Other Lease TermsSubleasing and Assignment

Is Co-Working the Right Choice for Your Business? Office Space Alternatives for Tenants Today

Co-Working companies have been big consumers of office space over the past few years.  For example, WeWork is now the largest occupier of office space in NYC leasing 5.3 million square feet. Investors are pouring billions of dollars into these companies as recently reported by the Wall Street Journal  where SoftBank Group committed an additional $3 billion to WeWork which would boost its valuation to $45 billion.  In addition to traditional office buildings, underutilized retail space is taking advantage of the trend by re-purposing empty storefronts and suburban shopping malls into co-working spaces.  Even big box office supply giant, Staples, is getting in on the game, as it contemplates closing 70+ locations. Partnering with Workbar, they are creating co-working spaces within their store that will offer high-end work spaces, meeting rooms, private areas, printers and Wi-Fi along with networking opportunities.

While the sector may have excess supply, this way of working is here to stay because it provides: (1) Service, transforming the product of office space into a “service”; (2) Flexibility, given today’s fast changing business and product cycles; and (3) Community, fostered among sometimes complimentary businesses.  For these reasons, co-working is being adopted by many Fortune 500 companies and is no longer limited to start-ups.  In this post, I address the advantages and disadvantages of co-working and what other work space options are available to tenants as landlords have recognized this shift in tenant demand.

Co-Working 

It is important first to understand the legal structure underlying a co-working arrangement.  With co-working, the co-working operator signs a long-term lease as a tenant on a large space with the building owner, where the co-working operator constructs and fully furnishes the space. Unlike a sublease where a property interest is transferred, co-working agreements are typically licensing agreements (commonly referred to as “Office Service Agreements”) with the co-working user paying a premium over the direct rent under the lease between the co-working operator and the landlord. These agreements are analogous to gym memberships or an agreement for hotel accommodations. While co-working has been around for over 20 years with shared office providers and incubators that are industry specific, over the past several years it has expanded greatly being used by start-ups to Fortune 500 companies.  Like anything, it’s not a one-size fits all office space solution.  As many co-working companies offer daily trial memberships, you may want to take one for a test drive.  Also, as these co-working companies pay brokerage fees to your agent at no added cost to you, it behooves you to have your agent include co-working options in any search for office space.

Advantages Here’s what companies find appealing about co-working spaces:

  1. Flexibility – Unlike traditional leases which are typically at least 3 years and most often longer, co-working space agreements are 12 months or less.  This is particularly advantageous to new companies where they have little visibility on the growth of their business.  It also appeals to some established companies that require a satellite office where there may be changes.
  2. Speed – Move-in ready, fully furnished.
  3. Minimize Costs – As there are typically minimal security deposits, and they can avoid the costs of furniture, office construction and take advantage  of shared amenities (i.e., office equipment, conference rooms, kitchen, etc.) while being located in a desirable building.  This is also particularly important for new companies that want to keep their capital invested in their business.
  4. Amenities – Amenities commonly found in major tech firms in Silicon Valley are commonly incorporated into co-working spaces.
  5. Community/Networking – Symbiotic environment of complementary businesses, business networking, in-house seminars (i.e., “Lunch & Learn”).
  6. National/International Access – The larger co-working companies may offer access to co-working centers in other parts of the country and/or globally for those companies that travel often.

Disadvantages – Companies find the following trade-offs with co-working spaces:

  1. Higher Costs – The advantage of flexibility and a fully furnished space comes at a premium. Think of a hotel, while it has all of the conveniences, to reside there full time is expensive.  This is particularly evident when your business needs space for more than 10 or so employees, depending upon the market.
  2. How Much Space am I Getting? – Unlike a traditional office lease or sublease where the size of the space is a key term, in co-working arrangements, what is listed as a private office or work space is typically not defined in square feet. As co-working operators are looking to maximize the density of the overall space, most co-working private offices and work spaces are much smaller than what you’d typically find in a traditional or private office.  For example, I recently reviewed one co-working space where a 150 sf office was designed to house 5 people where the monthly cost was nearly 5 times the rent for direct space in the building.  While that includes use of shared amenities and areas, that remains a large premium.  For some businesses, the premium is worth it in terms of timing, flexibility and community.  In exploring co-working spaces, be sure you compare “apples to apples” by examining the size of the work space you’ll be working in.
  3. Distractions & Lack of Privacy and Security  – Relative to the dense nature of the space and co-habitating with other businesses, there is less privacy, which can be an issue for companies handing confidential information (i.e., lawyers). Security is also a concern that must be addressed as to data, physical assets as well as confidential documents. There are also the distractions caused by noise from others which can be amplified if the space was not built with acoustics in mind.  To create a sanctuary from the noise, “privacy pods” have been created which are in very high demand, with some co-workers waiting 30 minutes to use them to make a confidential phone call as was recently reported in The Wall Street Journal – “The Best Spot in the Office Is a Phone Booth – If You Can Get Into One” 
  4. Lack of Identity or Brand – In a shared space, there is a challenge to create your brand and identity in the space.
  5. Work Hours May be Limited – Particularly as a start-up, you’re working long hours; however, some co-working spaces have limited business hours (i.e., 8 am – 5 pm, weekdays).
  6. Little Room to Negotiate – Unlike an office lease or sublease, the co-working agreements are not very negotiable.  While they are short-term, you should carefully review them with your tenant adviser and attorney.  Be careful as some of these agreements have automatic renewal periods.

