You’ve got to put the flexible work in
As leases shorten and innovation becomes ever more important, flexible workspaces are attracting more attention, particulary from savvy investors

Traditionally a playground for start-ups and technology companies, flexible workspace has caught the attention of blue-chips looking to benefit from the ‘gig’ economy in recent years. In any market transition, there are going to be challenges, and although it may not be having an impact on the traditional office asset just yet, the way investors have to approach the flexible workspace may require collaboration and ingenuity.

Blue chips on table

While the ‘gig’ economy has become synonymous with tech companies and start-ups, large corporates such as HSBC and Microsoft have woken up to the trend, understanding the benefits of ‘collaboration and access to talent’, according to a report from Cushman & Wakefield.

Ben Cullen, head of the London occupier representation team at Cushman & Wakefield, says: “Many investors would not have gone near this sector a few years ago, however, I think they realise that it’s here to stay.”

In April, The Silverton Group took a share in Desk.Works, the third largest flexible workspace provider, which allows desk space to be reserved through an app, in order to integrate flexible workspace into its properties to avoid vacancies in times of short-term availability.

The group is seeking to attract the driving forces behind the growing trend: tech companies, start-ups, freelancers and entrepreneurs.

Earlier this year, WeWork Group, the industry leader worth an estimated $17 billion, raised $300 million from Japan’s SoftBank Group, with the tech-focused investment fund expected to invest a total of $3 billion in the group.

It’s not just the emergence of the modern day tech companies that is driving the ‘gig’ economy, according to Cullen. More corporate occupiers are looking to soak up the employee talent pool who are attracted by working in a more inclusive environment with fewer barriers, hoping that some of their ‘innovation’ rubs off.

Cullen says: “Traditional blue chip occupiers are looking at the serviced office world and seeing innovative companies, and thinking, why don’t we put one of our teams in that environment in order to be among the creative community?”

Graham Clemett, CFO at listed REIT Workspace Group, agrees. “What you are seeing is a trend being driven by smaller businesses now being replicated by larger corporates, buoyed by their employees who want to work in attractive working environments,” he explains.

London has been taking full advantage of this and has been hailed as the leader in the global market for flexible workspace. Take up of flexible workspace has hit more than 4.5 million square feet in the past five years, according to the Cushman & Wakefield report.

London grabbed 8.8 percent of the global share in 2016, slightly above the five-year average of 8.4 percent and is only expected to rise, according to the report.

One such company that stamped its authority on the London market is Workspace Group, after acquiring 13-17 Fitzroy Street in the West End for £98.5 million, in February.

Workspace Group has achieved strong growth in the last 10 years. It has traditionally focused on a mix of traditional office buildings and lower quality industrial estates in the capital, which it can upgrade into office blocks, according to Clemett.
“It has to be the right sort of building if you want to run it as a multi-let building. A typical modern development with a central core doesn’t necessarily work when you want to divide it into partitions. It’s why we have typically bought older warehouse buildings, because they tend to divide a bit better”, said Clemett.

Flexible thinking required

Redevelopments, however, aren’t for everyone. Workspace is aiming to have 13-17 Fitzroy Street ready by 2020, a timeframe that might dissuade the more impatient institutional investor from partaking.

Carol Hopper, real estate partner at Ropes & Gray, London, says: “A typical redevelopment process will be 18 months to two years. How will that be financed if it isn’t occupied and there is no pre-let with a 10 or 15-year lease?”

Hopper says: “Investors have to understand how people want to use space and how to develop it. They need the right location and an operator who knows what they are doing in order to get funding, but there is still a period of redevelopment.”

As flexible working seeps into the mainstream thinking of institutional investors, it does cause a headache for those who are used to doing deals based on traditional valuations and lease lengths of the asset class.

Hopper says: “The former market-standard of 25-years full repairing and insuring lease (FRI), has long gone. Today, market lease terms would be something closer to 10 years for many. Increasingly, even a 10-year commitment is unattractive especially to emerging entrepreneurial industries.”

Cullen agrees and believes the institutional lease in the UK, which has always been attractive to investors, is beginning to wane in the presence of more innovative landlords, who have the ability to find a ‘balancing point’ between pricing and flexibility while achieving an acceptable return.

This is leading to more funds entering joint ventures in order to share market knowledge as well as capital.

A typical institutional investor will struggle without an operating partner to manage the sort of activity required for this type of product, according to Clemett.

“Investors need to start thinking about how to approach the market because this is where the demand is coming. The dynamic between the larger and the smaller corporates is changing and it requires more active management of the space,” Clemett says.

“It’s not like a traditional landlord where you can sign up a tenant for 10 years with a rent review every five years.”

Investors will be confident of their ability to back themselves in the flexible workspace, but are perhaps less confident in putting all their eggs in one basket.

Cullen says: “Many of our investment clients will probably look at flexible workspace and say we can absolutely do this, but not as a sole user. They might look at a building where 30 to 40 percent is let to flexible workspace providers, but few are comfortable with 100 percent.”

He adds: “Clients need to educate themselves in the sector. They need to understand the growth projections of the sector and whether they are comfortable with the covenant and the flexible leases.”

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