By Hannah Cano 7/15/22
In this globalized world, we’re constantly reminded of just how interconnected and dependent we have become on the rest of the planet. Before the 2020 Covid-19 Pandemic and the global supply chain crisis, both the “smart” advice and the prevailing trend was to outsource and import, which drove competition. With developments in distribution technology, this created better accessibility, which made the globalized world seem so small. However, the past three years have brought unprecedented interruptions to the global supply chain, and these impacts have affected all aspects of life and especially the commercial real estate industry. It is important to understand these impacts to navigate through this time and better prepare for the future.
While e-commerce had been ever-growing prior to the Pandemic, once lockdowns occurred across the globe, this trend exploded. For instance, growth in the e-commerce sector was in the double-digits from 2020-2021 for every national market according to eMarketer. Much of this was due to the closure of brick-and-mortar stores as well as gyms and recreational activity centers. People were stuck at home and had no choice but to order products online. This increased, unabated, and overwhelming consumer demand strained the global supply chain as nearly the entire world went into lockdown. Moreover, companies everywhere struggled to keep up with demand while they navigated rehiring from initial Covid-19 related layoffs, new government regulations and safety requirements for workers, etc. In short, production and fulfillment could not keep pace with the demand.
For commercial real estate, the effects from the supply chain woes can be felt directly in both cost and time delays. From new development projects, redevelopments, or tenant improvement projects, the effect of low supply and high demand for goods and services have pushed up costs exponentially. With products being backordered and taking months to arrive instead of days or weeks, projects are commonly delayed, which has impacted labor and created scheduling nightmares. Projects and transactions have become stymied by these delays. Additionally, given the large fluctuations in material costs resulting from the supply chain dysfunction, real estate investors, developers, and landlords struggle to make construction and capital improvement decisions. For example, in March 2020 we had almost reached final deal terms on a lease agreement with a large, local office tenant. The crux of the lease agreement was based on an extensive tenant improvement project that the landlord agreed to amortize into the tenant’s base rent in exchange for a longer lease term. The lease was not signed due to Covid lockdowns, and therefore the tenant improvement project was tabled. A year later, all parties were again ready to move forward with the lease, but in the meantime, project costs had doubled. The deal no longer made financial sense for the landlord and the Tenant was unwilling to contribute to the improvement cost. Examples like this have become all too common.
As we adapt to this new, post-pandemic world, we are learning and developing new strategies for success. What has become important and what are we learning in commercial real estate? Strength and creditworthiness of tenants has become essential as landlords evaluate their risk and exposure. While always an important factor, now more than ever it is vitally important for landlords to have tenants that can weather and adapt to market fluctuations, shutdowns, and have large capital reserves especially if a landlord is considering making a financial contribution or investment. Another important takeaway from this time is sourcing from and supporting our local economy whenever possible. Benefits from buying locally include reducing the risk of product delays, strengthening local businesses and relationships with them, and, with the advent of increasing fuel costs, the savings realized from reduced travel and delivery time. To be successful in commercial real estate today, projects must be carefully managed in order to stay ahead of potential scheduling issues with vendors and contractors as well as material delays. Strong local connections with a knowledgeable and skilled broker, architect, and contractors, who can collaborate to navigate a large project have become more important than ever to be successful. Finally, along with conservative projections and large financial resources to withstand disruptions and delays, it is critical to plan an exit strategy if headwinds become too strong.