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Problem of Oversupply in the Office Market: Solutions

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Published: Tue, 09 Jan 2018

Proposed Office oversupply solution.

Businesses are developing very quickly in the UK and around the world; the shapes of businesses in the world are changing and evolving very quickly.

In this assignment we will try to find out long-term and short-term solutions to the problem of oversupply in the office market.

Before we can propose the solutions we need to understand how the problem has evolved and the differences between the traditional and modern needs of businesses that resulted from the change in businesses themselves.

Traditional definition of office:

Office is the physical place from which a company performs its functions.

Why firms need an office?

  • Offices are important in order to prove to the stakeholders of the company that the company exists and have a usual place.
  • Offices are normally where staff work and perform their duties.
  • Offices are a place of holding meetings with clients and suppliers.

Traditional criteria in choosing the location of the office:

In the past, choosing the location of an office was related to many factors, I would mention the most important of them here:

  • Exchanging information with peer companies: in the past, acquiring information was one of the most important issues in building a competitive advantage, companies used to locate their offices close to each other in order to exchange information about pricing, market conditions, supply and demand, for example, in the city of London and New York most of the financial companies were located in central London and Manhattan around the central banks and the stock exchange.
  • Offices are usually located where customers are: companies used to locate their offices where they can meet their customers and know about them more information, for example, the offices of car insurance companies are in the cities where they can meet people and talk to them directly face to face and feel their needs.
  • Offices of one company are close to each other: offices of one company are chosen to be very close to each other in order to depend on each other, exchange goods and services and make it easier to meet and discuss important strategic issues.  

Legal relationship between the landlord and the company:

The legal relationship between the office owner and the company that occupies the office is usually defined in the lease.

What is the lease?

GE Capital definition of the lease is that: “Lease is a legal agreement between the property owner and tenant stipulates the conditions under which the tenant may possess the real estate for a specified period”.

Normally, the lease is a long-term relationship between the two parties; this long-term relationship involves financial commitment from the property occupier.

Who can afford the lease?

The above definition means that the property occupier is traditionally an established business with stable or growing client base and sales in order to meet the financial obligations of entering into the lease.

Lease is the most expensive item after the cost of labour.

Why small businesses usually fail?

Most small businesses have cash flow problems resulting from their obligations to pay their employees, landlords and creditors.

Small businesses usually do not have stable cash inflow while they have increasing cash outflow.

Long term lease or business rents contribute to the dilemma of the small businesses by not giving them contractual flexibility when signing their lease agreement.

Main text:

What has been changed?

Businesses themselves are in constant change in the world, when businesses change all the functions that are related to them change too such as offices, labour, and markets.

Economic factors:

I will mention below the most important factors that have change businesses and in turn changed the demand for offices:

  • The world economy depends more than ever on small firms: countries like UK, US and the rest of Europe have established initiatives in order to promote innovation and entrepreneurship; this means that the world economy depends increasingly on small firms that have the potential to grow into medium and large sized firms or diminish. A consequence of having many small firms is that these small firms cannot commit themselves to long-term lease contracts.
  • Information technology: the spread of information technology has made communications between different parts of the business easier, conferences could be held by using telephone conferencing facilities and life video recordings. Consequences: the consequence of information technology on businesses is that many different offices of the company do not have to be close to each other, many companies are choosing to locate their headquarters in remote areas where they can save huge sums of money on paying less rent. Huge banking business lines such as Barclay Card are located outside London in Northampton.
  • Internet: the Internet did not only change the way of doing business but also created new businesses online: many businesses do not need a physical place anymore to operate.  Consequence: the consequence of the Internet on office demand is deep; the Internet has made the demand on office substantially less.
  • Flexible labour: the ups and downs of the recent business cycles are more extreme than ever before, a slowdown in the economic activity could cause the dismissal of hundreds of thousands of employees, while an economic boom requires thousands of employees, companies need flexible offices in order to change the size of the office as soon as possible, companies may need to double their space in 2 months or cut half their space in less than a month. Consequence: the result of the variability in the economic cycles required commercial property providers to be able to meet their clients’ needs by changing the space of the office.
  • Contraction in clerical work: at the beginning of the last century there was an enormous clerical work, all the companies that were working in this field had offices and employed too many people which needed space, the computer and the internet had made clerical companies unviable and forced too many companies to close, this had caused a contraction in the needed space for clerical work. 

All the above factors have helped in the drop in the demand for offices in the big cities such as London and New York.

There is a clear imbalance in the property markets in many capital cities and especially in London.

