1. Mid-Atlantic Commercial Realty
Superior Tenant Representation
Your “Real Estate Advisor” in the Traditional Brokerage Role
February 2010 Volume 2, Number 1
New Leases Renewals Relocations Expansions Exit Strategies Subleasing
Market Notes More Free Rent Leads to a Higher Rental Rate
 The 2009 year end Metro
Washington office vacancy rate
There are two primary reasons landlords offer so much free rent in a weak
increased to 13.8% from 11.2% at market. First, offering free rent allows the landlord to keep the rental rate and
2008 year end1.
 Northern Virginia increased to
property value artificially high. Higher revenues increase the property’s net
14.8% from 12.9% operating income and the value of the property, all other variables remaining
 Suburban Maryland increased
to 15.3% from 12.9% constant. Second, landlords need to lease space in a very weak and competitive
 Washington DC increased to market to attract new tenants while retaining existing ones.
11.7% from 7.8%
1. Source: Cassidy Turley
Higher Rental Rates
 2009 year end “asking” rental rates
are down between 3.0% and 5.0% Many of the office buildings in the DC area are owned by institutional investors
throughout the region from a year
ago while net effective rental rates who are focused on enhancing the value of their properties versus maximizing
(see article for definition) are down
10% to 20%. cash flow. These owners are required to internally value their properties
 Lack of overall tenant demand in quarterly and annually through a formal appraisal. Higher property values better
2010 is projected to continue
downward pressure on rental rates position the property for sale in future years.
and upward pressure on
concession packages as vacancies
rise in the region
Landlords project property value increases using the simple “back of the napkin”
 New vacant buildings opening
were the primary cause of valuation formula V = I ÷ R (V = Property Value. I = Net Operating Income. R =
increasing vacancy rates which
were partially offset by stronger 4th Capitalization Rate or “Cap Rate”). The Cap Rate is an individual investor’s
quarter 2009 leasing activity by the
Federal government and large required rate of return for an investment. As NOI increases and the Cap Rate
government contractors.
remains constant the property value increases.
 These two sectors are also
projected to be growth catalysts in
2010.
Many landlords analyze the value of a new lease or a renewal for a building on a
 Mid-Atlantic projects a slow and
bumpy crawl to an economic net effective basis. To simplify the analysis here we are not going to use the
recovery in 2010 and 2011 due to
the current lack of consumer and
discounted cash flow model and will exclude lease commissions. Let’s assume
business confidence and ongoing your company could negotiate a five year office lease with 5,000 square feet at
domestic and international debt
troubles and uncertainly. $30.00/SF with 3.0% annual escalations, a $25.00/SF tenant improvement
 Landlords are being more
allowance and three months free rent. The three months free rent equals
aggressive to renew leases as
rental rates on new leases decline. $1.50/SF per year over the five year lease term. Tenant improvements equal
Tenants are renewing 12 to 24
months ahead of lease expiration. $25.00/SF or $5.00/SF per year. The net effective rent is $23.50/SF ($30.00/SF
 Tenants should consider leasing - $1.50/SF - $5.00/SF). If no free rent is offered then the landlord would likely
from well capitalized and stable
owners to avoid the possibility of

2. losing their tenant improvement lease the space at a “minimum” of $28.50/SF ($23.50/SF + $5.00/SF) to achieve
allowance.
the same net effective rental rate.
You like your broker.
How do you really Over the five year term the escalated rental rates for the above “free rent” deal
know if your broker is and the “no free rent” deal are $33.77/SF and $32.08/SF, respectively. Using the
competent? valuation formula above, the property value will be higher for the “free rent” deal
 Has it been over one year since
your broker contacted you? than the “no free rent” deal because revenues and therefore NOI would be
 Your broker should be working projected to be higher after the three months free rent are burned off.
closely with you now as your real
estate advisor not just someone
who shows up to get a deal done,
collect a commission and move on. Competition
 Has your broker recently talked to The second reason landlords offer so much free rent in a soft market is very
you about strategies and options to
reduce leasing costs? simple. Overall, there are fewer tenants in the market looking for space with an
 Contact us to compare your abundance of options. Many tenants that would not necessarily relocate their
broker’s recommendations and
our recommendations for any of businesses may be attracted to a superior building at the same or lower rental
your leasing challenges.
rate which is referred to as a “flight to quality”. Tenants can negotiate high
 Ask us for a courtesy review of
your lease to identify any tenant improvement allowances, significant free rent or a combination of the two
weaknesses:
to either offset or pay for moving, cabling and furniture costs. Landlords may
 Recent deal terms: Rental rate,
free rent and tenant need to offer whatever level of free rent is necessary to be competitive and
improvements;
attract new tenants and retain existing ones. More importantly, landlords are
 Risks that should have been
mitigated; highly motivated to prevent their buildings from foreclosure. Tenants should be
 Rights that should have been negotiating several lease proposals simultaneously when either searching for
improved upon;
alternative locations or renewing a lease. Using one landlord’s proposal against
 Obligations that should never
have been agreed to; others is not a new negotiating tactic. This strategy creates opportunities for
 Non-rent related costs that
should be lower.
tenants to push landlords to be even more aggressive and competitive. Mid-
Atlantic Commercial Realty projects tenants will continue to have negotiating
Dana K. Weinberg leverage over landlords throughout 2010. Tenants are advised to explore
CEO & Founder
3745 Freehill Lane opportunities to reduce leasing costs even if the conclusion is to do nothing.
Fairfax, VA 22033
703.967.2771
dweinberg@midatlanticcr.com Combined Website & Blog:
http://www.midatlanticcommercialrealty.com
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