Office deals include cost-only leases

Office developers around South Florida are doing their best Monty Hall impressions this year. Rising unemployment and office vacancies coupled with new office buildings coming to market are driving a “let’s make a deal” mentality amid fears of a worsening future, to the point where some landlords are offering tenants a year without base rents, seeking only to cover operating expenses.

Office vacancies statewide increased by 1.4 million square feet in 2008, or 3 percent of the total market, according to Cushman & Wakefield. In December, the firm predicted tenants whose leases expire this year and in the first six months of 2010 would have excellent leverage to negotiate favorable lease terms as landlords look to fill vacancies in a scarce market.

Developers, brokers, bankers all remain unsure how the office market will perform this year, said Bill McConnell, a senior commercial associate with NAI Rauch Weaver Norfleet Kurtz & Co. in Ft. Lauderdale. And there’s growing acceptance that the bottom not only hasn’t arrived, but remains elusive.

“The sublease rates are almost a joke,” McConnell said. “Landlords are being more realistic about leases. They just want to maintain some level of cash flow in the space rather than holding to what just a few months ago was a perfectly justifiable rate.”

In fact, McConnell reports large broker groups representing out-of-town investors are making space available with no base rent for 12 months, expecting tenants to cover only the operating costs. McConnell wouldn’t disclose the identities of those brokerages, but said the trend is strong.

John Jaspert, a senior associate in the Palm Beach County office of CB Richard Ellis, is leasing office space in Boca Raton, but only after heavy negotiating over prices and other concessions.

“Some companies are just trying to cover the operating expenses,” Jaspert confirmed. “Some are taking a hit on the books and just trying to write the whole thing off. Some are taking 50 cents on the dollar. Some are taking less. It just depends.”

Alan Kleber, a senior director in Cushman & Wakefield’s Miami office, hasn’t seen office developers stooping to base rent-only deals. But he is seeing plenty of concessions in a market characterized by stress, volatility and uncertainty.

Indeed, he said he hasn’t seen this level of concessions since he entered commercial real estate 13 years ago.

“In order to woo tenants to relocate, you have to do some unusual things. Part of that is offering improvement allowances to offset the capital expenses of relocating,” Kleber said. “We have achieved upwards of $90 a square foot in improvement allowances for clients in Class A buildings.”

Kleber is working with several landlords who have also agreed to pay termination fees for would-be tenants who have the right to terminate their lease, and he’s seeing other landlords agree to waive rent for long periods of time.

“Concessions aren’t for every tenant, but for good-sized transactions for clients with good credit who are willing to sign long-term leases, we are seeing landlords waive rent for upwards of a year and a half,” Kleber said. “There are lots of different buckets landlords can pull from in order to do a transaction — and they are getting flexible in order to fill the holes.”