Increase income, decrease expenses. This has been the mantra for many over the past few years amidst soaring vacancy rates and plummeting asset values. As employment reports grow more optimistic and lending activity picks up, property professionals are now concerned with how to best position their assets for success once the market recovers.
Management companies and building owners are grappling with the question of asset value preservation in different ways, especially when it comes to deferred maintenance and capital improvements. Some are performing improvements that will attract tenants and payback in the long-term. Others are focused on balancing deferred maintenance with cost constraints. Many are facing a backlog of deferred maintenance, first because of the buy-and-flip cycle in the boom years mid-decade, followed closely by the market downturn. So what’s the winning strategy?
Meeting Tenants’ Needs
5 Things You should be Doing Right Now…To Position your Building for Recovery
By Laura Horsley
Although no one is predicting a rapid recovery for commercial real estate, encouraging signs such as small dips in vacancy rates, a tick up in GDP and job growth, and news of financing opening up and deals getting done are encouraging. But as the marketplace begins to rise from the depths of the recession, so too do the expectations of tenants and prospective tenants. Will your building meet those expectations?
Here are five things you need to be doing to ensure you keep the competitive edge.
- Make a Good First Impression. Don’t defer maintenance on the important things, but also don’t defer maintenance on the obvious things. Lobbies, common areas, parking garages these are the areas of your building that will make or break that all important first impression.
- Don’t Forget your Ounce of Prevention. Be sure to keep up with your preventive maintenance schedule, and if it’s out of date, whip it back into shape. Keeping up with repairs and maintenance on a day-to-day basis can save you from surprise equipment breakdowns and unexpected capital expenditures.
- Be All Ears to your Engineers. From the boiler room to the rooftop and everywhere in between, your building engineer knows and understands your building’s systems and operations better than anyone. When confronted with capital improvement decisions, repair issues, or if you simply need good counsel, call in your in-house expert.
- Keep Harvesting that Low Hanging Fruit. Have you changed out your inefficient lighting, added those motion sensors, instituted after hour and weekend HVAC power downs, or reduced landscaping water consumption by replacing sprinklers with soaker hoses? These no- and low-cost green strategies save money, save energy and can give you the green thumbs up with tenants.
- Benchmark, Benchmark, Benchmark. It may be a clich but it’s true you can’t manage what you don’t measure. Benchmarking your building’s performance—energy and water usage, expense and income data—lets you know exactly where you stand in your market and gives you the tools and insight to track and improve performance.
Resources
BOMA’s 2010 Preventive Maintenance Guidebook, http://shop.boma.org
ENERGY STAR Portfolio Manager, www.EnergyStar.gov
Experience Exchange Report (EER), www.BomaEER.com
One thing everyone is focusing on is tenant retention. “Preparing for the turnaround is about keeping the income you have in place now and making sure that you are leading the market—beating the market—to increase your occupancy,” commented Joe Markling, managing director, Asset Services and Strategic Accounts Group, CB Richard Ellis. “If people wait too long for the market to recover, they are going to miss that revenue stream.”
Measuring tenant satisfaction, both formally through surveys and informally through face-to-face interaction with tenants, is critical. It can also help property professionals prioritize what capital improvements to make. Notes Ginny Carita, vice president of property management, Advance Realty: “If you understand what your tenants’ issues are, you can determine what type of capital improvements you might need to make. A lot of times when we’re looking at capital improvements, we’re also looking at ways to reduce operating expenses so it’s a win-win for both tenant and owner.”
Anticipating what prospective tenants are looking for is another important aspect to take into consideration when approaching capital improvements and deferred maintenance. “With everybody scrambling for the same pool of potential tenants, you have to understand your tenants’ needs and either meet these needs with your current facility or upgrade,” says Larry Schoen, P.E., president and principal engineer, Schoen Engineering.
Existing buildings that were built fifteen or more years ago face an even greater challenge. “The latest waves of development have set new standards for what a good asset is. One of the challenges that a lot of owners face is how to prepare their assets to match or at least approach, in class and in expectations, those buildings that have newer floor plans, newer mechanical systems and are greener,” adds Chris Hipps, managing director, Transwestern. “Owners and managers need to develop a five-year capital plan that reflects potential changes in the market from a demand perspective in order to prepare their asset for the future.”
Prioritizing Where to Spend
With a limited budget, and in many cases a number of pressing issues, property professionals must make tough choices about what to invest in and what to put off. Dovetailing with the tenant retention theme, many say addressing the improvements that tenants see day-to-day go to the top of the list—areas like lobbies, common areas and parking garages. Things that tenants don’t see, like the roof, can be patched up for a year or two until more capital is freed up, as long as it does not affect tenants.
