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The Office and its Critical Role in Corporate Strategy

 

We are often asked if the Covid-19 work from home experiment will lead to organisations considering their rented office space as redundant. However, since the “Great Lockdown,”[1] the conversation has shifted significantly and now, more than ever, employers and employees are acknowledging the limitations of a pure work from home (“WFH”) model.  Although employees do value the flexibility that WFH technology has provided, a central workplace continues to play a critical role in corporate strategy.

Covid Safe Office

The Office Has Its Benefits

A physical workplace creates a sense of corporate community and culture.  Ironically, even Microsoft CEO, Satya Nadella, during a Wall Street Journal Summit, indicates that virtual meetings cannot be a complete substitute for in-person meetings.  He states “…what we as human beings need, want, seek … is human contact.”  Ultimately, such intangibles drive productivity in our knowledge-based economy.  Firms are increasingly aware that a pure WHF model is reducing productivity, causing “zoom fatigue”, and creating dozens of new, previously unforeseen risks.[2]  In his interview, Nadella notes the productivity benefits of commuting (between in-person meetings or to the office), as it acts as a buffer or provides essential transition and collaboration time.

 

 “…We are running on the fumes of the social capital we’ve built up over the years.”

– Mary Ann Tighe, CBRE’s CEO of the New York Tri-State Region

 

Offices, even socially distanced ones, also facilitate access to other employees’ expertise.  They are places to exchange ideas and develop closer professional contacts. With the office clearly necessary, and WFH technology improving a new survey conducted by Korn Ferry indicates employers recognize that a hybrid approach of working from home and the office may be the new long-term norm. Beyond this, the current WFH experiment has tested corporate resilience and pandemic/emergency response plans, ensuring businesses will be better prepared to address future crises.

The Benefits of the Office

 

The Impact on Office Portfolios

We are confident that the upheaval caused by the pandemic-induced recession will not lead to the death of the office but will instead shift how people use offices and reset norms.  We should, however, expect a near term reduction in demand, irrespective of whether companies downsize or expand, choose urban vs suburban locations, or move from a centralised model to a hub and spoke model. This reduction in demand will continue to be disproportional across sectors as some industries thrive and others struggle.

Most Canadian markets, the Greater Toronto Area in particular, were fortunate to enter the shutdown at or near record office market conditions (less than 2% vacancy). CBRE Canada Research Centre suggests that the historically low vacancy rates in Canada’s primary downtown office markets (sub-5.0%) should provide for stability in rental rates, even in the face of increased vacancy and increased sublet space availability.

 

“This crisis is probably going to accelerate the need for modern, flexible office space with lots of services…”

– Magnus Meyer, Managing Director, WSP Nordics & Continental Europe

 

In addition to surveying its own tenants, Crown pays very close attention to tenant surveys that provide a broader perspective on what today’s office tenants need out of their buildings.  The key criterion tenants are seeking now compared with those last year at this time has certainly changed.  A recent survey conducted by Colliers International (insert link) notes (i) free parking (ii) upgraded HVAC systems; and (iii) professional property management services are the key drivers of tenant demand today.  These all assist businesses in providing their employees peace of mind as they return to the common workplace.

As a professional office operator, Crown has always focused on identifying ways to differentiate our buildings and adapt to the ever-changing needs of tenants – this skill set will be exponentially more valuable as organisations choose to reset how they use the space they rent.   Although Covid-19 has cast the need for office space into the bright glare of the public spotlight, effective landlords will adapt as required and implement top-tier operational practices.  Technologies, especially those that allow occupants and owners to monitor the use of space and track occupancy will be part of the new normal.  Crown has implemented numerous operational best practices and physical upgrades across the portfolio.  These changes center around ensuring that those who work within the businesses that operate within our buildings feel safe, secure and comfortable. This video prepared by Crown details some of the changes implemented (click here).

Covid Safe Work

 

What We’ve Seen

At this point, the decision by certain companies to keep their employees at home for the foreseeable future does not necessarily reflect long-term strategic shifts in office demand.  Throughout the shutdown, the office sector has been somewhat insulated relative to other commercial real estate sectors, due to the long-term nature of office leases, and also because many businesses have been able to continue their operations with a flexible workforce.

Ultimately, cash rent collections are a good indicator of the strength of the asset class.  Between April and October, collections have averaged 94% across all Crown Funds.  In the case of our stabilised portfolio, higher collections have been achieved (averaging 95% over the same time.  This whitepaper offers a insightful overview of some of the short and long term impacts that have been noted across a number of office portfolios, including ours.  Additionally, the attached Realpac Survey suggests a similar experience across other Canadian office operators.

Leasing tours are also a good indicator of occupier sentiment.  Although virtual tours across our portfolio have been available since the start of Covid-19 (click here), our leasing team has seen increased demand for live tours month after month since the lockdown. This is in part thanks to leasing promotions such as this one (click here). While office tenants had postponed and delayed lease discussions in April, Crown is now seeing transactions coming to the finish line as they are slowly adapting to the new norm of living with Covid-19. To date, existing tenants are renewing leases for an average of 3 years and new leasing transactions are averaging lease terms that are a little over 5 years.  This gives us some good data as we review new value-add office opportunities.

We are very confident that the opportunity set for a value-add operator will continue to expand as the market for tenants becomes more competitive.  The current uncertainty aligns exceptionally well with the timing of Crown’s next Fund, Crown Realty V Limited Partnership (“CR V LP”) as it seeks new opportunities over the coming three years.

 

For further information, please contact:

Emily Hanna
Partner, Investments
Crown Realty Partners
647.729.2609
ehanna@crp-cpmi.com

 

A few useful reads:

Amazon Inks Deal for Toronto Office Space after Rival Shopify Does the Same

How Should Office Buildings Change in a Post-Pandemic World?

Why the Office is not Dead

 

[1] The Great Lockdown has been used to refer to several topics related to the COVID-19 pandemic, any related lockdowns or restrictions and the pandemic-induced recession.

[2] The FICC Markets Standards Board notes that widely distributed remote workforces (i.e. when entire teams are spread across a number of homes), there is significant risk to companies, including risks relating to cybersecurity, confidentiality, execution, staff treatment and productivity.