Commercial Property:
Moving to the People

No longer a purview of larger-than-life egos and insatiable developers (think Donald Trump), the industry is more focused now on the wants and needs of the average consumer: tenants, visitors and small investors.

The result is that more real-estate owners are looking to develop more attractive and functional public and commercial spaces. The larger landlords are building in more creature comforts such as ventilation systems that allow workers to control the climate of their individual spaces, and increasing their use of technology in an effort to nurture brand loyalty to their properties.

On the investment side, the once-fragmented and clubby industry that was once open strictly to professionals has become more open to all. Reams of information on real-estate companies, funds, property markets and investment opportunities are readily available. That new accessibility, coupled with many investors' concerns about getting burned again in the stock markets, has resulted in a renewed interest in tangible assets -- in bricks and mortar.

For all its improvements, though, commercial real estate still has a few cracks in its foundation. Customer service and technology lag behind other industries. The current economic environment has taken its toll on real estate: Office and industrial vacancies have risen as businesses contracted; more apartments sit empty as people continue to buy houses and developers overbuild certain areas.

Still, the moves over the past few years signal an industry that is at least trying to adapt to the times and find new ways to profit from the man-made landscape.

1. Looking Good

While blatant extravagance is out, commercial real-estate owners are paying more attention to making their buildings more people-friendly and practical, as well as pleasing to the eye.

In general, "people like being in well-designed, aesthetically pleasing buildings," says Marty Borko, a principal in the Santa Monica, Calif., office of Gensler, a San Francisco-based firm that designs malls, among other things.

Some malls, for example, are being built or expanded to include strolling and intimate gathering spots such as courtyard areas and little districts with Main Street themes to make walking through them less monotonous. Designs for office buildings call for glass facades and elegant exterior materials such as sandstone.

More buildings, especially apartment buildings, are being designed with nature, health and energy efficiency in mind. Among the features included are filtered-air systems, lots of windows to bring in natural light, and natural materials with little or no chemical emissions.

2. Wired, at Last

The real-estate industry has been slow to join the high-tech crowd. But it's beginning to do so in ways that affect not only how building owners run their properties, but also how tenants interact with landlords. Two big tech trends in the industry are the concepts of automated transactions and "smart" buildings.

Automated rent payments have been catching on the most in the apartment sector, and some owners are experimenting with technology that allows an apartment hunter to find a place and sign a lease for it all online. Office-building owners and mall owners also are exploring automated payments and leasing.

Smart buildings are plugged into the Internet so that every aspect of facilities management is online. With the help of the Internet, the nation's largest owner of office buildings, Equity Office Properties Trust, has consolidated property-management teams throughout the U.S. into regional offices, eliminating the need for on-site personnel in every building.

Some building owners have Web portals that allow tenants to place work-order requests. As a result, high-speed Internet access is becoming a must, whether in offices, apartments or hotels.

3. Branding the Mall

Real estate has always been about location, location, location. But over the years, it's becoming more about reputation, reputation, reputation.

Taking its cue from hotels, the commercial real-estate industry is getting more focused on branding. The marketing of buildings as products that can provide "experiences" and maintain customer loyalty is becoming increasingly important. Besides lifting a building's reputation, good branding also can increase its owner's ability to charge higher rents.

Post Properties Inc., a big apartment real-estate investment trust in Atlanta, is widely credited with being the first large landlord to brand its high-end buildings, putting in visible nameplates and signature landscaping beginning 30 years ago. Once they saw how successful the effort was, other companies followed. For instance, people now clearly know whether they're in a Simon or a Westfield shopping center. (Simon Property Group Inc. is an Indianapolis retail developer, and Westfield America Inc. is a unit of Australia's Westfield Holdings Ltd.)

Andrew Henshon, a consultant with Boston Consulting Group, in Boston, says branding is more than just signage. It's about good customer-service experiences at each of the owner's buildings so that the owner's name becomes synonymous with that level of service. "Owners are focused on customers having some consistency of experience, which should lead to some distinctiveness," Mr. Henshon says. "That in turn leads to recognition."

