When most people hear the term “coworking” or “flexspace,” they think of backward hat wearing, tech-bros with an idea for the next Uber or Airbnb.  That’s the cliche image anyway.  The reality is far different.

So is co-working and flex space just a Millennial-inspired trend?  Or is there more to it?

Given the industry’s rapid growth, and a variety economy-wide shifts in how space is used and paid for in the last few years, it seems clear that shared and flexible working arrangements are the future of the industry.  Commercial property owners in Missoula, Bozeman and Kalispell would be wise to pay attention to this shift in the market.

Before we dig into why this shift is taking place, it’s important to note that long term leases will not disappear entirely.  Entities that desire permanence and marquis locations — accounting firms, law firms, etc — will continue to seek out long-term, high quality space.  Organizations requiring higher levels of confidentiality and security will also remain in the market for long term arrangements in their own demised spaces.

What this shift does mean, though, is that the profitability of commercial real estate investments will hinge more on its owner’s ability to deliver space as a service rather than space as an asset-liability combo. As a larger percentage of potential tenants grow reluctant to enter into long term leases, it will be the property owners who embrace the flex-space concept that outperform all others.

“What this shift does mean, though, is that the profitability of commercial real estate investments will hinge more on its owner’s ability to deliver space as a service rather than space as an asset-liability combo.”

Why is flex-space in demand? 3 Factors:

There are three main factors driving demand for coworking and flex-space in Missoula, Bozeman, Kalispell and around Montana.

1. Rise of the Gig-Economy.  As Intuit reports here, in 2020 it is estimated that up to 40% of workers will be on a contingent (non-permanent) basis.  These workers who are not tied to a particular company or geographic location, are prime users of flex space and coworking space.  In places like Missoula, Kalispell and Bozeman in particular, with their strong quality-of-life draw, remote working is especially attractive.  Larger businesses, too, are finding that their success is not tied so much to having an office in major metros like Manhattan, Chicago or San Francisco as it once was.  Hiring talent in smaller metros is becoming  increasingly common.  Placing that talent in flexible, turn-key work spaces without long-term lease commitments is emerging as a competitive advantage for a wide variety of software, tech and even traditional service businesses.  As this trend finds permanence over the next decade, demand for curated flex-spaces will grow rapidly.
2. Workplace preferences of Millennials.  It’s true that the Millennial workforce fits right in with co-working spaces.  By looking at their work environment as a part of a larger community context, the Millennial work force gravitates toward those arrangement that put them in close contact with people that share their values and their way of life.  Coworking spaces done right provide this exact environment of support, camaraderie, friendship and, perhaps best of all, expanded business opportunities via personal connection.  Cowork and flex spaces also appeal to Millennial demand for a variety of work settings– closed office for part of day, followed by a collaborative meeting, followed by working on their laptop on a common area couch or sharing lunch at a coffee bar.  Co-working spaces tend to be well-located, in walkable communities and with highly amenitized settings.  All of these are draws to the younger work force, though many Gen-Xers and baby boomers have come to appreciate these features of flex space as well.
3. FASB Lease Accounting Standard changes.   Talking accounting rules is about as entertaining as watching paint dry.  However, there’s no denying the impact of the recent lease accounting standard change adopted by the Financial Accounting Standards Board (FASB).  By requiring businesses, both public and private, to move leases from a footnote on a balance sheet to entries as both assets and liabilities, the FASB standard has caused a distinct shift in the commercial office space market.  Tenants have pushed  harder and harder for short term leases with more renewal options, which is an unpopular proposition with most landlords. The result has been an increased demand for flex-space arrangements by even the largest corporations in the country who are willing to trade increased $/sf costs for flexibility.  In essence, flex & coworking spaces allow tenants to turn their occupancy cost from a fixed into a variable one. More and more, space planners for tenant companies care more about cost per workstations than cost per square foot. Owners that can provide a scalable solution to this tenants are finding that they are able to command a disproportinately higher rent realized per square foot (even after accounting for addiitonal cost of running a flex space) than they would through traditional, long-term NNN leases.    In a rapidly changing competitive environment, that is a huge advantage for tenant companies.

What’s the Catch?

Landlords are understandably reluctant to trade a long-term, triple-net lease to a credit tenant for a hundred small or individual tenants on full-service, short term leases.  But, when properly managed, flex space arrangements typically operate at vacancy rates lower than traditionally leased buildings and return higher net operating income to owners.  It’s also important not to think of it as an either/or question.  Flex-space is best used as to augment a building by providing a range of options from a “hot-desk”, to individual offices, to team offices to 10,000sf of their own space on an NNN lease.

While the short-term nature of flex spaces may sound scary, consider this in contrast to other short-term commercial investment offerings such as apartments, self-storage and hospitality.  This method of leasing space experiences higher turnover, no doubt about it.  But, vacancy rates tend to be lower on apartments and self-storage than for office properties.  That is due largely to the fact that that lower lease length commitments do not translate into higher vacancy rates overall.  In fact, it’s usually the opposite, assuming you have the right marketing and management operations in place. Also, your risk is spread out over a wider tenant mix and less susceptible to big revenue shocks from a single tenant leaving.

Property owners will also like the fact that, after the initial buildout, flex space usually avoids the on-going TI issue that offices typically face.  Flex space users are after turn-key space and generally take their space as-is without the need for on-going tenant improvements and allowances.

Managing a more transient tenant population certainly can create management headaches. However, third party management companies such as SterlingCMG  offer flex-space management solutions that makes the process essentially hands-off for landlords.  Property owners receive the financial benefits of flex arrangements without the concern of dealing with 100 small tenants.  This is a potential solution for office or retail property owners with vacant space they can’t seem to fill,  or for those that just want to boost their returns.   Tenants with long-term leases in place that need to move into another building to grow also may find using a flex-space model a viable alternative to sub-leasing their space.

You’re invited to contact the Sterling Team to help solve your commercial space challenges.