Key considerations when generating new space for tenants

Completed speculative space, such as this spec suite for Soma Capital Partners in the Lab Building on Platte Street, requires juggling many conflicting components and competing costs.

Brendan Adams
Vice president, 8020 Builders

Building owners and property managers have dozens of things to consider when generating space for new tenants. From an operational standpoint, things such as building rules for contractors, product standards and design criteria for architects and engineers, minimizing impact to existing tenants, communication plans, and coordinating system shutdowns/startups are top of mind. From a turnkey leasing perspective, ensuring design and construction costs align with newly negotiated lease rates through diligent tracking of building standards versus tenant extras is essential to protecting profitability projections. However, the market is changing rapidly and perhaps the largest risk building owners and property managers face today is from an industry partner relationship perspective. In today’s market, there exists:

  1. An abundance of investors and a change in the American workforce, which are generating more projects then the market can support.
  2. Material suppliers and building trades that call the shots when it comes to costs and timelines.
  3. Lease rates that haven’t adjusted to the rise in construction material and labor costs and increases in timelines.
  4. Teams of architecture, engineering and construction professionals who must choose projects that allow for adequate profitability to prevent getting squeezed out of business.

Building owners and property managers must consider maintaining respectful timelines, margins and expectations with architects, engineers, contractors and proprietary vendors in order to have a successful project. Oddly, this general respect for those who are considered lower on the cash-flow ladder flies in the face of the traditional top-down construction industry power model. Let’s examine why this is so important today.

Increased investor money flowing into particularly hot secondary markets such as Denver has created available cash for building owners and property managers to create renovated spaces to attract new leasing activity. This, coupled with generally good economic times, creates an environment where many businesses are simultaneously looking to expand or improve their spaces in order to attract and retain the best people, thereby gaining a competitive edge.   Together, these factors combine to sharply increase the demand for projects in a way to which a balanced construction industry cannot react. Now, factor in a skilled workforce where:

  1. General population growth decline results in a smaller pool of potential workers;
  2. More tradespeople are retiring than are entering the industry; and
  3. Today’s youth do not desire a career in construction.

This creates a situation in which market conditions both increase demand and decrease supply, exacerbating the situation to an unsustainable point far beyond the construction industry’s capacity to execute.

What happens when demand increases? Costs increase. And what happens when supply decreases? Costs increase. A double whammy.

Let’s add another wrinkle: In today’s world, we’ve established low, stable prices through globalization. However, recent trade policies have changed in such a way that alternatives to maintain consistent pricing are not yet available. For example, the U.S. is the world’s largest importer of steel. Trade policies now have resulted in increased steel costs with no domestic alternative. So, we must buy more expensive materials. A triple whammy. Yet every developer, building owner and property manager in the room still is saying in unison, “Why are these costs so high?!”

Now you know. As a result, material suppliers and specialty contractors are calling the shots. They no longer compete for your work, you compete for their products and time. And if you want it done now and you want it done well, it’s going to cost you.

To make matters worse for investors, building owners and property managers, the business owners who are excited to relocate and grow their businesses don’t care about construction costs. All they care about is the lease rate. And if the rate is too high to accommodate the increases in costs, they’ll simply stay put. So good luck passing the buck.

However, quite possibly the worst-off group of the bunch are the AEC team, stuck in the middle with pressure from owners to meet lease rates in the pro forma and contradictory pressure from the industry’s rapidly increasing and unstable prices. The AEC team members have to choose wisely where to spend their time and resources to ensure they generate profitable revenue. Too many projects are dying as a result of costs that exceed what a lease rate can support and dead projects yield no profits. This means that with the sheer quantity of projects out there, the AEC team can no longer afford to be involved in churn.

The traditional considerations building owners and property managers must understand are no less important today than ever. However, an emerging need to respect the groups that make your project happen is perhaps the most important factor when putting a project together. In today’s market, only by approaching projects in a way that enables your architect, engineering and contractor team to be efficient and profitable will building owners and property managers be able to get anything done.

The conversation is shifting from “Do you know any good contractors?” to “Do you know any good owners?”

Featured in CREJ’s April Property Management Quarterly

Edited by the Colorado Real Estate Journal staff.