4. Owning a Piece of the Granite

The little guys are thinking big.

Over the past three years, the commercial-real estate industry has attracted a lot of individuals who perceived the sector as a refuge from the rocky stock market. In a time of dot-com blowups, unrealized profits and corporate malfeasance, individuals flocked to real estate because it was something they could feel, touch, and understand. And it didn't hurt that interest rates fell to historic lows, which made borrowing cheaper.

As a result, more individuals have been buying commercial properties. The number of sales of apartment, office and retail properties in the $500,000 to $10 million range rose to 17,301 in 2003 from 12,514 in 1999, estimates Marcus & Millichap Real Estate Investment Brokerage Co., an Encino, Calif., firm.

Individuals have also been getting into commercial real estate through publicly traded shares. There are now 144 publicly traded equity real-estate investment trusts companies in the U.S., up from 58 in 1990, while the industry's total market capitalization has grown to $204.80 billion from $5.55 billion in 1990, according to the National Association of Real Estate Investment Trusts. As a result of REITs, investors also have their pick of a variety of investments: from the traditional office and apartment companies to ones that own auto dealerships or health-care facilities.

The growth of REITs has given rise to another real-estate investing option: real-estate mutual funds. These have been among the strongest performing funds during the past few years, according to Chicago-based fund tracker Morningstar Inc. A record $4.77 billion flowed into real-estate mutual funds in 2003, according to AMG Data Services, of Arcata, Calif., which surpasses the $3.36 billion that flowed into these funds in 2002 and the $46 million invested in 2001.

5. A Corporate Selloff

While individuals and big money managers have been getting into real estate, corporations -- such as International Business Machines Corp., John Hancock Financial Services Inc., Citigroup, AT&T Corp. and MetLife Inc. -- have been cashing out real-estate holdings. Companies have been selling property to shore up balance sheets, streamline businesses to focus on core operations, consolidate space or take advantage of strong demand for real estate from institutional investors.

It's a big change from the past, when investing in real estate was considered essential to a company's infrastructure. But real estate can bog down a balance sheet because of the gradual decrease in the value the property carries on paper and the cost of the interest expense on any debt that was used to buy it.

Property sales by corporations totaled $7.8 billion in 2003, up from $7.3 billion in 2002, according to Real Capital Analytics Inc., a New York-based research firm.

Such sales may pick up further this year if the U.S. adopts international accounting rules that require corporations to report assets on balance sheets at current market value rather than at book value or on a depreciated cost metric, which factors in an asset's depreciation. That may get some companies to rethink owning because using the international standard would in some cases increase the asset's value on the balance sheet.

6. As Jobs Go, So May Office Needs

In 2003, a number of companies, including IBM and J.P. Morgan Chase & Co., announced intentions to move jobs to India and other countries. More U.S. companies are expected to follow suit. This could lead to weaker demand for office space as well as apartments in the U.S. -- bad news for an industry already plagued with lots of vacant space.

Forrester Research Inc., a Cambridge, Mass., company, estimates that 3.3 million U.S. service-industry jobs will move offshore to such countries as India, Russia, China and the Philippines over the next 15 years. Some estimates say the exodus could affect about 600 million square feet of office space.

"Blue-collar jobs have been bleeding offshore for decades and continue apace," says Stephen R. Blank, a senior resident fellow at the Urban Land Institute, a nonprofit research and education organization in Washington.

The institute and PricewaterhouseCoopers LLP released a survey of real-estate professionals in October in which the majority pointed to the movement of jobs abroad as a big concern for U.S. commercial real estate.

7. For Once, Self-Control

Developers of office buildings, warehouses and hotels in the U.S. -- and their lenders -- showed remarkable discipline during the downturn. Construction of U.S. commercial properties, excluding apartment buildings, totaled 756 million square feet in 2003, down from a peak of 1.18 billion square feet in 2000, according to McGraw-Hill Construction, a unit of McGraw-Hill Cos.

