U.S. firms have become very good at planning, designing and operating their plants, offices, and other corporate facilities for optimal results. But there are still many unrealized opportunities for capturing value over the lifetime of these resources. When business or industrial properties are no longer actively needed, for instance, some of them go on to new, productive uses. Some sit ignored in the marketplace, deteriorating, costing the owner taxes and upkeep and creating liabilities. The difference is foresight, and having it can make a big difference to a company’s bottom line, particularly where real estate is concerned.
Howard Hoffman (left) is a consultant with Fluor Corp., and
Jim Bruce (right) is a principal at the same company.
When a company is willing to turn a surplus piece of real estate into a going business concern, such as a revenue-producing property or a worthy investment, that property has tangible value. When an owner declines to have a take-charge attitude about unused or underused facilities, the property loses most or all of that value, prolongs the time before which it will again become productive property, and turns over its revenue-producing potential to somebody else. An old table sold at a yard sale and an antique sold by a reputable dealer may be exactly the same thing. In the former case, it is an unknown and unproven item, gotten rid of quickly, in the way causing the least inconvenience for its owner. The effort taken by a professional dealer to establish and document the item’s quality and value, and to lend his or her own credibility to these findings, usually results in a much higher sales price.
Many companies have not yet determined how to extract maximum value from certain corporate assets, particularly excess and surplus real estate. As facilities turn over — as they do with increasing frequency under current business conditions — they may become a source of revenue. Or they may become an albatross hung around the firm’s neck. The simplest example of this oversight is for a company to assume that unused property has little value, sell it at a discount just to get it off their books, then learn that the purchaser quickly re-sold it at a much higher price. Other opportunities also go unused, including those where a firm gets value from real estate while continuing to have the use of it.
Real estate and related fixed assets represent big money. A review of corporate 10-Q reports in the Hoover’s database shows that property, plant, and equipment, less accumulated depreciation, comprise a substantial part of many firms’ assets. This percentage ranges from 5 to 10 percent for business that are primarily white collar, to 30 and 40 percent for typical manufacturing firms, to well over 50 percent for some corporations in mining and other extractive fields.
This is not surprising. Neither is it news that most firms are pretty efficient users of space as long as it is actually used by the business. What is not always realized is that real estate has become an increasingly “liquid” asset. The rate at which companies add to and remove from their real estate pool has increased. New management techniques — “just-in-time,” “lean manufacturing” and other ways of doing more with less — are one reason companies want to reduce their corporate real estate and other fixed assets.
Another reason is that new technologies and business practices require totally different facilities from those of a few years ago. North America has about a quarter-million call centers, a type of operation that was hardly a glint in corporate planners’ eyes 25 years ago. Much manufacturing is now done in highly specialized plants only recently conceptualized. Internet-based retailing created the need for new fulfillment centers to distribute e-orders.
The booming economy, ironically, has also increased many companies’ rates of disposal of real estate. Some low-tech, low-skill activities simply do not fit well in the United States anymore – they are not cost-effective for the employer nor do they provide desirable work for the U.S. employee. Consequently, some business functions, both blue and white collar, have been relocated offshore to locations that serve the companies’ needs more economically and also provide employment more appropriate to local need.
The issue here is that the pool of excess and surplus real estate is increasing, yet many companies are confused and perhaps a little intimidated about what to do with it.
Reasons Companies Do Not Act
Why would companies choose not to extract the maximum value from property that is no longer needed for business functions? Given the volume of potentially attractive real estate that is sitting vacant or underutilized, this is a compelling question. Many possible causes pop into mind, but then do not stand up to deeper probing.
A common notion is that surplus or excess properties are usually those with serious problems — old, white elephant buildings, in poor physical condition, with environmental contamination and other obstacles to re-use. The fact is, however, that most facilities in that category have already been surplused; and most used properties now turning over are more modern. Today, it is more likely for a facility to be closed because it no longer fits into a firm’s corporate strategy than because it is worn out or has insurmountable physical flaws.
Bookkeeping practices can be a hindrance, leading managers to rationalize that a building being surplused is fully depreciated, thus it has no value and deserves no further attention.
