Riddle me this, landlord: In the midst of a pandemic and what many believe will be a severe and deep recession, how do companies go about predicting their long-term needs for office space?
Andrew Kupiec is the CEO at Hana, CBRE’s wholly-owned flex office space provider that launched in late 2018 and has space in five locations across the U.S., including Silverstein Properties’ 3 World Trade Center. The Real Deal caught up with Kupiec and Hana’s EVP of Occupier Solutions Georgia Collins to better understand the flex-space business model, how office landlords are adapting to a period of unpredictable demand for their core product, and how to design for the next generation of tenant needs.
This interview has been condensed and edited for clarity. To catch this conversation in video, click here.
The concept of the office has been completely discombobulated. But the premise of your business is more relevant now than probably ever, right?
Andrew:
On the owner’s side, we did not go out with a pure lease model from day one. We went to deploy capital, we wanted to have skin in the game. The vast majority of our portfolio now, about a half million feet, is under some type of revenue-share or partnership model. What that’s been able to give us is this transparency and dialogue with owners, that now as we reach this really volatile time, they already know that we started in a partnership model.
Is it revenue sharing after a particular threshold has been met? Is it more of a profit-sharing model?
Andrew:
For example, out in Southern California, a unit we have in Irvine with LBA Realty, we both deployed capital, we built the unit together in some split. And then, there is a complete revenue share after expenses of the unit. The way we have promote structures and hurdles, all of that can be a function of what the goals are for the asset. Is there a minimum-rent threshold? All of those are customized to the deal. But the real core here is sharing in capital to build it, and then sharing in the topline gross, which ultimately achieves a premium and NOI. That’s what all owners want. That’s what we’re here to generate.
Then, you swing all the way to the other side, which is management agreements. They can take a lot of different forms. The way we prefer them is we still like to deploy a little bit of capital. But then, we manage it on a fee basis. And what that really tends to do is give the owner complete control. If they want to tailor the buildout a little bit differently, if they want to have potentially even some different branding in a white-label fashion, we can do all those things as you skew more towards the owner’s capital.
But I can tell you, we’re not in the business, and I don’t think any of the other flex providers moving forward are going to be in the business, of going out and deploying massive amounts of balance-sheet liability and leases to build a portfolio.
You’re owned by CBRE, which is obviously a company with serious cash reserves. But I think the difference between Hana and the rest is that you’re not venture backed. So that money is not going to be as aggressive. Which also means that you’re not going to grow as quickly.
Andrew:
We set this business up as a wholly-owned subsidiary for a specific reason. We’re underwriting this business in perpetuity. We’re not looking for an exit. We’re already part of a publicly traded company. We don’t need to IPO. So, from day one, we have a different endgame. And our endgame is to really be additive to the core business. It’s less about the individual returns of each deal and more about the long-term stickiness of the business.
We actually can grow as fast or faster than anyone in the marketplace and I would challenge anyone to dispute that. We have a global infrastructure that we do not need to replicate. Think of it as legal, finance, all of the expertise in 180-plus countries, 90,000 employees. So we have a different cost basis.
We could turn on the switch if a Fortune 1,000 company gives us 15 cities they want to be in over the next three years. And we need to go build it, execute it, we have all the infrastructure to do that. But we’re not in the business of just land grabbing from day one.
Georgia:
We really built a product that would appeal to enterprise clients so that we can meet their needs holistically, across the spectrum of everything from traditional leases to flex space.
The conversations that you’re probably having with landlords at the moment are fascinating. “How do I make this work? Why would anyone want to come into the office?”
Georgia:
There’s a piece of this that is the near term that everyone needs to figure out. We need to figure out touchless everything to some degree because that’ll be smart in the long-term. Some of it is going to be, hopefully, temporary until we have a vaccine in place, which is more around the social distancing aspects of it, the number of people in elevators, the distance or the densities being lower in occupier spaces.
Is the office dead? People are going to want to go back to the office. We think that a lot of the flexibility that many of us have enjoyed will also stay around. So, historically there have only been a certain number of organizations who allowed their people to work flexibility by choice or remotely from home all the time. And I think what we’ve done in this massive experiment is kind of proven out that this can work. That we can overcome the hurdles of being able to see people in order to manage them, of security, of confidentiality, of all of those kinds of things.
I expect that there will be more fluidity in how people use space. But there will continue to be demand for office space because the importance of people showing up and connecting with one another is not going to go away.
The bigger sort of zoom-out point is there’s been a tragedy, which is the erosion of trust. The great unlock in the sharing economy was, “you know what? I’m not using my apartment. I can put it up. Someone else can stay there, right?” Airbnb. Zipcar, where Andrew comes from, same thing. There seems to be a pretty big and rapid erosion of trust around shared… anything. So, that’s the big existential challenge for your business.
