SAN FRANCISCO—Even as the economy slowly recovers, Bay Area businesses are still in a cost-cutting mode. As companies scrutinize the bottom-line, they typically pay special attention to commercial real estate, which continues to be their second greatest expense, after labor costs. That is according to Mike Michaels, a managing principal at Cresa San Jose. In this environment, with millions of dollars at stake, he says, many companies today aren’t satisfied with business as usual. “They’re looking ‘outside the box‘ to save money, reduce risk, and add value.”
Michaels tells GlobeSt.com that “When companies need a real estate service provider, conventional wisdom suggests they seek firms that will put their interests first. And, since the client-broker relationship is all about trust, conventional wisdom also suggests that companies insist on accountability, transparency, and full disclosure. But conventional wisdom doesn’t always prevail.”
GlobeSt.com: Which brokerage firms are best equipped to service the real estate portfolios of companies today?
Mike Michaels: To answer that question, it may be helpful to look at the two basic business models from which to choose: traditional or “dual agency” firms that represent both tenants and landlords, and firms that exclusively represent tenants.
In the case of dual agency firms, brokers have an allegiance—and a fiduciary responsibility—to the landlord, not the tenant, and they are expected to bring tenants to the landlord’s buildings. But of course, landlords and tenants have different agendas, as landlords try to secure the highest rates and yield the fewest concessions, while tenants seek the lowest rates and the most concessions. When the goals of landlords (and their brokers) are incompatible with the needs of the tenant, conflicts of interest may be inevitable.
The largest publically traded commercial real estate firms derive about three-quarters of their revenue from owners and investors and only one-quarter from tenants. So, traditional brokers typically try to maximize the terms of each transaction and fortify long-term relationships with landlords, knowing they may only deal with the tenant every five or seven years, or when leases expire.
GlobeSt.com: So, what about a tenant rep firm?
Michaels: In contrast, tenant rep firms are positioned to ensure objectivity and accountability throughout the transaction and beyond. They can push the landlord for better terms and not worry about compromising the landlord-client relationship. In fact, by focusing on going beyond the transaction itself and providing ongoing corporate services, these firms often serve as an extension of the company’s real estate department. Throughout the relationship, tenant rep firms serve just one master—the tenant.
GlobeSt.com: It seems like common sense that it’s not possible to fairly represent two masters at the same time, but it sounds like dual agency approach is still common practice.
Michaels: The roots of dual agency run deep:
- Commercial real estate brokerage was founded in the late 1800s to facilitate property owners in the sale and leasing of buildings and property management.
- These firms started to market their services not only to landlords but also to tenants; many relationships formed with landlords years ago have remained intact without critical examination.
- Within the last few decades, tenant-only firms emerged as companies began to recognize the need for exclusive representation. While tenant rep firms continue to gain market share, many traditional firms are well-entrenched.
However, despite the deep roots of traditional firms, the potential for conflicts, whether overt or covert, is still a concern.
GlobeSt.com: Can you provide our readers with a few examples of conflicts involving deals that may not be visible to tenants?
Michaels: Landlords may offer incentives and rewards to brokers who bring tenants to a particular building; they may also offer brokers additional listings in other buildings. In so doing, a broker may lose objectivity. In addition, listing brokers may be compromised if landlords want to keep tenants in their building or in another one of their listings even if the office isn’t in the tenant’s best interest.
Some firms representing landlords have a separate division that supposedly represents tenants; other firms say they integrate tenant representation within the larger group of landlord brokers. Either way, traditional firms still have a vested interest in putting landlord listings first.
Overall, dual agency brokers have always been beholden to landlords, either because the landlords are clients of their firms or they want to get future listings from these landlords.
GlobeSt.com: So, what is the conflict checklist. What can you do to prevent conflicts?
Michaels: Raise the issue of potential conflicts from the get-go; Ask for an account of all the brokerage firm’s relationships, listings, and asset/property management work with landlords; Ask for full disclosure from brokers, including the amount of fees or commissions landlords are paying them. Expect to be informed if the broker is offered bonuses or discounts; Be sure that your interests are protected in your lease in such matters as expansion, contraction, and termination rights as well as non-disturbance clauses in the event of new ownership; and carefully consider the bottom-line budget implications of your prospective firm and determine your greatest opportunities for savings.
Companies are advised to research the track record and recommendations of prospective commercial real estate firms. They should also consider the value of integrated services such as transaction management and project management.
GlobeSt.com: What advice would you say is most important at the end of the day to overcome the obstacle?
Michaels: At the end of the day, it’s clear that traditional real estate firms and tenant rep firms will continue to compete against each other on the same playing field—and competition in the marketplace is always good. At the same time, both sides should continue to respect each other and cooperate in a collegial manner.
What’s most important is the need for companies to ask the right questions, weigh the options, and select the firm that’s right for them. And it’s important that they perform their due diligence knowing that we work in a post-Sarbanes-Oxley world, where even the appearance of conflicts is not acceptable.
We aren’t suggesting that anyone should question the integrity of professionals on either side of this debate. Rather, it may be wise to question the business model…as well as the wisdom of conducting business as usual.