exceed in quality that which could be built – sharing a car allows someone to live a far more elevated lifestyle than they could buy themselves through a money rental agreement like a car payment. For $700 a month, someone can “own” a modest sedan but through a car sharing membership, one can drive much nicer cars – even perhaps afford to hire shared limo drivers through services such as Uber at the same cost.
By changing from renting to membership, individuals are able to gain access to more and better quality services than they could before. Membership is not about saving money, it’s about upgrading lifestyle. The question then becomes: can membership be as viable a model for real estate shared ownership as it is proving to be for cars? Can membership help more citizens gain access to the denser city centers of the future?
A membership is not as different from a loan or rental agreement as it might initially appear. In both a rental and a mortgage arrangement, ownership of an asset – whether it’s a car, a house, an apartment or an office, ownership is shared – between a landlord and a tenant or between a lender and a borrower. Membership is also shared ownership, but it is shared with a larger group of people.
This form of membership has already begun to be applied to office space. Usually, the only way for a business to access office space is to buy an office building or to rent blocks of offices space in an extended lease of five to 20 years. This buy or lease model has served large stable companies quite well, but smaller and faster growing companies are effectively shut out of the higher quality office space in downtown locations.
At the same time, there is a surprising amount of office space available. Even in healthy downtowns where there are limited vacancies, most offices stand empty at least two-thirds of the time. Someone walking down the streets of downtown New York, Washington, DC, San Francisco, Boston or Chicago, all currently healthy office markets with high official occupancies, might be surprised to see how many empty windows there are. What if all that capacity was put to work?
Co-Working spaces such as Galvanize in Denver, Next Space in California, General Assembly and Neuehouse in New York all offer different versions of memberships for individuals and companies to locate their office – without renting. By doing so, just like car sharing, it is possible for more people to use the same amount of space. It also allows for a higher level of office space than those companies could afford to create themselves, located in coveted downtown locations, with a high level of services, infrastructure and flexibility for companies that are growing and changing every month instead of every 10 years. If a company needs to add workers, they simply have to add memberships, not go looking for new office space to lease. With membership in co-working offices available, a whole new demographic of companies, entrepreneurs and free-lancers can leave their attics and garages to work downtown.
These co-working spaces are surprisingly efficient. Some operations report as much as three times the number of members than desk chairs in their office. Instead of measuring the optimum amount of office space as 100 or 200 square feet per person, a membership model allows far greater density. This is important if everyone wants to be downtown, and may be a key to understanding what our cities might look like in the decades to come: a lot denser than they are now – but there is a good chance that it won’t feel very crowded. Instead of offices and homes standing empty most of the time as they do today – if the buildings are used more efficiently, with different companies and individuals using space at different times of day and the week, it’s possible for more people to use the same amount of space without being on top of each other.
Interestingly, the density of people downtown is far less today than it has been historically. According to a study done by Jerome Pickard in 1967, Dimensions of Metropolitanism, for the Urban Land Institute, the population density in 1920 for five of the largest cities, New York, Chicago, Philadelphia, Boston and Pittsburgh was about 8,400 people per square mile. In 2010, those same five cities have a population density of 3,100 people per square mile. Certainly, these cities’ populations grew in size over 90 years – by a considerable amount – but they mostly grew out thanks to the dramatic expansion of suburban communities. Meanwhile, city centers built millions of square feet of new office product and lost over 60percent of their residential population density.
Today the greatest demand in our cities is for living space. More people want to live close to where they work. There are many reasons that may explain why this is happening, ranging from higher costs and congestion for commuting to a shift in aspirations towards a more urban lifestyle. Perhaps the simplest and strongest reason for the increase in demand for city centers is that people want to be closer to their friends.
When looking for a place to live, the assumption for many years is that most people value the quantity of space they can acquire above all other considerations; as in, “how much space can I get for the money?” And although many people still ask that question, it is not the primary driver of living decisions; instead it is a bit more complex.
