Hopefully. It's unclear what value commercial property landlords bring to the table. They don't finance the development - that is done by banks. They don't do repairs - at the commercial property I'm involved in the tenant has to do that. They don't fit out the shop - we had to do that, and we have to remove the fittings at the end of the tenancy. They aren't flexible - it's a virtually unbreakable 10 year lease, to move you have to find a replacement tenant.
Someone has got to take the risk of owning the property. Don't take it as some kind of moral imperative, I don't mean it that way. It's not inherently good or bad.
But simply put if a thing has value, people need to decide how to structure access to it. You can't get around having some entity that has the thing on its balance sheet, and that entity decides how to finance the maintenance of the thing. Do you pay in cash? Do you get a mortgage? Do you rent it to mom and pop, or some large corporation? What do you allow in the contracts?
These kinds of decisions have an effect on what the thing will be worth, and in the end there's a risk taker who gets rewarded or punished for doing it well or doing it badly.
You can roll the risk into some larger conglomerate that does other things like building the stuff in the first place, or a financial entity that has some financing advantage, or some entirely other thing that might make sense. But in the end, the risk is there somewhere in some entity and needs to be dealt with.
Isn't the bank taking the risk here? The story we're commenting on is about how commercial landlords have defaulted, passing the risk along to the bank.
This is why in a rational system they charge interest based on the risk.
And how many banks want to be property managers?
In my limited experience once a bank takes over a property they just want it off their books — on my house, which was banked owned, they just dumped it as soon as they found someone to buy it and judging by the county records lost at least $35k, probably even more after court costs and whatnot.
There's several levels of risk, and having separate entities is what allows us to segment it.
First, let's think of it like a layer cake. We can call them tranches as well.
The company that owns the buildings borrows money from the bank. They want to pay the loans back by managing the buildings in such a way that income from rents outweigh the interest on their mortgages, plus the admin costs of staff and other little stuff. The loans (and salaries) have to be paid from the incomes before anything else. The thing is though, the bottom layer, equity, takes anything beyond the obligations. So if you owe the bank 1M and the staff 500K, but the renters are paying you 10M, you get to keep the whole 8.5M profit. If the renters only pay you 1.5M, you get no profit but the bank and the staff are happy.
If you can't pay the bank, the bank will repossess the properties. Basically, the bank's loan is converted to equity. This also means the bank can lose money on the deal, because it's possible that even selling the building leaves them in the negative, for instance if it somehow becomes worth a lot less.
So actually both the owner of the building and the bank are taking related risks. The bank is taking a credit risk: they mainly only care that you can pay the loans back and that the collateral has reasonable value. The owner is taking an equity risk: they want to balloon the profits above the interest/admin expenses so they can get those dividends.
> If you can't pay the bank, the bank will repossess the properties. Basically, the bank's loan is converted to equity. This also means the bank can lose money on the deal, because it's possible that even selling the building leaves them in the negative, for instance if it somehow becomes worth a lot less.
This is absurd.
For the bank, because the bank is virtually guaranteed to lose money. The only reason "owners" can't pay the bank is that the lease prices have dropped (usually by a lot). If the lease prices have dropped, the value of the property has dropped, and if it can't be refinanced the value of the property has dropped below the capital owed.
So the bank gets the property, but only if that doesn't solve the problem of the money owed. In other words, this is a useless guarantee.
Furthermore, the owners will never pay back the loan. Rather they'll buy more properties. So this is like a lot of business loans: an effectively eternal ("interest-only") loan. Any bet that the market will never go down has a zero chance of being correct. And of course, as demonstrated yet again this will happen to a lot of properties at the same time, magnifying the losses. Why are banks allowed to make that bet?
For society, because the owners of the building don't contribute anything. They don't contribute capital, which is what defines ownership in capitalism. They don't contribute admin work (that's outsourced). The only thing they have is clout with the banks, sometimes city hall, built up trust, or "goodwill". In other words, they are in their position because of corruption.
Also for society because no owner will risk his personal wealth on something like a building. It will be packaged as a limited liability company. So when it goes bankrupt, the owner at most loses an income stream that was probably going 99% to interest payments anyway.
> But simply put if a thing has value, people need to decide how to structure access to it. You can't get around having some entity that has the thing on its balance sheet, and that entity decides how to finance the maintenance of the thing.