Andrew:
In the short term, I think all of those things are off the table. In the longer term, we’re not redesigning our spaces that differently. We are certainly giving each occupier the ability to configure and customize their own private space because there will be some desires from different groups to be more socially distant regardless of the guidelines of the CDC or others. And that might go on for some time. But this idea of continual sharing stopping and everybody wanting their own stuff, we’re not hearing that. Once there’s a vaccine, human nature, some of this is going to go back to a bit of how it was.
The classic example is if you’re bit by a dog as a kid, it takes years to kind of feel comfortable around a dog.
Georgia:
From an enterprise perspective, workplace decisions have always been about tradeoffs. And while individuals may have discomfort, there’s going to need to be a tradeoff because organizations do not have endless money to spend.
What I expect to see is enterprises having that conversation with their employees and saying, “I want to encourage you and empower you to make the decision about where you need to be on any given day to get great work done. But for that flexibility, I’m going to ask you, when you’re in the office, to share space because I can’t just hold that space for you. But holding up my end of the bargain, I’ll make sure that there is enough space so that when you come in you have space to touch down in, whether it’s an office or a desk. And I’ll make sure that’s well-maintained, to strict cleaning standards and sanitary practices so that you have confidence that you’ll be healthy when you’re in the office.
So there’s more of a role for predictive analytics and data analytics and tracking movement. Have you invested in that kind of intelligence?
Andrew:
Generally speaking, we wanted to thread a needle between having all the technology to be able to offer the occupier and client the analytics they may want. So, cameras being able to track occupancy, sensors, beckons, all types of RFID analytics and having the software on the back-end with the database. We can do all that, but we also understand that they want their own private space and they want their own security parameters
We focus much more on the infrastructure to be there to support what needs to be customized to that larger client. And helping make that as seamless, easy and as cost efficient as possible, versus pre installing everything and guessing what a client might want.
Georgia:
People tend to think it’s really complicated to figure out how much space they need based on analytics. And it’s actually not that complicated. We can look at very basic information, like badge data or meeting room utilization data. So, how often do you show up on any given day or how often are meeting rooms used? And we can make some really educated assumptions around how that will inform occupancy going forward and how we need to size space appropriately.
We’re all lucky to live in alpha cities that act as these magnets for creativity, finance, business, entertainment, you name it. With this mass adoption of remote work, do you think there’s a case to be made for more of your business moving into Tier 2 and 3 cities?
Georgia:
I talked to a number of enterprise clients even in the last six weeks who have said, “We’re really thinking about our strategy more as a hub-and-spoke model. We’re going to continue to have a hub, but we might have smaller outposts in those spokes, so to speak, and those surrounding metro areas or maybe in areas where, cities, where we have decided not to have a really large traditional lease. We might have a couple… We might have a suite in flex or we may just give our people memberships to use flex space.
You’ll continue to see a need to have the hub because it becomes the place where we connect. The spoke may be a place that serves me as an alternative to working from home. Enterprises will think about it in that kind of networked way.
What does that mean for the landlords in those cities?
Andrew:
We haven’t talked a ton about this publicly. We see the network of Hana being built in a couple different ways.
There will be full blown Hanas, like you’ll see at 3 World Trade Center, like you see in Dallas, like you see in Irvine. And they are built to a certain standard, certain spec. They tend to be larger, 50,000 to 100,000 square feet and they’re the full boat. But then, we see this opportunity of what we’re calling an affiliate network. And it could very well be a landlord brand or a landlord solution operated by Hana. So, we’re bringing all the advisory pieces to fill the space, the technology, and it’s really the landlord’s unit within their asset. But then, we’re able to offer that to the sophisticated occupiers that might need 30 to 40 cities as outposts. Having that network effect where you can come to Hana and you get a solution that works for you globally, that’ll be fit into different affiliate units potentially is something, I think you’ll see unfold over a period of time.
That’s really interesting. And I guess pricing will vary depending on the number of bells and whistles.
Andrew:
Absolutely. All that would be configured to what’s needed.
Is there a post-pandemic minimum viable standard of health and sanitary?
Andrew:
There’s two parts to this. There’s the operational things that we’re doing that we would standardize no matter what. Some examples, in the short term, access control for contact tracing, understanding who’s in the space and who’s not, cleaning standards.
I think what you’re getting at more is, what is the base building, what is the whole infrastructure we’re dealing with potentially? And that’s where we’re going to be very selective. We’re putting our brand and our reputation on the line. So, I don’t think you would view this as we would sign up anyone and just create a marketplace. This would very much be someone that emulates our standards. Much like a franchise system.