An apartment developer recently asked prospective tenants what amenities or features they valued most in a potential apartment, and what would most influence their decision to move into or stay in any given building. The list of features that prospects were asked to rank included things like swimming pools, concierge services, workout rooms, parking, party rooms, cleaning services and many others. With all these high-value, and often expensive amenities on offer, it was striking that the most influential feature, well above anything else, was “a friend that lives in the building.” The social aspect of home purchase or rental decisions is quite often the primary driver. Even single family home buyers select the neighborhood they want to live in, often one close to friends and family members, well before they try to find the largest or most attractive house they can afford.
Membership structures can help make a more social lifestyle affordable for more people. If one lives close to where they work, and has easy access to car share service, mass transit, and taxis, one can forgo owning a car entirely – and save the $700 + per month cost of ownership. That frees up more money to pay for a more expensive apartment. But it is important to remember that even though urban living is more expensive on a per square foot basis, the difference in price for a living space isn’t always that much. Urban living is very different from suburban living, in that much more time is spent in shared spaces, such as coffee shops, parks, lobbies of apartments, etc. In the suburbs, there is far less common space, and much more time is spent in a private home. Therefore, a suburban home needs to be larger than an urban one – as more time and more activities take place there. Urban homes can be much smaller because people spend less time there – and therefore more affordable as a whole despite a higher per square foot price.
An apartment membership scheme could make urban living even more accessible. Membership based office space has fewer empty windows than traditionally leased office, but thanks to more efficient space design and scheduling, there is plenty of room for everyone to work. Managed correctly, apartments could also use shared space more efficiently through membership. One of the drivers of vacancies or non-use of apartments in existing buildings is that peoples’ lives often change faster than the term of a lease. One might take a new job too distant from the apartment, fall in love and decide to live together – or even welcome a child or pet into the home.
In a pre-membership environment, space stands empty until the lease expires and finds a new tenant. Imagine what would happen if instead of signing a one-year lease for an apartment, one could join an apartment building for a one-year membership. If during the membership term one changed jobs or decided to move in with someone else, one could up-grade their membership to allow them to shift to a larger apartment or to another building owned by the apartment company. Instead of losing a tenant at the end of a lease term because their life changed, a building owner would be able to deepen their relationship and hold on to members by accommodating to their life changes.
High-end apartment buildings built today already feature quite a bit of shared membership attributes. Shared amenities such as outdoor patios, dog walks, yoga studios, swimming pools, gyms, lounges and party rooms replace the need for large private spaces that used only a fraction of the time by their owners. If one joins an apartment building, much the same way one joins a health club, it may be possible for members to enjoy a better lifestyle than they could create on their own.
Imagine what would happen to our cities if membership became the dominant form of ownership rather than the lease or mortgage. More people of a broader economic spectrum could enjoy the amenities and pleasures of a city at a lower cost – and encourage more uses in close proximity. Consider, for example, what might happen if more people shared a single amenity such as a swimming pool. According to a 2013 study by Benedikt Gross and Joseph Lee called “The Big Atlas of L.A. Pools” there are over 43,000 swimming pools across the greater Los Angeles area – most of them privately owned – costing over $946,000,000 in construction costs, 22 million square feet of land and 760 million gallons of water. More sharing of those pools – could provide swimming to more people for a fraction of the money, land, and water used today. Not everyone can or should pay $22,000 to swim in their own pool. Many more people can pay a membership fee to share that pool with 10 to 100 other people. Sharing of amenities means that fewer assets have to be made, less land is needed, less transportation required, less energy consumed and less carbon created – but more people can have access.
Since the beginning of cities, there has been some form of shared ownership. The evolution of the forms of shared ownership, whether they are leases, mortgages or memberships have and will continue to define the shape of our cities. If membership becomes a more dominant form of shared ownership, it is quite possible that in the next twenty years, the density of cities could double, and their citizens will share more of what a city can offer.
Posted on | January 31, 2014 | Comments Off
Posted on | January 25, 2014 | Comments Off
For a print version with photos, click here.
Can space change the way people behave, interact, and ultimately think? Is it possible for an environment to help create thought?
“This is not a typical association office,” exclaimed a recent guest after walking into the new offices of the National Association of Real Estate Managers (NAREIM). It is an open format environment, simply and elegantly furnished, on the third floor of the iconic Wrigley building. Out the windows are views of Michigan Avenue below, the Chicago river and some of the most exciting 20th century architecture in the world. This is less an office for association staff and more a gathering place for those making new connections, challenging their thinking, and learning how to run their businesses better.
In only a few months, the space has proven to be a flexible stage for strategy sessions, association meetings, and roundtable discussions—and has even served as a location for a student job fair. NAREIM members routinely use the space as a temporary Chicago office, holding meetings with colleagues and clients. And a good number of meetings in the 2014 NAREIM schedule are already planned to take full advantage of the new facility
The Wrigley Building was the first office building to be built north of the Chicago River in the early 1920’s, concurrent with the bridge connecting North Michigan Avenue with the Loop business district south of the river. Designed by the architecture firm Graham, Anderson, Probst & White, the grand new headquarters for the Wrigley chewing gum company was modeled after the Grialda tower of Seville’s Cathedral with white glazed terra-cotta ceramic tile cladding and ornate towers on top of the two office blocks. It was old but new from the beginning. Despite its elaborate detail and old-world inspiration, it had the most modern conveniences of the time and was the first air-conditioned office in Chicago. It stands almost like a gateway to the avenue, turned slightly off the grid of the streets and open to views and light on all sides. At night, bright spotlights light up the façade to glow like a beacon on the river. It may very well be the most recognized building in Chicago – and certainly seems to be the most photographed, as on any day looking down from the office windows, one can see a constant queue of photographers—profession and amateur alike—in the plaza below.
Owned by Wrigley throughout the 20th century, it was sold in late 2011 to a group of investors that include the Zeller Realty Group—managers of the building to this day. One month after the sale, NAREIM signed an agreement to lease space on the third floor of the north tower and move in once renovations were completed.
Here was a rare opportunity to create a stage for discussions—a place where members could connect, think in public, and work through the issues affecting their industry and their businesses.
The celebrated theatre director and author Peter Brook wrote in his 1968 book, The Empty Space, “A stage space has two rules: 1) anything can happen; 2) something will happen.”
Is it possible to create a place where anything can happen and something would happen when NAREIM members came together? With the build out of the new office, we intended to find out.
As a favor to the association, Donna Powers Branson took on the task of overseeing the build out and design of the interior. Drawing from her experience in the theatre, in retailing, and as an independent film art director, Donna had a considerable challenge with an oddly T-Shaped corner space that had not been occupied since the mid 1970’s. Fifteen hundred square feet that encompassed four separate office spaces, finished with thin veneered cabinets and radiator covers, gold-colored carpeting, and a dropped ceiling of acoustical tiles. Long abandoned paint peeling and flaking off the walls, ceiling tiles missing or dropped on the floor, and electrical wiring hanging ominously from the ceiling, it initially felt less like a headquarters for an association and more like the setting for a horror movie.
It was time to start from scratch. Everything was stripped bare—walls and cabinetry removed, the remaining ceiling tiles taken away. The morning’s light lit the entire office, burning clean the gloomy darkness that once hung in the air. It was immediately apparent; this bright, open light was what we would build around.
According to Donna, “To retain the best aspects of the space, we decided to keep it as open and spare as possible. NAREIM is all about new perspectives, flexible thinking, and looking forward. The space needed to reflect that.” No solid walls were built inside the space; no drop ceilings installed; no cubicles or dividers. Instead of covering up the radiators—they would be kept open, cleaned up, and given a fresh coat of paint. The nicks and scrapes that a building acquires over 80 years of use would still be visible, but made fresh and clean.
Since the ceiling was perhaps the roughest surface—and crowded with everything from conduit and fire sprinklers to HVAC ducts—most tenants would have simply installed another drop ceiling. Instead, to create the visual effect of a more finished ceiling below the mechanicals without blocking air-flow or lowering the height, lighting pendants were used. Reproduced from a design quite common in 1925 when the Wrigley Building was first constructed, the hanging fixtures mix modern with old with sculpted fluorescent bulbs that echo the shapes of early Edison filaments.
