Can ‘core to floor’ move the dial in a polarised office market?

By Zac Goodman
News • Thoughts
5th July 24


“A core-to-floor approach is the middle ground office landlords are desperately in search of”

Interest rates are of course driving sentiment in the property market and although a rate cut seems imminent, there is a tacit acceptance that overall they will be elevated for the next cycle, continuing to hinder new development across real estate sectors.

But the picture is much more nuanced than that. Office landlords that have adapted to occupiers’ need for flexibility and sustainability in their workplace seem to be thriving, while those assets that aren’t suited to the needs of modern customers are not letting and indeed are being mothballed.

On closer inspection, the traditional way of operating the workplace through rigid, long- term lease structures and hands-off landlords doesn’t stack up anymore for occupiers in search of flexibility and experiential offices. The fully flexible office model, on the other hand, doesn’t always stack up for landlords: management agreements are expensive and they increase operating costs and complexity in advance of revenue generation.

No in-between

Office operators on the market at the moment are either too large and rigid to care and listen to the occupier (you know the types of companies I’m talking about) or too flexible, where the operator’s brand is demanding and the overhead is too expensive to make sense. And there’s nothing in between.

Not only has the fully flexible office segment of the market introduced a complex retainer and profit share agreement, it has also made it difficult to value real estate in a market where the asset is already tough to value owing to subdued transaction levels and an ongoing repricing.

If you’re a traditional office landlord right now looking to invest in fit-outs and upgrades, you are at risk of funding something that doesn’t have longevity and is too personalised to an operator’s brand.

Can there be a middle ground? A truly flexible approach to operating offices today means integrating the co-working model with the traditional one. This can see landlords improve net rents and net cash flows while reducing voids and incentives. That’s where a “core to floor” approach comes in. Rather than cede their direct relationships with tenants, landlords employ managers to simply offer more in exchange for a lease.

Meeting expectations

A core to floor approach is the middle ground landlords are desperately in search of and has evolved as the answer to one of the biggest questions post-pandemic: where and how do we work? Unfortunately, WeWork and the fully flexible model has failed to maintain its appeal for commercial landlords although some of its lessons in community building, hotel-like service, as well as offering “more” in the office, still stick today.

“More” means fitted out spaces, perhaps cleaning included, or even food and beverages delivered daily. It also means hospitality-led services, a customer-centric approach to tenant engagement, and better quality amenities such as fitness studios, fancy showers and podcasting equipment. It’s the hotel approach combined with a traditional office model. The net result is tenants have less capex upfront but pay a premium rent. Landlords receive better rent and can demand longer term stays (three years typically).

It seems likely that the majority of office occupiers will continue to lease space for three years or more, so it’s time we upgraded our management to deliver the services their tenants expect and want.

Some investors have already made a call on prime office returns making a come-back much sooner than we might have expected. Office landlords have to choose their operators wisely to crystalise these expected returns.

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