Subleases

Unlike co-working agreements, subleases involve a transfer of a property interest. It is important to note that a sublease is actually a 3-party agreement among landlord (master landlord), tenant (master tenant/sub-landlord) and subtenant.  As a middle ground, businesses should explore subleases which offer some of the advantages of co-working without some of the disadvantages.  Subleases, however, are not without their trade-offs.

Advantages – Here’s what companies find appealing about sublease spaces:

  1. Flexibility – Typically a sublease is a shorter term, however, there are some longer subleases in the market which will be similar to a direct lease.
  2. Speed – Commonly move-in ready and fully furnished.
  3. Lower Costs & Capital Expenditures – Many times subleases are furnished and fully constructed with minimal (if any) security deposit. Depending upon market conditions, rents are usually discounted from the rate under the prime lease between landlord and tenant.
  4. Create your Brand – As this is a company’s private space, you can create your own identity subject to the terms of the sublease which may require consent of the sub-landlord and/or master landlord.
  5. Privacy – Since you are not sharing space with other companies (unless the sub-landlord retains a portion of the space for its use), privacy is assured as is the lack of external distractions.
  6. 24/7 Access – As is typical in most office leases, if you need to burn the midnight oil, they can do so 24/7.

Disadvantages  Here are the challenges of subleases:

  1. Needle in a Haystack – The space may not align with all of a company’s space requirements, so you may need to be open-minded
  2.  Subordinate – No direct landlord relationship as subtenant is subordinate to master tenant. If master lease is terminated, then so is the sublease. See my blog post Subtenant’s Guide to a Great Deal.
  3. Lack of Community & Networking – Other than networking with fellow tenants in the building, there are fewer opportunities for internal networking; however, subtenants, in creating their own brand, are also creating their own sense of community.
  4. Lack of Amenities – Unless the building offers the amenities in its tenant lounge and building fitness center, you may not have access to the rich amenities found in co-working spaces which help in hiring and retaining employees. Note, in highly competitive office markets, landlords are in an “amenities arms race” – see my post Office Building Amenities Arms Race.
  5. 3-Party Dance – With the added layer of negotiating with the landlord to consent to the sublease, and with the landlord collecting rent from the existing tenant (sub-landlord), the landlord does not share the same level of motivation to finalize a deal, so it can become a slow 3-party dance

Direct Space – “Spec Suites”

In today’s competitive leasing environment and seeing the strong demand in co-working spaces, landlords are pre-building and furnishing offices (from small suites to full floors). These are commonly referred to as “Spec Suites”.

Advantages – It shares all of the advantages of subleasing; however, rents are not discounted and lease security is of greater importance.  Unlike subleasing, the company has a direct relationship with the landlord.

Disadvantages – Here are the challenges of a Direct Space Spec Suite:

  1. Cost – Rent is not discounted as you’d typically find with a sublease. Also, landlords will look for security for the lease in terms of a cash deposit, but more likely a letter of credit. See my post on what tenants should consider with letters of credit Tenant Lease Security Strategies.
  2. Longer Term – Landlords are typically looking for at least 3 – 5 years of term given their investment in the space.
  3. Limited Voice in Construction & Furnishing of Space – As landlords typically have plans and furnishings already specified to meet their budget, tenants typically have less latitude to make changes.
  4. Lack of Community & Networking – See above.
  5. Lack of Amenities – See above.

Direct Space – Build to Suit

This could range from re-using a previously occupied space to choosing a raw space that will require a complete build-out.

AdvantagesIt shares all of the advantages of Subleasing; however, as is the case with Direct Space Spec Suites, rents are not discounted and lease security deposit is of greater importance.  Unlike Spec Suites, the tenant can customize the space to suit its needs.

Disadvantages – it shares all of the disadvantages of Direct Spec Suites, excluding limitations on customizing the construction and furnishings of the space.

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