Furnished with simple and moveable furniture, the intent was to allow each meeting to adapt the environment as needed. At the same time, the environment needed to stimulate new thinking. According to Donna, “The last thing we wanted was ‘conventional’ furnishing. Instead of traditional office furniture, we used a mix of clean mid-century and industrial pieces with some historical references to Wrigley’s history. The addition of art added an occasional pop of color as well as wit.” The mix of mid-century and industrial is well represented by the meeting tables made from reclaimed barn wood set on wheeled legs of galvanized steel and simple chairs, copies of the classic 1957 Arne Jacobsen Model 3107 chair that were stained a deep indigo blue.
Instead of carpeting, the floor was laid with vinyl tiles made to look like wood planks—easily cleaned and maintained at a fraction of the cost of true wood floors. Using a hard surface created an uncommonly high level of energy as the acoustics became much more lively. The dead acoustical effect common in modern offices created through carpeting and drop ceilings can be very useful for audio recordings or conference calls as there is no echo when people speak. However, those kinds of acoustics can also have a deadening effect on individuals’ energy levels—and make it difficult for someone to be heard across a larger room without amplification. When people hear their voices bounce back from hard surfaces, it not only provides a boost to energy levels, it also helps the speaker intuitively moderate their voice to be comfortably heard by others.
That is why most public spaces built before microphones were commonplace have a similar acoustical signature. The environment functions as a literal amplifier of sound and energy—and in the process allow speakers to be more intimate and spontaneous than they would if handing around a microphone to speak.
Simple, easy to adapt, and loaded with visual wit, the new NAREIM Headquarters has arrived. Members now have a meeting space in Chicago to drop in on, engage in discussion, and connect to their colleagues. This is a place where anything can happen and something always does.
This is not a typical association office, but perhaps it should be.
Posted on | November 20, 2013 | Comments Off
Posted on | September 13, 2013 | Comments Off
Real estate matters…quite a bit more than many people assume. Not only does real estate account for a full fifth of the gross domestic product, it is the infrastructure, ecosystem, and structure for a fully functioning economy. The boxes we define as offices, stores, warehouses, and homes are only the physical manifestation of a broad range of activities that tie every aspect of our society and economy together into a broad and deep network of trust. The pursuit of real estate investing is a valuable and essential part of building and maintaining civilization.
…and it requires quite a bit of thoughtfulness.
There is an assumption that real estate is simply about the deals; that is, whoever gets the best deal, either the purchaser or the seller, wins. And though the ability to negotiate better than the counterparty of a deal is a key part of success in this business, it is not everything. Real estate professionals also have to understand, anticipate, and help to shape economic activity throughout the term of an investment. Purchasing that investment at a low price and selling it at a higher price is absolutely necessary, but there’s a lot more to it than negotiating terms.
According to the tired old cliché of real estate, the three most important elements of successful real estate are “location, location, location”. In some ways, the cliché – like most clichés – is too facile to explain the intricacies and importance of this business and it implies a somewhat defeatist or passive view of investing. In other words, it is difficult to swallow the notion that “location is destiny” – especially when real estate investors have had quite a bit of influence in the discovery, building, improvement, and creation of new locations around the world.
In 2009, the New York Times published William Safire’s analysis of where ‘location, location, location” came from. According to his research, the earliest recorded mention of the phrase he could find was in a 1926 Chicago Tribune real estate classified ad that said: “Attention salesmen, sales managers: location, location, location, close to Rogers Park.” This is especially ironic to anyone who invests in Chicago real estate since property values in Roger’s Park are typically half of the average Chicago property.
But if the rules of real estate aren’t “location, location, location” what are they?
Here are three new rules to consider: Density, Diversity, and Shared Ownership.
What makes for a successful location? It has quite a bit to do with how many people want to spend time there. If your building is where the most people want to be, it has the highest potential for revenue. The denser people are, the more opportunity there is, the more value there is. In some ways the real estate profession creates the infrastructure for density. Real estate makes density possible.
Diversity of people, of cultures, of uses, and of economic activity is essential for thriving places, cities, and communities. In farming, it may be possible to improve crop yields if one devotes a large area to a single crop, but the moment conditions change, perhaps due to difficult weather, an invasion of parasites, or a shortage of water and nutrition in the soil, that monoculture is less likely to survive than farmland planted with a variety of crops. Cities and communities behave much the same way. Less diverse economies like Detroit enjoyed tremendous growth at first – built around one very successful industry – but are particularly vulnerable to economic shocks. More diverse economies are able to handle changes in the economy better and return to full productivity sooner. As Ecclesiastes said, “divide your investments among many places for you might not know what risks might be ahead.”