I had a chat a couple weeks ago with Brendan Wallace, the head of Fifth Wall Ventures. He said landlords in the future have to be more like micro mayors, which means they’re not only responsible for making sure the elevators go up and down, and the lights come on, but also for many other aspects of well-being. I’d love to get your thoughts on that.
Georgia:
We started to see some of that tendency even before COVID when landlords started to say, “In order to retract and retain the best tenants, I need to be thinking about how I position the building to attract and retain the talent they want to hire.” So, that is partially about appealing to well-being, but also about proximity and amenities and services and all of those things that make a building attractive to an individual that makes it attractive to an enterprise.
I’ve been super impressed by how everyone across the spectrum has really upped their game to figure out how we can create safe environments for people to be. When I speak to people around about going back to the office, I think there are two concerns that I would say actually rise above whether they’re safe in the building.
One is how they get to work. I take the bus to get to the office when I go into the city. So, I’m less concerned about what happens when I arrive in my office as I am about how I get from here to there safely.
The second one is, is it really worth it to go in this kind of intervening time when we’ve had to make so many concessions about how we operate and behave in the office in order to be safe?
So, when I go to the office, I go because I want to meet people in person. I go because I want to be part of the networking and water cooler talk. One of the things that I miss is talking to all the people who I don’t work with directly, but from whom I indirectly benefit because I have a quick conversation about a deal or a client or a new idea.
A lot of that is culture though, right? A lot of that is just evolution of tech and people adopting more. Working from home is never going to be as good, but the magic words are “good enough,” right?
Georgia:
I would respectfully disagree. I don’t think it is enough. I do think the kind of informal exchange of information and knowledge that is part of culture, not even so much the social aspect of it, as it is the kind of knowledge transfer by osmosis to some degree.
Let me put it to you in a more personal way. You have a son, the Minecraft-obsessed son, right?
Georgia:
I do.
Typically you wouldn’t worry about going to work and doing anything that could potentially endanger him in any way. Right? But this is now something that you may have to think about. Anyone with a family, anyone who lives with aged parents, or children, might be like, “You know what? I would love to go to the office. I miss my office. But I’ve got kids at home. I’ve got parents at home.”
Georgia:
In my view that is a moment in time concern. And that once we solve for the moment in time that my likelihood of going back, once I’ve minimized that risk, is high.
Andrew:
Small sample size because the world is pretty much still shutdown, but in our Southern California unit we have a large publicly traded company that has an engineering team of 70 people moving in. The deal was signed during the COVID period, and they’re ready to take occupancy when it’s safe. And they’ve been unwavering. When you peel the onion back, the engineering group needs to be together. There are things that just don’t work well for that organization. Others might be different.
Andrew, you came in from Zipcar, which was one of the pioneers in car sharing. Did what you learned in terms of mobility inform the way you guys designed the product at Hana?
Andrew:
Definitely. I’ll tell you the biggest overarching concept we kind of brought in and injected in the culture here. Zipcar was really about creating a portfolio of transportation. And so, as a former New Yorker, my day starts with a walk to the train about a half mile from my house. Take the train to Hoboken, take the ferry or the PATH, and then walk in the underpass at the Trade Center Complex through Brookfield and into my building.
If I want to go out throughout the day, I might take an Uber. I might grab a city bike. I might walk. I might take a taxi. So, at Zipcar, we would model this out to say, “How do we have the full transportation option for our members?” And strategically place Zip Cars within that footprint. Where would you want to have them to complete that last mile?
Not too dissimilar here, we view flex space and Hana as that portfolio of real estate options. Direct leasing is not going away. It’s going to have ebbs and flows, but the vast majority of portfolios will still be leased or owned. And then, there’s going to be everything else and we think that’s the huge opportunity that Hana is certainly chasing but the overall marketplace and how that manifests itself over the next decade is going to be really exciting.
Georgia:
We have tended to think about flex as, I either have a direct traditional lease or I have a flex space in a place. And actually, I think the way we think about it is that you may have a direct lease upstairs and you may leverage flex downstairs to ebb and flow through the course of a 15-year lease. It’s good for occupiers, and it’s also good for landlords in terms of the way they manage that building overall.
In the future, you can see, within even a single building, co-working space the way we traditionally thought about it, flex space for enterprise, direct leased space and some sort of amenitized lobby, roof deck, sky deck, whatever it is, that is about pulling all of that community together. But the idea that enterprises could actually always stay within a building and their needs would be met in some form or another is really attractive to enterprises and I think increasingly attractive to landlords.
I really love that. How is that informing office design?