Office construction dropped 12% in 2003 from a year earlier to 138 million square feet. It had peaked at 298 million square feet in 2000. Meantime, construction of retail space remained strong as consumers continued to prop up the economy. And while apartment construction remained strong despite weak demand, some of that construction may be replacing old, obsolete apartment inventory.

Overall, development seems to be in check, unlike the overbuilding that plagued the industry in the 1980s. "We're in a more disciplined real-estate cycle," says Robert Murray, McGraw-Hill Construction's chief economist.

8. Real Operator

During the mid- to late 1990s, real-estate investment trusts were perceived simply as collectors of property -- developers and acquirers with no clue how to run a business. And many of them were just that. But since the late 1990s, they have become more involved not just in the running of their properties but in the running of their companies, too.

What this means is that REITs started paying more attention to what Wall Street and investors thought as opposed to just thinking about the next big acquisition or the next big development without regard to how it would affect shareholders.

In fact, Standard & Poor's cited REITs' evolution into operating companies as one reason why it began admitting the companies into its indexes in 2001.

So what happened? REIT stocks went through a bear market in 1998 and 1999, which meant the trusts couldn't raise equity to make more acquisitions or develop property, and were forced to focus on operations. Also, REITs started to seek money through debt offerings and "started acting more like public companies in order to qualify for ratings" from debt-rating agencies, says Charles F. Lowrey, CEO of Prudential Real Estate Investors, a Parsippany, N.J., unit of Prudential Insurance Co. of America.

C. Bradley Olson, director of the real-estate program at Cornell University, Ithaca, N.Y., sees the trend continuing this year, especially in light of the still-weak economy, because "REITs have to be very concerned about keeping their buildings occupied and about price and length on renegotiated leases."

9. Information Revolution

What do you want to know about commercial real estate? Just name it.

Nowadays there's more information at your fingertips about the industry than ever before. You can find everything from vacancy rates and rents to price comparisons; from lease and sales information to market trends; as well as in-depth analysis and forecasts.

The abundance of data has helped all investors, public and private. Many analysts credit data availability with helping prevent a real-estate crash like the one in the early 1990s. "You can explain some of the volatility historically of real estate because we didn't have information," says Steven P. Laposa, director of the global strategic real-estate research practice at PricewaterhouseCoopers.

The demand for data has been so hot that some of the data providers are mulling growth plans. CoStar Group Inc., Bethesda, Md., expanded into London early last year. CoStar is looking to broaden its database to include secondary and tertiary markets. (The firm currently tracks 50 major U.S. markets.) Torto Wheaton Research, Boston, plans to introduce historical data and forecasts for seven Canadian office and industrial markets this year, and to boost its offerings with investment-strategy services and a debt-risk management product.

Real Capital Analytics, New York, plans to add land parcels to the list of property sectors it tracks. The firm is also considering including transactions below $5 million. And Reis Inc., New York, plans to launch one product that helps lenders evaluate the risk associated with commercial mortgages in their loan portfolios and another that allows investors to get up-to-the-minute values on individual properties via the Web.

10. One-Stop Real-Estate Shopping

Seeking to boost income as leasing activity slowed in the most recent economic downturn, real-estate brokerage firms have been adding a host of services over the past few years.

Brokerage firms used to handle just leasing, sales and property management. Now brokers will handle mailroom services and security, consult on lease expirations throughout the portfolio, and conduct site selections, among other things. In fact, many of these companies consider the term "brokerage firm" a misnomer now. They like to think of themselves as real-estate services firms.

These firms hope the packaging of services that used to be handled by a patchwork of firms will result in customer loyalty as tenants and users find it convenient to have one firm do everything.

Will Marks, an analyst at JMP Securities in San Francisco, says he expects brokerage firms will continue to promote their expanding range of services. "The concept of one-stop shopping is pretty important," he says. "It does matter to tenants. It saves them time and money."

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