At the same time, a diversity of businesses, cultures, and people promotes faster formation of new businesses, new technologies, and new ideas. A successful real estate investment depends on the economic success of the people and businesses that occupy the asset as well as the surrounding area. Diversity creates new growth and mitigates the natural volatility of a business cycle.
Every tool at the real estate professional’s disposal is essentially a device to promote shared ownership – whether it’s the JV agreement, the limited partnership, the GP-LP relationship, the mortgage or the lease. Every agreement and contract is designed to bind all the parties as much as possible in a shared responsibility for the success of every asset. The tenant needs to feel that they share in the ownership of a building as much as the lender or equity partner; the property management team needs to own its success as much as the developer or owner. Everyone should be able to come together and work out the problems when the asset falls and share in the rewards of its success when it prospers.
At its best, the commercial real estate industry is all about sharing a sense of ownership. And the most successful markets are passionately “owned” by all the participants.
For the best real estate investors, destiny is not just something in the stars, or in some pre-ordained quality of location, but rather in ourselves and in our ability to solve the challenges presented by a swiftly changing world.
Posted on | July 24, 2013 | Comments Off
Gunnar Branson appeared recently on the CBC’s Lang & O’Leary Exchange to discuss the ongoing densification of cities and its impact on commercial real estate in Toronto.
Posted on | May 13, 2013 | Comments Off
Are we there yet? The eternal refrain of children eager to get to a promised destination is a fair question to ask after years of uncertain market conditions, slow to recover labor markets and constant governmental stumbling. Unfortunately, it seems that the “parents” driving the economic car have less of an idea of how and when we will arrive than they ever did.
(For a print version of this report, click here)
Fortunately, as Abba Eban, the mid-twentieth century Israeli diplomat once pointed out, “Men and nations behave wisely once they have exhausted all the other alternatives”. If he was right, there may be hope that the past five years of economic roadblocks, confusing signs and political road rage could eventually give way to more stable, more prosperous and perhaps even less confusing times.
Meanwhile, real estate investment managers have to find their own path to wisdom. At NAREIM’s Spring Executive Officer Meeting this March in Santa Monica the focus of the discussion was on the landscape of economics, politics, technology and labor – and how these forces will affect smart investment strategy for the foreseeable future.
Insight abounded from thought leaders such as former White House Press Secretary Ari Fleisher on changes in the political climate over the past 10 years; from Los Angeles Mayor Antonio Villaraigosa on ways that big cities are reinventing themselves; and from physicist Geoffrey West on the surprising mathematics of urban growth and from many others. Despite the chaos at the macro-level, cities are growing, changing and evolving as overwhelming demographics and technology are re-shaping our world, and real estate’s role in it.
Were any definitive answers found during this meeting? No. But many questions and many more discussions illuminated how leaders will need to face the challenges of the next several years, known and unknown, if they wish to continue succeeding. A few points-of-view in particular are worth taking into account include:
The Economic View
The economy continues to be difficult to understand, much less predict, but it is not uniformly bleak. While describing the U.S. economy as “foggy with a crack of sunshine,” Doug Herzbrun, Global Head of Research, CBRE Global Investors, suggested that it’s possible to overstate concerns about the global economy. Any continuing weakness in the Eurozone will tend to “stay in the Eurozone,” and China’s recent economic lull is already reversing itself, he noted.
Herzbrun also dispelled the notion that the U.S. is in a jobless recovery, noting that growth has averaged about 50,000 new manufacturing and construction jobs and 150,000 new private services jobs per month. The stock market—still the best single indicator of economic sentiment–has experienced a repeating pattern since 2010, with a strong first quarter followed by a mid-year slowdown, he said. Although it is too early to tell if that cycle will repeat this year, The Labor Department’s April jobs report of over 600,000 new jobs created since January – and an overall unemployment rate of 7.5% suggests the economy may have sufficient momentum to disrupt this annual pattern.
That would be a good change since, according to Michael Zietsman, Managing Director, Jones Lang LaSalle, real estate and the general economy have followed the same pattern. “In the past three years the real estate markets have been schizophrenic,” he said. “They started out with a roar and ended with a whimper. I think 2013 will be different.”
Zeitman noted that there is currently twice as much capital chasing real estate than there are properties for sale. Total investment in 2012 exceeded $250 billion, outpacing the previous year by 19 percent. Today, many investors have aggressive acquisition targets and diminished disposition goals, indicating there is room for prices to rise further.
When analyzed by property type, there continues to be reason to believe that there will be continued growth prospects. In the past couple of years, retail and multi-family have been the clear winners. There is nervousness about some retail, given the continued disruptive nature of e-commerce, but high street retail is back to peak in many areas. Service and experience focused retail like the Apple Stores continue to deliver jaw dropping per square foot sales. But multi-family still seems like a safer bet going forward. According to Herzbrun, “looking forward I would expect apartments to continue to be top performers. They are really the only asset class now that has real, sustainable ability to increase rents.”
With office, it’s a bit tougher to see clearly. “The NCREIF index makes one wonder why so much money is plowed into office,” Herzbrun observed, “it had the worst return and the highest level of risk.” However, during an economic upturn office is generally the strongest property type and construction of new supply is at an all-time low. Depending on how businesses use office space for the next several years there may be cause to invest.
Industrial is about to get interesting. With the expansion of the Panama Canal about to be completed, there will be a rebalancing of market share across the port cities in the US – and according to Herzbrun, “manufacturing is recovering and the U.S. is more competitive than it has been for a while. As an economy we are producing more goods – albeit with fewer people.”
All this means a need for new and reconfigured facilities able to handle more automation, larger capacity and more efficient logistics. “The strongest demand right now is for the really big boxes – 1 million square feet or more for e-commerce fulfillment centers – and there will be further changes to space requirements. There is still a lot of functional and locational obsolescence in industrial space.”
At the same time, investors are also digging deeper for better cap rates, going into smaller cities with growth prospects, such as Seattle, Austin and Denver. Investors are also looking harder at Chicago and Houston, where cap rates on core office buildings are more than a full point higher than they are in New York and Washington D.C.
On the real estate fundamentals alone, New York City “prices defy logic,” Zeitsman said. Prices are setting new records at a time when many renewing legal and financial services tenants are reducing their space per employee by as much as 20 percent.
But Herzbrun observed that real estate prices are partly a function of the bond market. “There is a misconception that commercial real estate is expensive. If you compare the ratio of cap rates with bond rates, the US is experiencing the largest spread in history, making real estate extremely attractive as an asset class,” he said.
But the question remains – how long can the differential between bonds and real estate returns be sustained? And how much will governmental forces continue to influence the real estate market in the months and years ahead?
The Political View
“Things are happening,” enthused Jeff DeBoer, President and CEO of the Real Estate Roundtable, “TARP, Obamacare, the debt ceiling and sequestration are all outcomes of the gridlock in Washington. It’s important to note, however, that this gridlock is really a reflection of the split in the country itself.” But there is more movement today than there was only a few months ago.
After years of frustrating inaction, changes in the Foreign Investment in Real Property Tax Act of 1980 (FIRPTA) might actually occur in the next several months. Currently, foreign investors can hold up to 5 percent equity positions without worrying about withholding considerations.
DeBoer noted that there has been cause for hope in recent months. Congress has discussed increasing the withholding threshold to 10 percent and in April President Obama’s proposed infrastructure bill included a measure exempting foreign pension funds from the extra tax on gains, designed to place them on an equal financial footing as domestic investors. If progress of any kind is made in this area, as is expected, there will likely be a significant impact on the amount of non-US capital coming into real estate. “We are right on the cusp of a major decision that would overturn the way distributions to foreign investors are treated.”
Discussion has waxed and waned since the election regarding government sponsored entities (GSEs) Fannie Mae and Freddie Mac. DeBoer observed that the GSE reform debate has extreme views on both sides, with some politicians believing Fannie and Freddie should go away, and others believing that a market where GSEs providing virtually all home mortgages is not a problem. “Neither of those views is right,” said William Walker, President and CEO, Walker and Dunlop. “What we need is more of a balanced long-term solution with these enterprises.”
