As seen in
New York Business
October 16 - 22, 2000
SPECIAL REPORT COMMERCIAL REAL ESTATE:
Shrinking space supply sends subleases
soaring
Net firms like the short-term deals
by PETER MALBIN
Last
May, when Amerindo Investment Advisors Inc. quietly doubled
its space at 399 Park Ave. by leasing a second floor, the sharks
began circling immediately.
They were hoping that just maybe the Manhattan-based money manager
would have a bit of space left over.
"The minute the brokerage community got wind of this, my
phone was ringing off the hook with calls to see if there was
an opportunity to sublease all or a portion of the new space
we took on the 26th floor for a short term," recalls Bruce
Rothman, a managing director at Julien J. Studley Inc., who
represented Amerindo in its expansion.
Not only that, the brokers were offering to pay Amerindo 20%
more for their subleases than the money manager - as the leaseholder
- had agreed to pay the landlord only days earlier.
It is an increasingly common tale. "The demand for short-term
sublease space is greater than it has ever been and the prices
being paid are also the highest we've ever seen," says
Lisa Kiell, Senior Vice President at Jones Lang LaSalle Inc.
Brokers say that the phenomenon is being driven by a volatile
mixture of a shortage of space and an explosion in the number
of fast-growing Internet companies, technology-oriented law
firms and others who often do not want to commit themselves
to leases beyond two to four years.
The price of excess
The shift has been as quick as it has
been dramatic. Today, Mr. Rothman notes, subleases for finished
space typically command a 15% to 20% premium over what the
primary tenant is paying. As recently as two years ago, he
says, primary tenants typically had to discount their excess
space by 40% to find subtenants.
Happily for the big Dutch bank ABN AMRO, subleases have become
one of the real estate market's hottest commodities of late.
At 500 Park Ave., the bank is subleasing its entire 65,000
square feet of "built" space for a five-year term.
"The demand has been tremendous," Ms. Kiell says.
"There are so few sublease options in the market."
The intense demand for subleases and fast-rising rents are
putting huge pressure on primary tenants who have excess space
to put it on the market - provided, of course, that their
leases allow them to keep the profits from subleases.
"Some rents on Madison and Park have reached $90 per
square foot or more," says George Donohue, President
of brokers William B. May International. "What do you
do to reduce your operating costs? You take a close look at
how effectively your space is being utilized and sublease
part of your space, which will result in increased profitability."
Size matters
What
moves the fastest these days is small blocks of space, 5,000
to 10,000 square feet. Real estate agents say that it is units
in that size range that command the highest prices, as they
are especially popular with the city's burgeoning dot-com
crowd.
Currently, increasing numbers of larger companies are factoring
attractive sublease deals into their real estate plans. "If
a company thinks it needs 20,000 square feet within three
years, but can only occupy 10,000 feet today, it has the opportunity
to design an expansion plan to meet its own requirements,"
adds Marcus Rayner, a principal of CRESA Partners New York.
Freshfields Bruckhaus Deringer, an international law firm,
did just that when it leased a floor at 520 Madison Ave. and
managed to design a 10,000-square-foot sublease program.
"What we ended up doing was subleasing three spaces to
three separate subtenants (an investment group, a real estate
company and a technology firm) on terms of between one and
three years, with Freshfields retaining the right to take
back the space at short notice," Mr. Rayner says.
Legal
Limits cut use
Subleasing
office space today in New York may be profitable, but it is
not always feasible.
"Landlords are in the real estate business. They don’t
want their tenants to be in the real estate business,"
observes Timothy Gibson, Senior Managing Director for Insignia/ESG
Inc.
Typically, landlords put provisions in their leases that make
it difficult for tenants to make money. Their legal cork of
choice is the recapture clause,
which gives the landlord the right to take the space back
from the tenant ant re-lease it.
Landlords are typically recapturing space because they can
re-lease it on a direct basis at much higher rents than what
their primary tenant is currently paying.
"In those rare occasions when he doesn’t have the
right to recapture, of for some reason elects not to, then
the short-term sublease becomes
very desirable for companies who want to maintain their flexibility,"
says Michael T. Cohen, President of GVA Williams.
Some leases stipulate that all sublease profits, or at least
50% of the profits, must accrue to landlords. Other leases
are vague about profits. When subleasing, a primary tenant
also incurs brokers’ fees, legal fees and concessions
to the new subtenant, points out Peter Riguardi, Executive
Vice President of Colliers ABR Inc.
For subtenants, one advantage of subleasing short term is
a swifter leasing process. Another
is that security deposits requested by sub-landlords are usually
not as steep.
Subtenants also face some downsides.
They don’t have as many rights legally. In a sublease,
the primary tenant is still responsible for the lease. "If
the primary tenant goes out of business, the sublease is terminated,"
says James Meiskin, the President of Plymouth Partners, Ltd.
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