The problem determination:

Residential properties are getting very expensive and many people are buying them in order to make capital gains on them while the revenues from commercial offices are getting less attractive.

Office suppliers are taking huge space in order to build offices that are left empty or partially used.
 
There are many vacant office spaces in London.

The reasons for this problem is the fact that office suppliers did not pay attention to the changes to businesses needs in the UK.

Office suppliers are still providing inflexible offices for established large and medium businesses and not for small businesses and entrepreneurs.

Proposed solutions:

There are long-term and short-term solutions to the problem of office oversupply.

We will demonstrate below the importance of each one of them in meeting the changing business needs.

We cannot apply long-term solutions straight away because of the nature of the property market.

Property building is a long-term process; we cannot change the whole on going building work all of a sudden; that’s why we need to differentiate between long-term and short-term solutions.

Short-term solutions:

  • Introducing long-term inflation-linked leases: regarding the buildings that have been built and do not meet the current market needs, Property Suppliers could offer many businesses which have stable market share to sign a long term lease by linking the lease rate to the inflation rate. Linking these lease rates to inflation is very important in recession times where the prices of the companies’ products go down while the cash-out flow stays constant for a long time. These type of inflation-linked products could encourage also many large companies to sign up for bigger buildings in case they needed more staff. 
  • Provides contractual flexibility for medium size companies: provide managed offices: research shows that 70% of businesses have at least one empty desk all over the year, the average cost of this empty desk is £18,000 each year including central heating, this has created the need for elastic buildings, Spencer, J (no date given), these flexible offices are designed to provide medium term (3-5 years) or even short term office space solutions without the financing and the operational risks associated with long-term conventional needs, managed offices provide phones and Internet to all offices, the building has very small offices and very large offices, this would give small companies the opportunities to move into a bigger office as soon as they expand, this type of office is convenient for small companies which could dismiss or recruit staff in the foreseeable future.
  • Subletting: property providers could give their tenant the right to sublet the property if their business has contracted or if they expanded and they need to move to a bigger building. 
  • Providing Unbundled offices for small businesses and entrepreneurs: as we have discussed above, offices are used for many different things such as holding meetings, having physical presence and working from the office: small businesses and entrepreneurs may need only to hire some elements of the traditional office such as meeting rooms and using the address for sending and receiving mail, this has left the door open to introduce virtual offices which are flexible unbundled products (offices), virtual office provide flexibility and reduce rent rates by 40% and 60%, Grand,C (no date given).       

Virtual offices do not only reduce the costs of establishing small and entrepreneurial businesses but also can be used by many entrepreneurs and reduce the required size of land that is necessary to build offices.

  • Changing building types: building type could affect prices and capacity directly, in this section I will explain the most important changes to building types:
    • Building skyscraper: when property suppliers build skyscrapers they can use every square meter of the land to build as many offices as they can this can reduce the cost of buying the land compared to the number of offices that they can build, skyscrapers create the sense of communication between the companies that occupy it, skyscrapers contain many small and medium size offices, this will give small firms the chance to lease offices in them.
    • Environmentally-friendly buildings: the environment is a concern for many businesses, governments and individuals; building environmentally friendly buildings means using less cement and depending more on glass, this can changed the shape of the buildings and the cost of the building as well, glass is cheaper than cement because it can be recycled there are huge amounts of glass every where which can be recycled, recycling glass is cheaper than manufacturing glass, this can make the buildings look very modern and become cheaper for small businesses which are looking for an office to rent, glass as well is very energy efficient because it traps the heat inside the rooms, this will make the cost of electricity bills much less than normal, buildings of glass need shorter time to build.
    • Cogeneration potential: cogeneration is generating electricity and heat by installing a generator in the building; this generator runs by gas. The government is sponsoring an initiative in order to encourage office providers to design the building in a way to install micro-CHP (combined heat and power), the building which is designed to contain CHP is different from the building that does not have CHP, the building which is designed to have a CHP must have extra space for huge boiler and steam pipes and a generator, installing CHP in offices can help companies cut their electricity bills substantially, CHP generates electricity depending on gas and supplies electricity to all offices directly, the building which have CHP are more likely to sell electricity to those that do not have CHP through the distribution network, this could be a profit offsetting the reduction in the durations and prices of lease. 
    • Corporate hotels: building corporate hotels can provide very important solution to the office market oversupply; these hotels provide short-term accommodation to businessmen who would like to come to a short business trip to cosmopolitan cities such as London, New York and Hong Kong.

Corporate hotels provide fully flexible accommodation in offices that are equipped with the latest communication technologies.