Last year Freddie and Fannie collectively provided $33 billion to the multifamily market, representing 90 percent of all capital supplied to the sector. The GSE’s provided a much needed stabilizing force for the entire sector and the economy. Looking ahead, Freddie and Fannie are working on a joint securitization program and also looking at ways to bring more capital to single family markets.
By contrast, the $750 billion of TARP funds loaned to banks four years ago were supposed to increase market liquidity, but banks were unable to put that capital to work without the infrastructure in place, according to Daryl Carter, Chair of the National Multi Housing Council and CEO of Avanath Capital Management. “What people underestimate is the value of the infrastructure developed by the GSEs to deliver multifamily capital to the market. That infrastructure works incredibly well.”
Participants in Fannie Mae’s Delegated Underwriter and Servicer (DUS) program for multi-family—unlike most residential MBS loan originators—must hold the first-loss position and service the loans they originate. “It is the only securitization program where private capital holds the risk,” Walker said. “The alignment of risk between private and public capital is why Fannie Mae delinquency rates are very low.”
Multi-family investors pay a price premium for multifamily product that’s directly attributable to the liquidity provided by Fannie and Freddie, as the investors have confidence they can refinance at the end of the loan term, Walker said.
If the government stopped guaranteeing the GSEs and Fannie and Freddie disappeared, the economic disruption would be significant. “The government backed mortgage securities market is the second largest market in the world. If Congress did something to alter that market there would be a big global reaction,” Walker said. At the same time, with no risk retention by loan originators in the single-family market, “you have a system that is bound to fail again.” A better solution would be to bring single-family lending rules more in line with GSE multi-family origination practices.
The Technological View
While economic and political factors have always been central to real estate considerations, disruptive technological change is becoming far more important than ever before as the ways people live, work and play has only begun to shift.
Office in particular seems to be vulnerable to changes in technology. Trends like telecommuting, hotelling and a reduction in the space allocation per employee continue to drive demand for space down even as the population rises due to the millennial generation and immigration. In Q4 2012 the national office vacancy rate averaged 18%. As corporate profits increase and companies resumed hiring, the office vacancy rate has been stubbornly stuck in the high teens.
“I predict office vacancy rates will get even worse in the coming decade because the underlying business model for commercial office space is fundamentally broken.” said Jeremy Neuner, co-founder and CEO of NextSpace. For the first time in history people can work from anywhere they can access wi-fi. “One of the places they will work the least is in office buildings.”
By 2015, there will be 1.5 billion mobile workers worldwide. By 2020, 40 percent of the American workforce will be contingent or fractional workers, earning their income from multiple sources rather than a single source, Neuner said. But all is not bleak for owners of office buildings. Alternative co-working spaces can be offered to workers on a paid membership basis vs. a pure per square foot rental. Contingent and fractional workers often need a place to work that is flexible, convenient, and works much the same way as a Zip Car or country club membership. Neuner’s company has had great success selling memberships to workers in multiple locations – deriving a much higher return than any lease could deliver.
According to Neuner, we should, “Stop thinking about leasing space and start thinking about selling an experience.”
At the same time, there is some reason to believe that demand for more office space could be in the offing. “The cost of office space is declining as a percent of total operating expenses, now down to just 2.4 percent,” said Kerry Vandell, Dean’s Professor of Finance and Director of the Center for Real Estate at the University of California-Irvine. “If you add in some behavior finance thinking it may not be the case that Gen X and Gen Y really wants a hotelling work life.” In the war for talent, larger office space and more amenities could be an inexpensive tool for employers to attract and retain the best and the brightest.
Will office space demand rise or fall? Will businesses rent by the square foot or by the seat? The answers will likely become clearer over time, but today it is almost certain that there is change afoot in the way businesses and individuals use office space.
Retail, of course, is even more affected by Internet and mobility trends. Today, e-commerce comprises 4.4 percent of all non-grocery retail sales, which not only threatens retail bricks-and-mortar profits but undermines state and local tax bases, which are dependent on sales tax revenue. That market share is only increasing every year. Forrester, the information technology research firm, predicts that e-commerce will approach a 15 percent share in just a few years.
