Friday, April 17, 2009

Top Ten List: Business Risks for CRE

Recently in Institutional Investor Online, Ernst & Young contributed a research report listing the top ten business risks for commercial real estate. In a suspenseful twist, we will provide them in descending order, a la David Letterman, and provide our thoughts and commentary thereafter. Without further ado, they are (drum roll please):

10. Volatile Energy Costs (O)

9. Economic Vulnerability and Regulatory Risks in Developing Markets (F)

8. Green Revolution, Sustainability & Climate Change (D)

7. Pricing Uncertainty (F)

6. Inability to Find and Exploit Global and Non-Traditional Opportunities (D)

5. Changing Demographics (O)

4. Global War for Talent (O)

3. Impact of Aging or Inadequate Infrastructure (D)

2. Global Economic and Market Fluctuations (F)

1. Continued Uncertainty and Impact of the Credit Crunch (F)

If we assign these concerns into one of the following three categories: Finance, Development, and Operations, as indicated with (O, D or F), we find that while the top ten issues are somewhat diverse in nature, the top two remain financial concerns.

The issues we chose to tag "Operational," while important, we do not feel are vital to the health of the commercial real estate market. Changing demographics are sure to affect particular markets, especially in the southwest, but will take a while to reach corridors like the northeast. The Global War for Talent is an issue of the future, as anybody who is actually hiring in this market essentially has the pick of the litter from the copious amount of unemployed, likely overqualified candidates. When this does become an issue at some point in the future, it will likely mean the unemployment rate will dwindle from double digits back into the 5-6% comfort zone of a few years ago.

Energy costs are a necessary evil of the business. Lease type will dictate whether landlord or tenant will be paying for the rise in energy costs, and the government is attempting to implement a wide range of programs aimed at stemming energy costs from crippling the economy. These programs will take a long time to bear fruit, but they are being addressed.

The Development (D) issues are of greater immediate importance in our opinion. However, most are questions of project feasibility as they pertain to financing. If green buildings are not cost effective for landlords or tenants, you simply won't see very many being built, or converted. Likewise, while aging infrastructure is a serious problem, developers will examine the cost basis of various opportunities before building or renovating. Until construction costs drop replacement costs closer to price per square foot figures being paid for existing product, new ground up developments will be fewer and farther between, especially if market demand is sluggish. Which leads us to the last (D) on the list...finding new global and non-traditional opportunities. This issue is probably the most abstract on this list, and so it will take time to figure out exactly what the issues are. More than likely, it was included on this list as a result of so many of the other issues being, well, issues. People fear the unknown.

This of course leaves us with Financial (F) concerns. Pricing uncertainty, regulatory risk, market fluctuations and the credit crisis blow the rest of the aforementioned issues out of the water, in our humble opinion, in terms of what people SHOULD be worried about. Frankly, these four issues would be 1-4 on our list. Of course, unlike David Letterman's Top Ten Lists, which are supposed to make you laugh, ours, like E&Y's, would be more likely to make you cry....

No comments: