There is no doubt the Northern Nevada economy is rebounding. Inbound companies continue to show interest in the market, property values are recovering and vacancy rates, especially in industrial product, are headed lower. With all of that comes a shift to a landlord’s market. Essentially, landlords are beginning to feel like they can increase rents and decrease the amount of lease incentives such as free rent. Since the recession began in 2008 and continuing through the early part of 2013, if you queried most landlords they would say the market belonged to tenants. We saw lower rents, higher tenant improvement allowances and landlords bending over backward to accommodate tenants who would pay for space — even if it meant just covering the building’s operating expenses. The majority of landlords were negotiating shorter-term leases and therefore avoiding being locked into an unfavorable arrangement for an extended period of time. What that means in the current cycle is that many companies will be negotiating new lease terms under very different conditions. Tenants can expect to see increased competition for fewer spaces, more stringent credit underwriting, higher rents, limited tenant improvement allowances and longer lease terms.
Here are some ways to get ahead of the curve:
If you find a space that is well suited in terms of location, price and functionality, take it. Delays in decision making will increase the chances of competition (likely resulting in higher rent) or the space being leased to someone else before you can even begin to compete. This is especially true if you are a smaller tenant (meaning that you occupy less than 20,000 to 25,000 square feet of industrial space, for example). Just about all of the speculative (meaning no tenants have pre-leased the building) development under construction or being considered locally is for large users because that is what capital sources are seeking and that is where the highest demand lies. That means larger tenants are going to have more choices over coming years. Developers are looking for a combination of tenant movement, higher rents and a low vacancy rate before they consider speculative building. At the present time, our market has not yet arrived at that point for smaller users. When it does, you can expect to see new construction. However, at that point you are still 12 to 18 months from delivery due to the amount of time it takes to design, permit and construct a building.
Meet higher qualification standards
So long as new buildings are not constructed and the economy continues to improve, landlords can expect to see multiple tenants seeking any one space. The more financially qualified the tenant occupying a building, the higher the property value. You could find your financials pitted against another company’s financials to secure the space. The more expensive the space or tenant improvements required, the more difficult it will be to qualify. Additionally, where in the downturn we saw businesses that previously occupied Class B or Class C spaces able to afford Class A, you will see the demand for more expensive space continue to increase as will standards of qualification.
Expect rent increases
It goes without saying that rents will be higher in a better economy. Property is worth more and the demand is higher. Lease rates in the larger industrial space at the lowest point of the downturn for 25 cents per square foot per month is now going for 34 cents per square foot. If you last negotiated in 2009 or 2010, you can anticipate up to a 40 to 50 percent increase whether you are looking to stay in your current space or seek other options. Ironically, the larger spaces were actually leasing for a higher price per square foot in the recession when “normal” was just the inverse. In the coming year or so, you can expect to see that trend reverse as the smaller companies start to grow and expand, demand will increase for this part of the market as well and rates will further escalate.
Accommodate limited Tenant improvement allowances
In tougher times, landlords, assuming they were adequately capitalized, were more willing to put money toward either a build-out or to retrofit a space for the right tenant. Now that there will be multiple companies in line for space, you can expect less to be offered. Tenants looking for major changes may have to consider coming to the table with their own funds above what the landlord will contribute.
Prepare for longer lease terms
Where landlords were looking to avoid getting locked into long-term leases during down years, you will see many now requiring five-year terms with a firm annual escalation. You can also expect annual escalations to be in three percent range and any link to inflationary indicators such as the Consumer Price Index will go by the wayside. These annual escalations are more in line with normal market conditions. Now that the market has shifted toward better times, tenants can expect to see a significant difference when negotiating lease terms. If you are not set to renew a lease in 2015 but rather in the next few years, a viable option may be something landlords offered in the past called “blend and extend.” In the recent recession, this term meant lowering a tenant’s rental rate in exchange for a longer term. Today, it may mean the reverse — increasing the rent in exchange for a longer lease in order to secure the space and avoiding a move, stabilizing your operating costs and perhaps avoiding even higher rents later in the cycle. If you occupy a space that works well for you and is in high demand, simply negotiate a renewal well before your lease is up. If your current lease began during the downturn, your rent is going to go up. It may be counter intuitive to accept a higher lease rate now, but it would stabilize your fixed cost for space over the next several years. Regardless of market variables, building owners are focused on the long-term stability of their investment. While this option could cost more now via a rate increase, your cost will increase at renewal and the smaller increase now could be less than what moving costs would be if you were to have to leave at your scheduled renewal.
Doug Roberts is a partner with Panattoni Development. He is responsible for all aspects of development of office, industrial and retail projects as well as the supervision of staff personnel in two offices within the region. For more information, call 775-829-6112 or visit www.panattoni.com.