There is a psychological aspect, too. A business facility being closed is seen as a failure, an embarrassment. Executives get accolades for starting a new operation, but nobody wins a prize for shutting one down. No good can come to a company closing a plant or office, one might think, so it is best to finish the dirty deed as fast as possible and catch the next train out of Dodge.
At times in recent history, this attitude might have had some justification. But now, it is like re-fighting the last war. There are plenty of managers still around who remember with great distress the plant closings in the 1960’s through the 1980’s. Cutbacks by North American industry put millions of good employees out on the street with little opportunity of finding new jobs and causing great personal difficulty and dislocation. A facility closing will always be distasteful in the minds of executives who went through that awful period.
The Importance of
Doing the Right Thing
But in the early 2000’s, things are different. We do not want to understate the social and community problems caused by shutting down a business activity. In general, however, the current robust economy, low unemployment rate and high demand for employees make closings a less traumatic event. Rarely is it beneficial to employees for the life of a non-performing business unit or facility to be prolonged artificially. Employees can do better in a productive business unit that offers more stability, advancement potential and opportunities for training in new fields. The company usually does the best for the most not when it struggles against economics, but when it accepts responsibility for necessary decisions like plant closings, lives up to its responsibilities to its employees and community and conscientiously manages the process by which the facilities are appropriately re-used to create new economic activity.
A common rationalization for inaction is the management view that adaptive re-use of real estate is just too far from the company’s core areas: “Our firm is in business to make widgets, not to invest in real estate.” The blunt answer to this argument is that your company had better be in business to make money, and neglecting an opportunity to do so is very dangerous. If adaptive re-use of real estate is not something you want to do yourself, then find somebody to do it for you.
In short, the real reason that excess properties are not more aggressively managed is the owner’s decision — active or passive — not to do so.
How Foresight Works
Following are two examples of creative uses of real estate resources.
First, a Los Angeles-based telecommunications firm with exciting proprietary technology but not much cash urgently needed to expand its research and development capabilities. Its existing R&D center was a lackluster 40,000-sq.-ft. (3,700-sq.-m.) structure with a few rough outbuildings on a 30-acre (12-ha.) site on the outskirts of the metro area. Only ten acres (4 ha.) were actually used for research activities; the rest was leased to a local farmer.
Additional corporate investment in R&D was vital for the firm to continue its growth. The immediately obvious funding approach was to sell the 20 surplus acres (8 ha.). Agricultural land in this region was going for about $150,000 an acre after sales expenses, so they could expect to clear around $3 million. But this was not enough to fund the R&D expansion.
In a “back to the drawing board” brainstorming session, managers explored problems, oppor-tunities and other issues. An apparent advantage they identified was that, while the property was rather dumpy and agricultural, it was in the path of urban development expanding out of Los Angeles. It was improbable, however, that this long-term promise could be utilized in a timely manner – the company would be out of business by the time its land increased in value on its own.
But management also realized that the company itself had the power to create a spark, a catalyst to increase the land’s value faster. Its R&D facility, properly reconfigured and upgraded, could be the anchor for a new mixed-use development on the 30 acres (12 ha.). If its research center could be sufficiently “classy,” it would stimulate other real estate activity.
The company created a plan showing how a ten-acre portion of the site could be developed for residential use and the remaining 20 – including their own research building – developed as a quality, high-tech business park. The plan and supporting research and documentation were professionally prepared. The company also handled the zoning, permitting, and initial market research. But it did not invest the first dollar in any capital improvements. Instead, it took the concept to investors and demonstrated to them this substantial and realistic opportunity.
The result was sale of the 10-acre (4-ha.) residential site for $255,000 per acre. The company also achieved the sale of the remaining 20 acres (8 ha.) for $350,000 per acre plus commitment by the new owner to upgrade their existing main research building at no cost, demolish the crude outbuildings, and build new R&D space to be leased to the telecommunications firm as part of a modern research center. This gave the original owner nearly $10 million in immediate cash plus a favorable lease on an attractive new R&D facility built to their specifications.
