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2001 Real Estate Market, USA

VAT News Vol.1/2001

Richard D. Baier
President, Building Owners and Managers Association (BOMA) International
Managing Director, C.B. Richard Ellis, Kansas City, Missouri

The most influential issue of the year 2000 - technology - made itself evident on the very first day of the year as we all worried about what "Y2K" would bring. Of all the forces shaping our economy and society, none had greater impact in 2000 than technology. Technology is changing the way real estate organizations are doing business, and, as a result of such rapid change, special challenges have developed and new trends are emerging for the future.

Trends: Technology affects every day business and communication
The Internet is best at breaking down barriers, improving information flow and speeding decision-making processes. Since real estate tends to be paper-intensive, time-intensive and information-intensive, it's the ideal industry to embrace e-commerce solutions.

In general, real estate firms are using the Internet so clients can: take virtual tours of properties; shop for and secure preliminary financing for loans; access leasing information 24-hours a day, seven days a week; check the status of impending deals; and make data available online for asset managers. Brokers can research, post property listings, and e-mail maps, photos and data. We can, depending on our licensing, conduct business across geographical lines more easily; if a client in another location wants to do business in your location, it doesn't necessarily mean anyone has to travel. You can do the job by sending photos and data electronically. And perhaps most importantly for owners, we can send financial data hourly.

The Internet has also spurred some innovative thinking and new ways of doing business. Hillwood, a real estate firm in Texas, put 80,000 square feet of industrial space on the Internet auction site, e-Bay, for bid - a first for the industry! They received two bids, with one being $2 per square foot over the minimum-bidding price. Although they ultimately leased to a tenant off-line, they considered the auction a huge success, as it opened up market avenues and provided exposure they never would have had otherwise.

On April 25, 2000, CB Richard Ellis, Jones Lang LaSalle and Trammell Crow formed an alliance to develop e-commerce initiatives and new Internet-based client service capabilities. We collectively spend close to $7 billion for goods and services, and this alliance would allow us to develop Web-based services to assist brokers with deals and Internet portals for the 1.2 billion square feet of office buildings we control.

Then, on May 4, CB Richard Ellis joined 10 other major office owners and a venture capital firm to create Project Constellation, which will form, incubate and sponsor real estate-related Internet, e-commerce and broadband enterprises; acquire interest in existing "best of breed" companies; and act as a consolidator across property sectors in the emerging real estate technology area. Deutsche Bank/Alex Brown called the creation of Project Constellation "A defining moment for the real estate industry."

Project Constellation could well serve as the basis or prototype for the redefinition of real estate company valuation in the new economy, because in the new economy, Wall Street has made it clear that they will look to professional property management teams to enhance the value of their portfolio by creating and strengthening the intangibles such as services, brands, and partnerships.

BOMA conducted a telecom and technology survey of tenants and owners/managers. This survey formed the basis of our newest resource book, Critical Connections. From the survey we learned the scope of technology's impact, what tenants need right now and how tenant mix impacts what a building offers in technology and telecom. We had a great response to the survey, with almost 3,000 buildings and 400 million square feet of office space represented.

Three-quarters of respondents said that telecom/tech services have resulted in major increases in productivity. Nearly 40 percent reported an increase in economic performance. And nearly 30 percent said telecom/tech services had a strong impact on their ability to attract and retain staff. All of these are obviously some pretty strong motivators.

Our survey showed that they most value: e-mail, voice mail, local area networks, competitive long distance, a company Web site, and high speed Internet access (T1 or higher). All of these priorities undoubtedly rank so highly because they are widely available and improve tenants' ability to serve and communicate with their clients and customers.

The future: e-commerce
E-commerce will also affect construction significantly, especially with online project management that allows individuals to send data more

easily among construction team members, many of whom are at different locations and companies. For example, blueprints, contractors schedules, supply orders, budgets and anything related to the logistics of a construction project can all be made available on the Web, reducing paper costs, labor costs and approval process time. The early results of such project management programs look promising, with construction time being reduced by two to six months - a time savings of 10 to 15 percent. Efficiency of construction also drastically improves, creating up to 20-30 percent in construction savings. The cost savings of even single components of construction can be huge. Construction companies, for example, spend more than $500 million annually on overnight services for blueprints alone!

All told, Forrester research shows that e-commerce will account for $7 billion within the construction industry by 2001, will double that in 2002 and double again in 2003. By 2004, it will likely be near the top five industries in terms of business to business e-commerce dollar volume.

While technology has clearly had a huge impact on the office building industry, it could be argued that it has had just as big an impact on suburban warehouse and industrial buildings, primarily because fulfillment has become the biggest end-result of e-commerce. Most notably, e-commerce has created enormous demand for warehouse space, as the whole distribution chain has been compressed and increased in velocity. Think of it this way: as consumers purchase items directly from manufacturers, the retailer's store shelves are not playing as important a role and are being replaced with warehouses. Meanwhile, product distributors will have to change the way their systems operate: they're more accustomed to moving products in bulk, on huge pallets. Now, distributors handle individual shipments - one book at a time, for example.

Warehouses of the future must also be near major transportation modes, such as airports, shipping ports or railroad stations, rather than in the suburbs or in rural areas. This becomes even more important when you learn that 70 percent of all air freight is carried on passenger flights - not cargo planes - so warehouses located near passenger tarmacs are best as next day and "just in time" deliveries have become a way of life.

