We live in an age of unprecedented disruption, where nearly every industry, from entertainment to hospitality, retail to finance, is forced to evolve or risk extinction.
It took Uber less than two years to disrupt the taxi industry in cities around the world. And the pace of change is increasing rapidly.
From 1950 to 1960, 15 percent of S&P 500 companies turned over each year. In the last seven years, that number has jumped to 65 percent.
But despite the ongoing shakeup of the corporate landscape, one industry has been particularly slow to change.
Business moves fast, but real estate has historically moved slowly. Until now.
The future of any business occupying space is less certain than it ever has been, creating an extreme need for a paradigm shift in the way we forecast demand for space and optimize supply.
A new, groundbreaking methodology not only helps take some of the slack out of the line for both property owners and corporate tenants—it has the potential to disrupt the real estate industry.
With predictive analytics, CBRE is using a new approach with some clients that can help determine the best leasing options to suit a company’s specific needs, taking into account the volatility and uncertainty of its future headcount.
Planning a company’s space needs can be incredibly difficult. How fast is the company growing, and by how much? What new products will exist in the next few years that could disrupt your industry? How long of a lease should you commit to, and should you pay a premium for flexibility?
Here’s how the approach works: Instead of planning for what they think will happen, companies should plan for change, in order to create flexibility in their real estate that enables it to shift as their business does.
“You sign a lease for 10 to 15 years, usually, and it’s a large amount of space. Just think about the organization you’re in. What is it going to look like in two years, let alone 10 or 15 years? Space can cost anywhere from $10,000 to $30,000 per person per year. Put that in relationship to staff salaries. Overcommitting on space is a big deal,” says Christelle Bron, senior managing director of CBRE’s integrated transaction solutions practice.
Bron and her team members, Derek Chanler-Berat, managing director, Marshall O’Moore, director, and Rachel Hu, financial analyst, are working to build more flexibility into corporate real estate deals, helping clients manage risk and, ultimately, reduce occupancy costs.
A company looking for space in a major U.S. market can typically expect to sign a five-, 10- or even 15-year lease, often calculating the space they need based on growth forecasts that can become dated even before the ink is dried on the deal.
“Forecasting is embedded deeply into the way that managers operate. Most organizations plan for uncertainty by creating scenarios with high, medium and low probabilities. Then, all too often, they take the middle course. While we’re certainly not advocating an end to forecasting, we are suggesting that companies should recognize its limitations,” BCG Research wrote in a report published last year.
In 2005, BCG released a benchmark study that found 41 percent of real estate executives described businesses’ projections of their space needs as being off by more than 100 percent.
Twelve years later, not much has changed. In fact, the business climate is even more dynamic, with large-scale business disruption shaking up entire industries.
“They [companies] systematically underestimate how much uncertainty is involved,” says O’Moore.
The traditional way of doing things, according to Bron, Chanler-Berat and their team, essentially boils down to a real estate executive asking a business about its future space needs, which all too often results in imprecise estimates.
For example, a company could say it expects its footprint to expand for the next three years at 5 percent annually. It might build in an 8 or 10 percent vacancy factor for growth. Essentially this amounts to an educated guess.
The new approach uses techniques that account for the uncertainty and help companies plan for change.
Imagine a company’s lease is expiring and it’s seeking a new space. Taking historical headcount data, industry growth data and business estimates, the team at CBRE creates a statistical forecast and then “stress tests” various leasing sizes and options against many different headcount scenarios. Thousands of different-sized leases, along with permutations that offer more flexibility, such as contraction options, are plugged into the algorithm. The professionals then tap market experts to ensure their solutions are actionable from both a business and market perspective.
Shared office spaces, like those run by Regus and WeWork, are rapidly growing and expanding across major urban centers across the world. But it’s not just startups seeking hot desks for their small teams of employees. Larger, more established companies are using this shared, “pay-as-you-go” model to handle volatility in their businesses, says Chanler-Berat.
A future proofing model, such as the one offered by CBRE, can be the middle ground between a company signing a 10-year lease for 100,000 square feet based on a best guess, and one willing to take significant flexible square-footage at a shared office space, at a premium.
These tools can become sharply more powerful in a choppy market.
In a down market, tenants will be able to achieve more optionality at a cheaper price. Some landlords might even consider offering a more flexible leasing as a product—one that does not widely exist today but for which there is increasing demand.
The demand for more flexibility in a lease could help landlords differentiate from their competition by offering a “product that few others are offering,” says Chanler-Berat.
This is the first step in an evolution. As companies have moved toward agile supply chains, software as a service and business process outsourcing, they will begin to apply these same principles to their real estate. Landlords in turn will need to adjust the products they offer to respond to this burgeoning demand. This is a framework for how to think about this,” says Brandon Forde, senior managing director for CBRE Advisory and Transactions.