I mean, you can. The property system isn't the only way to structure access to rival goods; it's just the best way[1].
Of course, without an owner, the property is immediately subject to the tragedy of the commons which is almost always worse than even the worst landlords.
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1. For most things. Some stuff is... weird. I don't know a lot about water rights, but I've heard that's one of the least good areas of property law. And some things (ocean dwelling fish for example) can't really be property in a meaningful way.
> Of course, without an owner, the property is immediately subject to the tragedy of the commons which is almost always worse than even the worst landlords.
IIRC, the "tragedy of the commons" is basically a fiction, at least when it comes to things like the example literal plot of common grazing land. People aren't the stupid, pathologically self-centered and antisocial agents simple economics often assumes they are. If they're in a community, they work out systems to prevent overgrazing. IMHO, "tragedy of the commons" only really happens when no community can form and no community coordination can happen.
Fishing with overfishing and depletion of fish stock is an example of tragedy of the commons. Also it’s seen in BLM grazing lands when mismanaged by the BLM. It’s not a fiction.
> Fishing with overfishing and depletion of fish stock is an example of tragedy of the commons. Also it’s seen in BLM grazing lands when mismanaged by the BLM. It’s not a fiction.
I don't disagree, but I think the "tragedy of the commons" is overstated to imply that commons are always a failure (ultimately as propaganda for private-property-is-the-only-solution). I think, if you have a stable community using the resource that can take responsibility for it, it will manage it to avoid the tragedy. If no community can form (e.g. fishing in international waters) or one is prevented from forming (e.g. by some authority like the BLM asserting responsibility but failing to take it), that's when you'll get the tragedy.
A "building without an owner" is a case where I definitely could see a tragedy of the commons being avoided, so long as it has relatively stable set of tenants. It'd basically turn into a co-op.
Absolutely, I'm just saying this is what the rental company does in the modern economy. We have this world where we assign ownership to everything and let the owners decide what to do. Of course it could be different.
I’d agree with you but for the part where—at least in America—any substantial loss one of these landlords might take is bailed out or subsidized by some level of government, i.e., by the taxpayer.
For example, a local mall is teetering on the edge of bankruptcy, but not to fear: the township is in talks to purchase it at market value so as to not create an eyesore. Utter insanity.
They provide rentable office space for companies that need office space. What alternative are you suggesting? Companies build their own offices? Builders retain ownership and become landlords? The banks become landlords? Companies just don't have offices?
Sometimes companies do buy offices. But very often they don't, either because they don't want to or can't afford to. Sometimes they buy offices, then rent out space to other companies. Sometimes they sign long term leases, but then change their plans and sublease to others. It's not at all clear to me what people are arguing for here. Companies rent office space because they've judged it the best use of their resources. They aren't being victimized by some landlord class, they're making resource allocation choices.
What is your exposure then? I don't think I've ever worked at a place that had any interesting in owning the office building they were located in. Usually, they are only interested in part of a building, and they don't want the bother of renting out the rest. In fact, as I said elsewhere in this thread, I worked at a place that built and sold a building, then leased it back, because they specifically did not want to own the real estate. They preferred to have a building management company take on the risk, taxes, and mortgage burden and were willing to pay a bit more in order to have that outcome.
We'll see how far the whole working from home thing goes, but there are a number of types of business for which it is impractical (e.g. anything that requires expensive or bulky equipment) and many people prefer to work together in person. As for co-working spaces...co-working spaces I've seen have offered offices and suites in addition to shared space. I worked out of a private office in one for a while because I wanted to use my own equipment and didn't want to schlep it in and out every day. That same reasoning applies to larger companies.
Co-working spaces I'm thinking of are still ultimately rented from commercial landlords. I'm not talking about the workers paying for the use of a temporary desk. It's the "brandname" of the co-working space that is still paying a lease to the landlord. Maybe I'm misunderstanding what example you had in mind.
I'm aware that the big open office floorplans shared with 3 other companies is probably the only office environment that most HN'ers have worked in, but it's far from the norm. Most mature companies prefer to have actual private offices for their knowledge workers.
Have you considered the possibility that perhaps it makes sense to have certain businesses specialized in certain things?