Warehouse design must also change. In order to be ideally suited for e-commerce, they should feature on-grade docking, flat flooring and greater clear-height ceilings. Cross-docking capabilities are also important, allowing trucks to load and unload almost simultaneously.
Demand for data centers is up too. As tenants' technology needs increase, their space requirements for their hardware and software is increasing too. And, data centers that can house such sensitive equipment are completely unique. They need to have high ceilings of up to 14 feet for computer racks; uninterruptable power sources delivering 50 to 100 watts per square foot instead of the standard 15 to 20 watts; on-site generators; waterless fire protection systems; massive climate control systems that can keep computers cool, filter dust and control humidity; 150-lb/square foot load bearing floors; and minimal windows.

The need for data storage is also likely to increase: A report by Bank of America showed that data storage is expected to triple by 2001, so companies are being forced to reduce their physical storage needs and focus instead on electronic alternatives, which usually means using less-expensive industrial and warehouse buildings to house servers that electronically store client libraries. Western Union, in fact, is building an office in Australia that will not have any file cabinets-
everything will be filed electronically.

Special challenges presented by tech companies' needs
One of the unique challenges faced by commercial real estate professionals in the late 90s and 2000 was satisfying the special needs of high tech tenants. These tenants are a different breed with a whole new set of challenges - the fastest growing companies in the world today have less than 100 employees. For example: what happens when, in a few months, they have hundreds of workers and need 50,000 square feet instead of 5,000 square feet? It does happen, particularly after a successful IPO. We need strategies to help them lease additional space and expand their operations as their space requirements change.

Oftentimes, developers will build in a campus-style location where land is available for expansion. Functionality is also taking priority over aesthetics, with larger floor plates, more parking and stronger infrastructures for technical components.

In the warehouse sector of the industry, these high tech tenants are breathing new life into older warehouses as high-tech companies are attracted to high ceilings, open and flexible workspaces and interesting atmospheres. Wireless technology is also making up for older warehouses' lack of hard wiring. As a result of this surge in popularity, Class B and C buildings are seeing huge increases in occupancy rates since the mid-90s. In Houston, they're seeing a 15 percent drop in vacancies since 1995; Baltimore, a 12 percent drop; Manhattan, a 16 percent drop with rents up 50 percent in some areas; Seattle, a six percent drop; and San Francisco, a 12 percent drop. The U.S. aggregate is down nine percent.

Technology even impacts deal-making
Meanwhile, the way that deals are carried out is being impacted too, particularly in the context of speed: In working with the high tech sector, we need to develop leases that don't take months to close, because these businesses don't have months to spare. Some of our industry's firms are doing some creative things to help. Equity Office, for example, in collaboration with its customers, has introduced the FasTrack lease document that is both shorter in length and written in plain English. It has accelerated the lease cycle time and reduced the level of professional fees the customer incurs since protracted lease negotiations can be avoided.

Some landlords are asking for long-term letters of credit insuring a large part of the rent will be paid if the dot-com goes bust, while others are demanding warrants - or options to buy stock in the company at pre-initial public offering prices. In one recent example, a firm negotiated with a dot-com for a $1.6 million security deposit - one years' worth of advanced paid rent - to lease 53,000 square feet. Another cable online service had to pay a whopping $10 million, or three years' worth of rent. Other landlords are demanding less up-front, but refuse to fund any tenant improvements, leaving that entirely to the tenant.

It's necessary to help recoup costs if the dot-com goes out of business and leaves the building with years left on its lease - or leaves space so specific to their business we're forced to spend huge sums making it leaseable again.

Today's New Economy, created by high-techs, has creating a clustering effect. The top cities for Internet access and its cluster effect include San Francisco; Austin, Texas; Seattle; Washington, DC; Boston; San Jose; San Diego; Minneapolis/St. Paul; Atlanta; and Dallas.

E-commerce is not the only story today. Be on the
lookout for "m-commerce," or mobile commerce, in the future. Our growing number of cell phones and PalmPilots are making it easier to make purchases over the phone. The true market for m-commerce lies in combining information and purchases.

Cell phones today are already allowing users to connect to the Internet - to check e-mail, stock quotes, weather or flight information. Nokia has even introduced a phone with infrared so that you can update information between your phone and computer. In short, mobile phones will become portable, mini-PCs with the additional benefit of knowing that everyone already knows how to use them. They will be the key to all commerce. Think of how big Internet commerce already is, and then transfer that to the phone. Wireless Internet is going to be the second generation of the Internet.

Outside the U.S. though, the rules change, and that's important for global firms. Technology has created a "digital divide" between developed and developing countries and between the "haves" and "have nots." Up to a third of children in the US and Asia do not have access to the Internet at home or at school. Sub-standard phone capabilities also exist in many developing countries. This will definitely affect the commercial real estate industry in the future.

To wrap up the impact of technology on our industry - a discussion which could fill this page and then some - according to Moore's Law (Moore was a founder of Intel) the power of the microprocessor roughly doubles every 18 months. So, in 2017, the computers on our desks will be more powerful than the most powerful supercomputers today. Bank of America expects that market capitalization of public real estate e-companies will increase seven-fold by 2002 to over $100 billion. We can't afford to relax. We're living in a connected world, with highly educated and demanding customers. Time has become one of our scarcest resources, and we have to be prepared to do business around the clock.

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