Long Term:

Changing land use:

As we have already pointed out, prices of residential properties are going up constantly and there is a housing crisis in London and major cities of the World (New York, Honk Kong).

The solution to this problem may be in redistributing the land between offices and residential areas.

As we have already seen from the above analysis, there is an over-supply of offices in the UK and many other parts of the World as a result of changing business needs.

Companies that need to get offices in the cities are mostly small companies that are looking to grow.

Large businesses are making use of the technological advancements that have happened in the last fifty years in order to move to bigger buildings outside the city.

Large businesses find it more cost efficient to move to bigger buildings outside the city, the fixed costs of these companies will drop substantially plus the cost of labour outside major cities will be much less than average.
 
Large businesses make use of video-conferencing and intranet, information technology in contacting other parts of their business or their suppliers and customers.

Offices providers should build more large offices outside the city in order to meet the requirements of large businesses.

The change in land use includes giving less land to parking in office buildings in the city:

The pollution caused by cars are a major cause of climate change, the UK government in its white paper took the responsibility for reducing CO2 emissions, this includes reducing the number of cars used in the city and encouraging using renewable resources as a fuel for cars.

The government had imposed the congestion charge as a way to reduce traffic in the city and encourage people using public transportation.

This entails building offices with fewer parking spaces than usual.

There is enough land to strike a balance between the residential property market and the commercial property market.

Commercial properties have to be more concentrated on a limited size of land; building skyscrapers and building more small and medium offices for small companies and entrepreneurs could do this.

The rest of the land has to be redistributed to residential properties in order to build more houses and lower the prices of residential properties.

New York Experience:

New York has a fantastic experience in the offices markets; New York started building skyscrapers a hundred years ago as a way of hosting thousands of small and medium companies that are trying to make success.

The prices of land in New York are not as expensive as the prices of land in London but even though New York businessmen found that building skyscrapers will make the cost of having an office cheaper and this will give New York businesses in a better position compared to their London counterparts.

New York has used short-term leases and flexible office space as a way to utilise the empty space that the city had.

Not only those, but also the prices of New York residential property are cheaper than the residential property of London.

Price competition in New York is a way of solving office market oversupply.

Hong Kong Experience:

Hong Kong is the major player in Asia; this city has witnessed very impressive economic growth rates in the last century.

We will try to find out how the offices providers have responded to the increasing demand of offices in that city.

Hong Kong has responded to office oversupply by creating the elastic buildings, which could give small businesses the chance to move to bigger or smaller offices as soon as the size of their business expands or shrinks.

Honk Kong encourages elastic buildings because they encourage investors to invest their money in Honk Kong.

Honk Kong is an emerging market and international investors want to enter and exit the market as required, the elastic building has given them the flexibility in exiting and entering the market and dropped the requirement of capital investment in leases in order to establish a presence in that city.

The elastic building helped to solve the problems of office oversupply and undersupply.

The city of Hong Kong has introduced corporate housing which is a fully furnished apartment equipped with information technology in order to give the businessman the chance of working from home without hiring an office and wasting time travelling from one area to another.

The corporate housing has created an ideal housing for businessmen who came to Hong Kong in order to explore the possibilities of establishing business their.

Corporate housing is a major competitor to business hotels, corporate houses have created a very flexible office space, and this has helped in solving the problem of office oversupply.

The city of Hong Kong is full of skyscrapers in order to maximise the number of offices built on every square meter of the land.

Conclusion:

This research has looked at the office market oversupply from economic viewpoint as well as building viewpoint.

Introducing flexibility in the contractual relationship between the landlords and the hiring companies and taking into consideration the environmental concerns in building offices can find solutions to office market oversupply.

The solution is a mix between changing contractual relationships and building types.

The lease has to be flexible in order to fit the requirements of small businesses.

Short-term solutions include being aware of the environmental concerns; building environmentally friendly offices can be used as a competitive advantage in order to market these offices.

This environmental competitive advantage can be used in increasing demand for offices and making more profit by reducing the costs of heating and building the property.

It is very important as well to build more offices outside the major cities in order to meet the needs of large businesses.

Office market supply depends on the general economic activity, there is no solution to office market oversupply or undersupply but there are some tools that may help reduce the cyclical effects of the economic activity on the office market.

Reference:

  • Grand,C (no date given): Virtual Office: Risk Management, Security, Control and Auditing, institute of internal auditors.
  • Spencer, J (no date given):  The ‘elastic building’ can help you s-t-r-e-t-c-h- your budget

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