Say there is a sale-leaseback agreement with a supermarket business. Clearly the supermarket wants to do it, right? It allows them to free up capital that would otherwise be allocated to owning the land, and they can use that capital to expand the business they are actually good at, operating supermarkets.
For the corporate that is now the landlord, the benefits are also clear, they get a steady stream of income.
Both businesses specialized in different things, so they have different costs of capital, time horizons and cashflow needs to it makes sense for them to both do business with each other and for both to exist.
But this is a totally inflexible 10 year lease with no value provided. It would literally be better to have a mortgage on the property for 10 years, because then at least we'd get part of our money back at the end. There would be almost no other difference, we'd still be calling the plumber and the shop fitter ourselves.
A long term lease is beneficial for the renter in many circumstances. They don't want to have the conditions of the lease renegotiated every year because moving a company is a lot more disruptive than moving to a new apartment. They also often don't even want to own the property. I worked a place that paid a builder to build them an office complex, sold it to a management company, then rented it back from them. Why? Because the company did not want to tie up all it's assets in a piece of real estate, and wanted to focus on their actual business.
> A long term lease is beneficial for the renter in many circumstances.
That really depends…
Take a well know British retailer (was either Debenhams or House of Fraser can't quite remember)
Until the 80/90s it owned most of it's stores but a PE company bought the retailer and split the property into a separate company which them leased the stores to the retailer on an ever increasing rent
The property company was then sold off for a good price as it had assets and a 'good' income stream
The retailer now unable to cope with the rent levels become unprofitable and eventually went bust
Obviously it makes sense for some companies and not for others, and so you see some buying real estate and others leasing. The point isn't that no company should ever own property, it's that it makes sense for many to rent.
Why do you think the supermarket wants to tie up a bunch of assets in some real estate for 10 years?
They're in the supermarket business not the real estate business.
Also, who loses here? This is a voluntary transaction between capable companies out to make a profit. If they both think it's a good idea, who are we to say it isn't?
Because it's financial engineering. You get to sell off the property, get a one time bonus, and next year paying the rent becomes somebody elses problem while you're sipping margaritas around your new swimming pool.
I'm confused. The company engineered the right to some office space, the landlord engineered a stable income to pay the mortgage, and the bank engineered a loan that pays them interest. Who has what problem? And who got a bonus and retired?
Land ownership is not free money. It usually involves taking on debt for purchase, then trying to recoup that money through rental. They take risk from the possibility that the land value will go down, they won't be able to service the debt, and they may have to sell at a loss. The service it provides is that it allows businesses to do business in a particular area without having to take out loans to buy land or buildings and incur those risks themselves. Businesses find that valuable.
I'm not saying there's no benefit whatsoever, but the benefit is not commensurate to the drawbacks these days.
If being a landlord were outlawed or made unprofitable by significant new taxes or whatever tomorrow, most businesses that rent today would relatively quickly be able to put together loans to buy the properties. Yes, starting a new business would require getting more capital together—but since this would be a change across the board for real estate, it's hard to imagine that banks would be unwilling to provide mortgages on such properties. It might mean that slightly fewer small businesses get started that already have very little chance of success, but honestly, we need to be solving those issues by different, more systemic, means anyway.
At some point we have to stop accepting this narrative that monopolists and other rentiers are doing us all a favor by "taking on the risk" of actually owning things, freeing us of that "burden" and graciously allowing us to pay them for the privilege of that freedom...forever.
> At some point we have to stop accepting this narrative that monopolists and other rentiers are doing us all a favor by "taking on the risk" of actually owning things, freeing us of that "burden" and graciously allowing us to pay them for the privilege of that freedom...forever.
Why? The setup you described seems strictly worse than the one we have now. Currently a business can, but does not have to, buy property. You propose a world where they must buy property, claim it will be OK because banks won't mind lending them more money, then put scare quotes around things instead of refute them. Why do you think there is no risk or complexities in buying and owning real estate?
Zoom out a little, and you see that in the current situation, we have companies buying up large amounts of property, then using that monopoly on physical space to extract rent (both literally and figuratively) from others in perpetuity, sometimes without having to do any additional work to justify that rent. While obviously not the sole contributor, it is a significant factor in the housing crisis in many parts of America right now.
