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Landlords And Coworking Players Dispute Who’s At Risk In Next Downturn

Nobody doubts the Boston office market’s continued strength, but debate gets heated over who is going to get hit the hardest when a market correction inevitably arrives.

Skanska USA Executive Vice President and Regional Manager Charley Leatherbee

“I think it’s really, really interesting, and it’s going to be even more interesting to see what happens when the market softens,” Skanska USA Executive Vice President and Regional Manager Charley Leatherbee said Thursday at Bisnow’s Boston Office of the Future event. “I believe when it softens, WeWork is going to be hit first.”

Coworking takes up over 1M SF of Boston office space and is primed for more, as entities like WeWork move into more trophy product like One Beacon Street. Panelists at the event were unanimously bullish on the economy, and Avison Young principal Ronald Perry points to Boston’s overall 8% office vacancy rate as proof tenants want and need to be in the city. But not everyone agrees on where tenants will go when the market isn’t performing as well as it is today.

“We’re in a good place in the market now, but if that shifts, from a landlord perspective, you’re talking about how each building is not guaranteed by the parent,” LaSalle Investment Management Senior Vice President Mike Winter said. “It’s just their own special purpose entity. Most landlords look at that and think, ‘Gee, I’ll hold my breath and hope this model works out over the long term.’”

Avison Young principal Ronald Perry and LaSalle Investment Management Senior Vice President Mike Winter

WeWork has over 14M SF in its office portfolio, and it pays at least $18B in annual rent for the space, according to Bloomberg. But rather than a rent check coming from the parent company, each WeWork location is created as a special purpose entity.

The parent company provides landlords credit letters and guarantees, but that typically lasts only six to 12 months on an average 15-year WeWork lease. Landlords aren’t sold on the longevity of the rent arbitrager. 

“If their credit is this special purpose entity, and there is no parent guarantee behind it, what does that mean for the landlord?” Leatherbee said. “We’ve considered them in Boston and elsewhere, but, with all due respect, I’m a little apprehensive about me, personally, signing a deal.”

Nickerson PR founder and principal Lisa Nickerson, Wayfair Head of Real Estate and Workplace Services Reed Gilbert, Sasaki Senior Workplace Strategist/Interior Designer Elizabeth von Goeler and Lupoli Cos. CEO and founder Sal Lupoli

The rise of coworking has traditional landlords looking to throw their hat into the ring of shared office space. Equity Office and Hines both issued requests for proposals in late 2017 for business partners to help them gain knowledge of coworking entities like WeWork. But coworking experts had a chance to refute the warnings of developers and landlords at Thursday’s event.

“We’re really transparent with our owners,” Convene Vice President of Real Estate and Development Michael Burke said. “We literally share our underwriting in every transaction and say, ‘This is the deal we’ll do, and here’s what it will look like if we lose 20% of our business.’”

While financial performance data is limited in the coworking environment, Burke pointed to Regus and how it only saw a 6% drop in occupancy in the last recession as proof the industry can weather a downturn. The next market correction could even be a benefit to the coworking industry.

Perkins+Will principal and Managing Director Robert Brown, Workbar CEO and co-founder Bill Jacobson and Convene Vice President of Real Estate and Development Michael Burke

“In a downturn environment, when those leases are turning over, is somebody going to want to sign up for another five-plus-year lease or are they going to want the flexibility?” Workbar CEO and co-founder Bill Jacobson said. “When you do the analysis, the cost isn’t any more. It’s less.”

The Boston-based company is up to 18 locations in New England, attracting global investors and looking to grow domestically and potentially abroad. A downturn would help coworking grow further by bringing rents down, but while landlords might be apprehensive about the expanding tenants, the coworking panelists see the office environment changing into one similar to the hotel industry.  

“There are typically three parties in a hotel,” Burke said. “Somebody owns the asset, somebody runs it, and there’s a flag. We think the office industry will evolve to essentially that same place.”

Skanska USA Executive Vice President and Regional Manager Charley Leatherbee and SGA partner and Director of Architecture John Sullivan

Jacobson readily admitted he didn’t know about construction practices like the panelists on the earlier development pipeline panel, but he doesn’t think that is a problem. There is room in the office industry for people like him and Burke to zero in on the tenant experience and create an opportunity for brands to emerge at varied, stratified layers of the office industry. 

“In the future, office environments will be designated by their service experience,” Burke said. “Some companies will want to buy the basic utility that you find at a Best Western, and other companies will want a Four Seasons.”