Tenants’ Market Brings Bargaining Power for Office-Space Buildouts

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COVID-19 shook nearly every industry to its core, but never more so than for commercial office space. Before the pandemic, downtown office space across the United States favored landlords in virtually all aspects of negotiations.

Then, practically overnight, everything changed. Remote work flourished, office space sat empty, and vacancy rates bumped up. Now, two years later, office leasing is a mixed bag.

According to a CommercialEdge June 2022 report, overall, office vacancy rates were unchanged year-over-year, with the national vacancy rate remaining at 15.4%. However, that average does not tell the entire story. Instead, some markets have recovered nicely, while others have languished—and the West Coast is still struggling. “West Coast office hubs San Francisco and Portland yet again posted some of the sharpest listing rate drops across the country’s top office markets. Specifically, San Francisco ($62.57/ sq. ft) rates contracted 9.3% year-over-year, while office rates in Portland ($27.61/ sq. ft) dropped 7.5% year-over-year,” according to the organization’s April snapshot.

Likewise, Willamette Week reported this month that, “Vacancies in downtown Portland are rising. Tenants shed 525,244 square feet of office space in the central business district in the first quarter of 2022.”

It’s a tenants’ market

These struggles mean tenants in markets like downtown Portland may have gained the upper hand, particularly when it comes to tenant improvements. While every lease situation is different, market trends in downtown Portland indicate that landlords may be willing to offer significantly larger buildout allowances than in the past.

In some cases, a landlord may agree to “turnkey the space,” meaning the landlord will assume the responsibility for a full buildout. In other cases, tenants receive an allowance for buildouts, which is usually expressed in an amount per square foot of leased space. This amount is entirely negotiable, but it helps if tenants have consulted experts and thoroughly explored their project needs.

Thinking outside the box and having a clear plan, based on the specifics of the market and individual company’s circumstances, can keep tenant improvement negotiations on track and result in the best solution for both tenants and landlords. As I’ve noted before, for some industries, hybrid workspaces are likely here to stay; building out to accommodate this reality can result in a highly efficient space that maximizes work time and minimizes real estate costs.

Beyond tenant improvements

Depending on the situation, negotiations can stretch beyond tenant improvements, as well. In a tenant-led market, nearly every aspect of the lease terms could be up for negotiation, but only if the result works for both sides. Landlords may be willing to aggressively negotiate but do remember that they have some constraints. In fact, they may have lender covenants that prohibit certain conciliations. It’s a tenants’ market and an unprecedented situation, but bargaining power only goes so far.

DISCLAIMER: Because of the generality of this update, the information provided herein may not be applicable in all situations and should not be acted upon without specific legal advice based on particular situations.

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