Making this kind of landlord position either illegal or much less feasible (for instance, allow individuals to own one extra rental property, or something, if that kind of flexibility is determined to be beneficial, while barring companies from doing the same or anyone from owning larger numbers of non-owner-occupied properties) would have significant effects outside the direct relationship you are describing.
Housing for people and office space for corporations are very different issues. I agree that companies buying all the personal homes is problematic, mostly because people are not business entities, they live in communities and they have needs and desires beyond "this makes the most financial sense". I agree that some legislation might be enacted to curb the problem, although I suspect it would go away on its own if communities facilitated the process of building houses. Greatly increasing the housing supply would make buying large numbers of houses a bad investment.
The middleman in this case is completely necessary. Commercial real estate investors raise and take on the equity financing. Banks or other debt investors provide the more senior debt capital and take on much less risk (generally…)
On top of that they are choosing to default on loans to force negotiations on better terms for them. After they agreed to these loans with floating-rate with complete knowledge of the risks it entails.
It's just vulturing and rent-seeking to the extreme, if markets are efficient then they should just go under, they've bet on their risks vs rewards and lost.
The value they bring is unlike other vultures they’ve trained themselves to quietly take your money without incessant screeching. Otherwise, they’re rather pointless middlemen.
That would only be a true analogy if I rented a car for 10+ years. At that point, it would likely make more sense to buy. In fact, it often makes more sense to buy corporate real estate as well, however because these commercial landlords already own it and refuse to sell (or only will sell at a price far beyond the actual legitimate value of the property), businesses must either /build/ new real estate or lease, and building is far more expensive than buying due to the regulatory capture of zoning and permitting. It's a mere coincidence that major commercial landlords are good buddies with everyone at the zoning and planning office in $metro.
If you want to be honest, the service commercial landlords provide is managing zoning/permitting with the city by proxy, which is mostly a corrupt institution, so it's corruption management by proxy.
It would be a closer analogy, but analogies aren't true or false, they are more or less useful in making a point. As it happens, my analogy was not that useful because apparently many people didn't understand it. The point I was trying to make was that flexibility, cost and location are actual things of value being provided in both cases. The fact that the duration differs is no more germane to my point than that one of them is mobile and the other not. And in no wise does the consideration of when it becomes more prudent to buy a car bear on when it is prudent to buy a piece of property.
A strange thing to get hung up on. The purpose of rental is not to have someone to call to get things fixed, it's to avoid having to engage in the complex legal and financial considerations that come with property ownership. A company of any size is not going to have a problem hiring people to fix things. If they don't want to do that, they can rent spaces where those amenities are included. It's purely a matter of deciding how to manage the expenses.
You know someone owns the property, right? Someone like you and me. It’s in your S&P index, in your retirement fund, and in your corporate pension. The value you bring is maintaining the value for yourself.
Your interpretation is off. Any “asset” is valuable to own because what the owner chosen to do with it that creates value for others. In order to be valuable, you have to create value. You don’t get to trap people in your commercial real estate as prisoners and force them to pay you rent, as your net analogy implies.
Yes, some profiteering a-holes who brought nothing to the table just made up the rules for commercial property and everybody else: banks, developers, city halls, tenants, just played along for the sake of enriching said a-holes. /s
Just because you don't know what they do they must do nothing, right? And as this situation proves there's also no risk involved, right? How does a childish comment like this get to the top?
Right, so, let's do a little exercise. You've decided to start a business. Not necessarily a HN startup, but a business. Let's say you're going to do a little insurance franchise. You've scraped together the, I dunno, let me guess $50K for the franchise fees and you're all ready to go. You just need an office.
So, obviously, commercial real estate landlords are just greedy middlemen who provide no value, so, you can't even imagine a world where you'd rent office space, so you're going to acquire it on your own. Naturally, you don't have $300K to buy an office outright. So you seek a mortgage.
Oops! It turns out your experience of buying houses in a zero interest rate environment and loose credit doesn't apply to commercial real estate. Banks know (or knew, at least) they can liquidate houses relatively easily, though often still at a bit of a loss; commercial real estate is often significantly harder to liquidate, even in a good market (let's not think about how hard it may be in the next couple of years; I'm trying to be generic here, not specific to the current situation). So they're somewhat less excited about taking it as collateral, and they want much, much more from your company than you're used to providing for a house-type purchase.
