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Unit Pricing: A Triple-Win Approach

For plenty of good reasons, I’ve not had kind words to say in this column concerning many landlord practices in today’s “take-it-or-leave-it” office market.

The many outright tenant abuses commonplace throughout the San Diego region have been so numerous and atrocious as to require several newspaper columns to expose and describe such actions. In all of the practices I’ve cited in recent months, it’s been the case that the “winner takes all” — the winner being, of course, the landlord. Without his own representation or other resources to level the playing field, the tenant is doomed to be the hapless victim over and over again.

There is hope, however, that those who own and lease office properties can begin to work together to find a common solution to at least one problem that has plagued tenants who need to lease additional space by taking vacant square footage next to their existing offices. Even tenant improvement contractors can benefit if landlords pave the way for the solution.

First, the problem: For small to medium office users, expanding into contiguous space is a vastly expensive and often prohibitive proposition. Typically, their space need is on a one-shot, no-repeat basis and does not involve a significant amount of square footage. These are factors that prohibit a tenant contractor from being able to sharpen his pencil, especially in a tight market when contractors are working around the clock.

In a landlord’s market, building owners typically have not “bellied up to the bar” in terms of paying a tenant improvement allowance that even begins to approach the actual cost. Tenants caught in this situation often feel as if they are a captive audience, forced to pay super-premium prices for building out or remodeling the additional space, or forgo the opportunity to expand because they can’t afford it, period.

Nobody should blame the tenant improvement contractor who’s in business to make a reasonable profit by responding to the market demand for major space build out and remodeling. Much of a contractor’s business success, however, depends on repeat business and an economy of scale that is achieved by doing jobs for large-space users. Small- and medium-space tenants who need improvements to relatively small areas every five years or so do not offer the contractor the ability to offer competitive prices for such work.

The logical solution, then, is to devise a way to offer smaller tenants a group discount through “unit pricing,” a concept that has been greatly under utilized in our local office market, but which needs to be revived.

Under the unit pricing approach, a building owner offers a tenant improvement contractor a contract to do an entire building or complex. Standards and prices are established in advance for the grade of carpeting, hardware and fixtures, doors, window coverings, the type of lighting to be used, and even the number of electrical outlets per a given area.

The contractor agrees to apply these standard materials, specifications and accompanying costs for all office spaces in the subject building. Because a significant amount of square footage and “repeat” business is involved, the contractor can sharpen his pencil and make the work for the small- and medium-space user more cost effective.

The result could easily allow a contractor to keep his “general conditions and profit” margin to closer to 15 percent rather than 20 percent and even higher when forced to contemplate small and less profitable jobs.

When all is said and done, the tenant wins through being able to obtain additional space more cost effectively, the contractor wins by obtaining a contract to do large-scale tenant improvements, and the landlord wins by being able to retain and grow good tenant customers. Indeed, unit pricing offers a triple win to all parties.

As keen an idea as this is, I must concede that the concept is a bit premature and even moot in the downtown San Diego market where the occupancy rate is so high and the likelihood of adjacent vacant space into which a tenant can expand is nil. However, there is potential for unit pricing in suburban office locations where contiguous space is more available. It would certainly be appropriate for unit pricing to become the norm in new office buildings coming on line in the near future.

Of course, I would be derelict if I didn’t exhort landlords to bring their contributions for tenant improvements more in line with what would be the unit pricing costs they negotiate. Tying their allowances closer to or at those costs would be sufficient incentive for the landlord to bargain aggressively with contractors for the lowest price for tenant improvement work.

I get goose bumps when I contemplate the notion of landlords actually going to bat for their tenants.

Jason Hughes is founder of Hughes Marino, an award-winning commercial real estate company with offices across the nation. A pioneer in the field of tenant representation, Jason has exclusively represented tenants and buyers for more than 30 years. Contact Jason at 1-844-662-6635 or jason@hughesmarino.com to learn more.



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