The second example involves a heavy manufacturing firm that owned an old plant in an urban area transitioning from industrial to commercial. Initial real estate analysis suggested that the facility’s 17 acres (7 ha.) of land was the only asset of value. The firm was prepared to sell the property for $175,000 per acre if agreement on liability and other issues could be reached. But a more thorough assessment showed that the building was, in fact, quite suitable for conversion into multi-tenant office and flex space that met a strong market demand for well-located but medium-cost space in this rapidly growing neighborhood. So, instead of being a liability doomed to destruction, the building ultimately added $2 million dollars to the price that the owner received.
A little creative thought on the front end of the facility-development process can yield tremendous benefits later. Admittedly, this luxury may be denied to some companies, where the need exists to get a new facility up and running on a very fast track. All is not lost, even when immediate pressures make it infeasible to think today about re-use of real estate in a decade or two or three. But here are some examples of how forethought paid big benefits:
A New York City company, needing to develop parking facilities for employees and drive-in clients, decided to construct a new parking garage. This decision appeared well justified by several studies. At this time, parking met the highest and best use for this neighborhood, a generally safe and stable, but lackluster commercial community some blocks away from the most rapidly growing parts of Manhattan.
Before building a conventional garage, however, management took a deep breath and looked at some bigger issues. There was evidence that the City’s economy was at the start of a long-term improvement. New office space was being built not far away, and while it had not yet reached this particular block, far-sighted observers could discern some expansion trends. So instead of building a typical parking deck, the company constructed one designed for even-tual conversion into offices. Its unique characteristics included higher ceilings, space for installation of heating and air conditioning, more elevator slots, and other features that would be useful when the garage was eventually converted to office space.
Certainly this was more expensive than a plain-vanilla garage. But in addition to long term potentials, the decision produced immediate benefits as well. For example, its higher ceilings gave the parking garage a more open and secure feeling and allowed better lighting and other niceties that attracted more users.
Of course, the real benefit came half a dozen years later, when the City’s robust economic growth generated demand for new office space in this neighborhood. The existing garage was successfully converted into an office building. The owner’s forethought saved money and time, minimized additional permitting requirements and made a statement about resource management that won the firm favorable publicity.
Two Reasons To Plan Ahead
Facility and real estate planning must be incorporated into the overall corporate strategy, for both its primary objective of supporting key business functions and its important but secon-dary objective of capturing value. Your company may choose to make its real estate part of its business plan. A firm best known for its fast food makes an enviable return by carefully selec-ting sites likely to inflate in value (often at major highway interchanges), building/operating a restaurant there, then at the right time selling the site to users such as hotels and large retailers. Most firms, however, are not in a business that allows making real estate investment such a deliberate, regularized element of their income stream. For them, the key is to be thoughtful, open-minded, clever, and appropriately opportunistic.
The authors absolutely do not suggest getting rid of or losing control of every property not used for a functional purpose at the moment. History abounds with sad examples of firms who were too hasty disposing of apparently unneeded facilities. For example, North American railroads abandoned about 40 percentof their mileage in the 1900’s, thinking it was no longer needed. This was so for lines that were clearly redundant or not supported by market potential. But the rail transport industry rebounded vigorously in the 1990’s and set new records for tonnage hauled (the previous record was set in the war emergency year of 1944). Many a railroad manager would love to have use of tracks and yards that had been abandoned. To add insult to injury, rail lines are now eagerly sought as routes for the expanding network of fiber optic cable, and provide their owners with attractive fees for this use.
And clearly, there is a wrong way to do the right thing. A company with a large underused agricultural experiment station noted that subdivisions were cropping up in the area, and decided to offer fifty of its acres for residential development. It did not realize that state law subjected the land to a huge increase in taxes the instant it was no longer legally agricultural.
Although there are experts in the field of adaptive real estate re-use, companies can do a great deal on their own. The authors hope that this article will encourage corporate real estate executives to think about new and creative opportunities for the facilities they work with every day. Opportunities may become evident from critically thinking about real estate.