Unfortunately, your business is three weeks old, has no current cash (or what cash there is you need to dedicate to acquiring customers, and you've got precious little of that), and has no positive cash flow it can demonstrate while it can easily demonstrate the negative cash flow of expenses. The bank says no.
So, this is HN so of course we're going to financially hustle. You decide to sell equity in your little business to get the $300K to purchase something outright. Unfortunately, at the present time, a polite and gracious valuation of your business ranges from between $0, and maybe $30K at the top end (a discounted acknowledgement of the franchise you bought), so nobody is going to provide you the money to buy a building outright.
So in the end, it turns out you wasted $50K on your franchise fee because you can't actually buy an office.
Oh, if only there was some business you could patronize that would be able to own a commercial building, even if it just had a track record with a bank so it could get loans to own things, and was willing to rent the space out to you and take on the risk that you might disappear so they may have an empty building for a while that they're still paying on. Fortunately, in this enlightened thought experiment country, the populace rose up and declared they are all scum sucking parasites and banned them, so instead of your business having some money extracted from it for an office, it just went out of business instead. What a close call!
As you scale up, the story shifts some. Larger and older businesses have a better track record with a bank, but, on the other hand, also the business acumen to know that owning buildings is not always their core business, core competency, or something they want to spend lots of money on.
This doesn't mean all commercial landlords are good by any means. In fact if you're reading this as a moralistic tale you've missed the point. It's a story about business. Many of the businesses you see driving down the road couldn't exist, or couldn't have started, if there was a barrier placed in front of them where they had to own a building to get started, just as it would be very difficult for anyone to find a place to live if they had to jump straight to owning a house as their only housing option, and especially if they had to own a house the instant they started their economic life, before they even had a job, and nobody was willing to loan to them.
If you, as a business, don't want a landlord, by all means buy your own building. But by the time your business gets to the size where that's an option, you'll also understand why it's very likely not what you want to be doing with your capital.
For what it’s worth, this is not nearly as large a thing as residential real estate circa 2008. Even under some pretty harsh assumptions about default and recovery rates in office and retail real estate, the losses are surprisingly modest. Biggest holders are the regional commercial banks and life insurance companies.
I've read that the challenge with a lot of these conversion projects is plumbing. They only have pipes going up certain areas, and apparently that makes it pretty expensive to get a kitchen and bathroom in every unit when you convert it to apartments.
Also for many office buildings, the lease span (the distance from the core of the building to the exterior) is much longer than that of a residential building. This means that your ratio of window to floor area is smaller than you'd want for a residence--you either have very long, narrow, awkward bedrooms, or a lot of unused space toward the interior of the building. You can't have a bedroom without a window.
There have been some efforts in NYC to explore allowing "bedrooms" that don't have windows, probably because there's interest in making use of some of these spaces in this fashion.
When old rust belt factories got converted to residential, they often kept the old floor plan, and made huge luxury lofts out of them.
I imagine there is a big market for 10,000 sq ft single room apartments with glass on four sides and hookups for a restroom+kitchen (or 2 x 5000 sq ft, 4x1250, etc).
Of course those factories were sold at firesale prices. For commercial high-rises, to get a nice outcome like that, they’d need to sell the building off a floor at a time.
Hopefully that will happen this time. Let the new residents figure out what to do with each floor.
The result would probably be incredibly nice, but too quirky for a typical flipper to put in.
(1) It might be expensive to add a lot of extra plumbing, but is it really more expensive than the revenue your building isn't generating as office space? (I imagine this will vary a lot from one building and owner to the next).
(2) It's possible to have housing with shared bathrooms and kitchens. HN commenters sometimes ask "Yeah, but who wants to live in a place with a shared bathroom?" The answer: someone whose current housing is even worse, or nonexistent. Sleeping in a clean, safe bedroom with a door that locks but having to go down the hall to pee is a big improvement over sleeping on the street.
These points are well said. It is easy to create a set of private but shared bathrooms around the existing plumbing blocks .. It could also let people have downtown apartments for 1/3 cost with a potentially great view .. We really need to do a better job of reimagining things into new and different things when the old is no longer wanted; don't get me started on malls...