Retailers have responded to this growing threat with multichannel marketing initiatives designed to create a seamless experience for customers who may not differentiate between shopping online, by phone or in stores. Increasingly, consumers want to shop online but pick up merchandise in stores, or the converse—checking out products in stores but buying online to avoid tax or to seek a lower price. This strategy may involve changes to the layout and design of retail stores, but the more immediate revolution is in the distribution chain. Supply chain experts have found dramatic cost efficiencies can be achieved through fewer distribution nodes, equipped to handle e-commerce fulfillment and traditional store shipments under one roof.
Retailers are also considering ways to maintain traffic levels in the face of e-commerce competition by offering customer experiences that can’t be replicated online. Chris Macke, CBRE Senior Real Estate Strategist suggested there may be a growing real estate opportunity in the intersection of retail and one of the most reliable growth industries of our time: Healthcare. Specifically, small retail centers are beginning to integrate with and embrace health related service providers in their tenancy – and are creating remarkable synergistic foot traffic for traditional retailers.
Macke cited contemporary examples of “medtail” including Walmart stores with Vision Centers, CVS stores hosting Minute Clinics and Take Care clinics within Walgreens stores. “It isn’t difficult to imagine malls with 10 percent or more medical tenants in the future–not just doctors, but heading aid centers, medical supply companies, physical therapy centers, and wellness centers,” Macke said.
Medtail may be increasingly important to shopping centers as healthcare spending increases for an aging baby boomer population and displaces the share of dollars they used to spend on consumer goods. The marriage holds other advantages as well: doctor’s visits take place during the day when retail traffic is low and parking is convenient for patients; medical tenants will accept hard-to-rent elbow space; and physicians generally sign longer term leases and have higher renewal rates than other retail tenants. The successful retailers of the future may need to know as much about health care as they now know about fashion trends.
No Clear View to the Future – the True Test of Leadership
Discussions in March kept returning to questions of leadership, of human capital, and of how to navigate uncertain, even turbulent times with the right team of the right people. As Matt Slepin of Terra Search Partners put it, “Real Estate is a business about deals and capital…but increasingly, it’s as much a business about people, teams and vision. It’s imperative that we try to look beyond the immediate transaction, beyond the hiring of one superstar, and towards the development of a more resilient, more effective, more successful organization.”
How do you build a team for the challenges of an uncertain world? According to opinions expressed at the meeting, it is important to not only know what your investment strategy and thesis might be, but also to know what differentiates your firm and your team. There’s a need to not only how you will succeed, but why you will succeed – even when the path doesn’t go as planned.
There seems to be a shortage of human capital. Very few young people have come into the real estate business in recent years and the bench strength of many investment management firms falls off under the age of 40. But based on the level of talent represented by “NAREIM Fellows” Kyle Reardon of Cornell University’s Baker Program in Real Estate, Whitney Smith from McDonough School of Business at Georgetown University and Elliot Weinstock of USC’s Marshall School of Business, there is hope for our future. Investment management firms, however, need to take a leadership role in reaching out to University programs to find new talent, help develop real world skills and ultimately create a clear path for young people to take leadership roles in real estate firms of the future.
NAREIM board member Paul Bernard is taking the lead of an education outreach committee to connect with Universities and students around the country – and involve young people in NAREIM internships, meetings and research activities.
Fortunately, young people coming into our business have different experiences than current leaders do – they see things with fresh eyes, they understand intuitively how young people want to live, work and play. They may not understand how to make a deal today – but they likely have insight on what we will need to do tomorrow.
These are uncertain times, and it appears that no one is expecting the “easy money days” of years passed to return anytime soon. Leaders will need a level of intestinal fortitude, flexibility, and humility that may not have been required before. Just as guest speaker Mayor Antonio Villaraigosa, after shattering his elbow in a bicycle accident, went directly to his staff saying, “This is a teachable moment.” and set the impossible task of making Los Angeles a bicycle friendly city…with over 1,600 miles of new bicycle lanes to come – real estate leaders need to be able to jump back from the accidents and drive their future.
Shakespeare once wrote, “Wise men never sit and wail their loss, but cheerily seek how to redress their harms.” The road ahead for real estate leaders continues to be challenging, but we can and will handle it.
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