Georgia:
In one of my previous lives I ran our workplace strategy team in the Americas for CBRE. And when any enterprise goes and gets ready to sign a new lease or renew a lease, the first question they have to answer is how much space they’re looking for. And how much space they’re looking for is always dictated by how many people they’re going to have. And no organization has a tremendous amount of visibility into how many people they’re going to have seven years from now.
And so, the way flex starts to be used at a very basic level is to say, “Okay, let’s plan for the space we know we’re going to need. And let’s leverage flex for the stuff that we don’t know, so that we are not spending the capital to build out twice as much space as we need when we move in next year.”
If you were to take it to the next level, we’d say, “All right, we know pretty much for certain that the vast majority of meetings happen between two and four people.” So, we’re going to build out in our traditional lease space and our 15 year lease space as all of the small meeting rooms and medium sized meeting rooms we need to function on a daily basis. But that big training room that we only use twice a week, we’re not going to build that out because there’s a Hana downstairs and we can book that when we need it, and not spend the money or the space to build it.
That’s part of why I thought your business is such a powerful proposition for tech companies, because of hypergrowth. Facebook at Vornado’s 770 Broadway is a great example. Where they came in, they took a floor, and within seven years they had seven times more space than they started with. But for the landlord it was crazy. Buying up someone else, kicking them out, taking that space, repositioning it, building out another space, holding some space for six months just in case Facebook grows again. It’s a complete nightmare.
Andrew:
We’re building a unit at National Landing, which is where Amazon HQ2 is going to be. And the developer JBG Smith, this was at the core of why they wanted to bring in a flex space partner. There’s going to be the ecosystem of all the different vendors that want to be around that environment. But then, there’s the tech companies themselves that are going to scale up and down, and they’re going to build their own assets on campus, and being able to be fungible with that evolution of the campus is really important.
The remote-work announcements by Big Tech, are they of concern to you as a company?
Georgia:
They’re not. Largely because I think there are going to be some companies that go that direction- there always have been. But I think what I’m hearing more often than remote-only or remote-first, is, remote as part of our strategy, not as our strategy. And that may allow us to reduce the density in which we occupy the space we have, because we’re going to leverage people working more flexibly or remotely.
Is this pandemic in the long run going to further accelerate demand for your business?
Andrew:
I think what you’re going to see is deep landlord partnerships emerge, not just those who have invested on the cap tables of certain companies. True partnerships, and that’s going to be the catalyst to truly get into this management-agreement phase. We’re going to get out of leasing, into a true operator model. And we see this turning into a hotel model, where there will be a proliferation of this, and Hana will be a big player. And that’s going to be a multi-year thing. This becomes 15 to 20 percent of how occupiers consume space.
Twenty percent of global office space demand would be through something like this?
Andrew:
When an occupier is thinking of their portfolio, having flexibility in some form within 15 to 20 percent [ of their footprint.]
There’s been a little bit of a misunderstanding out there about your growth plans for this year. So I wanted to give you an opportunity to give us a sense of where you’re at. Bob Sulentic [CBRE CEO] on the earnings call said that CBRE had spent $40 million on Hana in 2019. He had also mentioned that the rate of growth this year, I think you had planned 20 new spaces, he said it’s more likely going to be 10 as all this shakes out. Help me understand.
Andrew:
We’ve always been cycle aware. We launched in 2018. No one can deny this has been a 10-11 year bull run of commercial real estate. We didn’t plan a pandemic but we obviously understood there would be some correction at some point.
So, we feel good that we weren’t too exposed pre-COVID. Now we have a pretty massive pipeline of opportunities to go build new units. The question is, how quickly can you build them with the supply chain really being at a halt? So, a lot of what Bob’s comments were centered around were we’re going to physically open and have operating 10 units this year. That’s not an indication of where we’re going in 2021. But I’ll caveat all of that with, we’re not focused on going out and raising money. We’re not focused on any of that. We can turn the trigger to move as fast, or go as slow, as the market dictates.
Can you share how much investment [in Hana] is lined up for 2020? Do you have that number?
Andrew:
I’m not prepared right now to say it, but I will say one of the things we don’t really talk about is there’s a lot of infrastructure that we don’t count as cost. So, when you’re thinking about comparing to all these big VC-backed numbers of spend, just keep in mind that everything has to be built from the ground up, whereas our investment is truly in the product and in the people. And everything else is kind of a deferred cost so to speak.
I’m assuming you don’t have a private plane in which you can stash some weed and travel around the world.
Andrew:
I was going to see if we could borrow yours.
(Write to Hiten at hs@therealdeal.com. To check out more of The REInterview, a series of in-depth conversations with real estate leaders and newsmakers hosted by Hiten Samtani, click here.)