>>It's possible to have housing with shared bathrooms and kitchens.
not with current zoning laws... and good look changing them. never gonna happen.
>> Sleeping in a clean, safe bedroom but having to go down the hall to pee is a big improvement over sleeping on the street.
Now you are talking about people that likely have no money, and thus your profitability is out the window. There is a reason why most new housing in large cities are "luxury" and not "affordable"... Affordable housing does not make money
> It's possible to have housing with shared bathrooms and kitchens
This used to be very popular 100 years ago. You could rent a room in a “boarding house” with shared bath and kitchen. I don’t know why that model failed and no longer exists.
I haven't been in SF in many years, but at least 15 years ago there were still loads of SRO (single-room occupancy) hotels that people lived in long-term. Typically you'd get a private room with a sink, a block of bathrooms per floor, and no kitchen facilities. Some of these hotels were straight-up crackhouses, but others were clean and peaceful places for people with very little money to live.
Not to challenge your comment, but we have been converting office high-rises into apartments all over Detroit seemingly quite successfully and tastefully - with buildings built in the 1920s no less.
It is hard to generalize, but I would be willing to bet that it is cheaper to convert more modern, recently built or still under-construction office high-rises.
> It is hard to generalize, but I would be willing to bet that it is cheaper to convert more modern, recently built or still under-construction office high-rises.
No, it's harder.
As anyone who has visited a doctor's office or somesuch in an older office building knows, they tend to be already divided up into smaller, discrete spaces off hallways, like apartments, and often have individual plumbing into each space. Modern office buildings with big, open floors aren't like that.
I believe that the Kales Building did not as well.
It is certainly not clear to me that, in many of these Detroit conversations, that just because the space was divided into discrete, smaller spaces that plumbing was run to them.
Do you work for a landlord? Otherwise, the incentives here are the opposite. If landlords are defaulting, its because companies are getting rid of their office space. They are doing so because its expensive to rent office space; WFH is cheaper for employers.
I believe you've missed the parent's point: the push for return to office is motivated by the desire to save industries that are no longer in demand, like office space.
I suppose that is possible. I think it's more likely that the company leaders genuinely believe RTO is beneficial for their companies, than that they're doing favors for the people they pay rent to to the detriment of their own company.
I've never understood exceptionalism beliefs in the executive class. Some common ones are greater productivity over 40 hrs of working, open offices, layoffs ...
Anyone know why these ideas persist despite mounting evidence? During lockdowns it was really non-PC / unpopular to be "against the science/data" but for some reason its tolerable in business?
> Anyone know why these ideas persist despite mounting evidence?
Your comment is a bit too abstract for me to reply concretely to, but my guess is a combination of the evidence being less compelling than you think it is, and confirmation bias on the part of company leaders.
I believe you missed my point. Why does your company, who is making the WFH / no WFH decision, care at all about subsidizing the office space industry? It makes no sense.
I know of a startup that is incubated at an accelerator, and the only reason they had to be at the workplace was because they may lose seats if not occupied.
Someone has to keep the matrix pods and hamster wheels in business. I for one welcome our human body warehousing overlords and hope to keep them solvent.
$92 billion? Kinda reminds me of another country with a real estate bubble a short while ago. Wonder what will happen to all these Ponzi schemes all over the world in the coming depressed climate.
The whole office building kind of thing is indeed looking a little more dated with every passing year but I guess I'm missing the Ponzi scheme aspect of it.
The value of commercial real estate dictates, at least in NYC, how much tax revenue can be collected. This could be a major blow to state budgets (which can be good I guess if it forces states to reduce wasteful spending)
I thought it was the other way around: states/municipalities made their budgets and spread the property tax liability around according to the property value in proportion to the sum total value of all property.
So, if all property values went down by the same percent, taxes would stay the same.
The only downside I can see are restaurants/shops that work with those office employees. Some might not survive. In fact, even if offices are converted 100% into housing, the turnover of people is gonna be smaller. Anyway, rent should also decrease for those after a bit.
That's a good point, but then, it's not as if these businesses are going to benefit from buildings standing empty either. Also, the hypothetical future residents of these buildings are going to need somewhere to get their food, toiletries, etc.