Enlisting building engineers and thinking creatively are two strategies that have worked for Carita. “The engineers are really the ones on the ground and we bring them into the discussion right from the beginning,” explains Carita, who recalls one instance where building engineers came up with a creative solution that helped avoid craning an HVAC unit into a 26-story building. Instead of replacing the entire unit, the engineers suggested using the HVAC unit’s existing framework and just replacing the individual parts, which saved money and avoided downtime.
Investing in technology has also proven to be a successful strategy for Advance. In one building, they reduced security staff by installing turnstiles to their elevator banks, a glass curtain wall from their main lobby to concourse, additional card access readers and implementing a delivery and tenant/guest visitor check in systems. The payback for this work was one year and one month and they were able to amortize the cost of the capital back into the operating expenses.
For portfolio managers, having a portfolio capital plan helps prioritize what improvements and maintenance to fund. “You do a triage—we call it a ‘capital triage’—where just like with a hospital, we ask the question what do we absolutely have to do to maintain safety and occupancy? What do we need to do to be more efficient? What do we want to do?” says Markling. “Once we answer those questions, we overlay that onto a whole portfolio-wide plan and start moving things around a timeline to deal with the cash implications.”
Enlisting Service Providers
Many property professionals are turning to vendors for help. With their technical expertise and depth of knowledge, service providers can often propose solutions that save money and prolong equipment life until a bigger budget for maintenance or capital improvements is available. Because of the deep relationships that develop between vendor and property manager, most vendors are more than willing to be flexible.
Hipps has seen vendors’ flexibility firsthand. “We’ve said ‘We really need to do this, but we can’t afford it right now.’ The vendor will then sit down and work with you,” he says. “It’s about both parties working collaboratively to make a project successful. They have skin in the game and are willing to get the project priced right, designed right and value-engineered so that it takes shape.”
ThyssenKrupp’s Director of Repair Development Stephanie Petkers agrees: “What we’re working towards is a long-term partnership so if there is something that we can do to help a customer in the short-term, we are more than happy to do that.” Petkers adds that communicating with property managers and tailoring options to meet their needs has been a cornerstone of their success throughout the down cycle. “We are taking a more consultative approach with our customers and are really trying to understand their needs. In cases where capital is tight, we look at how we can make only essential upgrades to the equipment for now and delay the rest until they get it in their budgets.”
One Size Does Not Fit All
Important to note when considering deferred maintenance and capital improvements is that the right strategy depends on the building owner’s needs and priorities. A short-term holder of real estate, a REIT and an institutional owner are all going to have a different approach when it comes to deciding what to invest in and what to defer; it’s an apples to oranges comparison.
Shelby Christensen, senior vice president and national director of property management at Liberty Property Trust, explains that because her company is a long-term holder of real estate, they do not have deferred maintenance. “We’re in it for the long haul so we do not have deferred maintenance from this cycle,” she says. “Instead, we have worked aggressively to control costs and stretch every dollar we do have. We want to maintain a high-performance portfolio because our investors and tenants are judging us on the quality of our real estate.”
Christensen created a strategic plan to decrease their two largest operating expenses: electricity and taxes. Liberty appeals real estate taxes as a normal course of business, but this past year they were even more aggressive. Liberty gave each city a goal and were successful in getting more than $4 million in reductions for the 2010 tax year. As for electricity, they worked with tenants to employ low- and no-cost energy efficiency measures and diligently benchmarked energy consumption through ENERGY STAR Portfolio Manager. Those energy efficiency efforts have helped Liberty reduce energy consumption by ten percent since 2008, translating to about $3.5 million in savings for tenants.
Markling’s clients include REITs and institutional owners. “Certainty and consistency of cash flow is what it’s all about for REITs. If you really need capital, especially something that affects occupancy, they will give you the capital that you need. You just have to budget for it and then manage the scope and timing because they are very concerned with month-to-month cash flow,” he says.
Markling stresses the importance of tailoring the capital plan for each type of owner. “The institutions are more value-conscious. They are trying to build occupancy for value creation, not necessarily for cash flow. So they are more apt to look at things like payback,” he notes. “I try really hard with my teams to get them to think about the motivations of the people who own the building so that they can package things in a way that works for them.”
When it comes down to it, every building is different, as are the goals of its owners and investors; the right strategy really depends on a number of unique variables. For some companies, a long-term strategy means planned capital expenditures are the norm, as long as cash flow remains consistent. Others may have to defer some maintenance and will focus on critical need and highly visible areas. All are partnering with vendors to lower costs and establish the smartest plans for their asset—and hoping a turnaround comes soon.
