The information provided here is better than the far-reaching and biased reports I have read, while giving some real signals as to where the commercial property and capital markets are headed.

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This presentation is Copyright © 2010, Marcus & Millichap and is used for educational and editorial purposes.

This was shot while tooling down Interstate 40 between Flagstaff and Kingman, Arizona. It’s all part of a new feature for this blog entitled CRE Road Kill. Stay tuned for more CRE Road Kill.

The following “60 Minutes” interview is an amazing story from the inside of the mortgage securities industry and how experts made money creating a disaster and are now making money cleaning up the disaster. Imagine being paid to run your organization into the ground…watch it.

Watch CBS News Videos Online

The following video was shot on a recent drive to Phoenix and is the first of what I hope will be a regular feature entitled CRE Road Kill. In this installment, I am addressing what I call the Tenant Trough, what it is the problems it creates for owners. In Part 2 I will talk about solutions…stay tuned.

Merriam-Webster defines “trough” as follows:

• a long and narrow or shallow channel or depression (as between waves);
• the minimum point of a complete cycle of a periodic function;
• the low point in a business cycle

We are in a kind of real estate battle of the bulge. We have too much space (the bulge) and not enough users to quickly alleviate the bloat of vacancies. It is true, we have seen some spurts and sputters, which have caused some to optimistically think and even say, “the recession is over, we’re coming out of it.”

Everything I read, hear, view and all of my experiences at the street level are telling me the battle of the bulge is not over and the trick of trade for survivors is the ability to buy cash flow and to buy it now. Yes, you heard it correctly. Owners need to change their posture and assume a position of cash flow deal makers.

Before you write me off, think about it carefully. Owners have always been engaged in buying cash flow. CRE 101 is cash flow as the basis for property value. Owners have always traded space and rate for cash flow. Our problem is that we are in various stages of denial about the current cost we must pay to purchase cash flow.

As unemployment increases, consumer spending diminishes and for small and medium size investors such a climate can produce a lot of sleepless nights. As the current credit crunch begins to squeeze owner refinancing options and new lending diminishes to close to a 50 year low, we are once again going to have to buy the limited cash flow at discounted pricing in order to sustain our properties.

Let me give you an example of the battle of the bulge and the principle of buying cash flow. Let’s suppose a particular geographic market area has 1,000,000 square feet of total retail space with a current vacancy rate of 27%. Let’s introduce a tenant default rate of 12% per annum into the equation (not far off the current mark).

Finally, let’s assume a net absorption rate of 5% per annum, meaning we have 50,000 s.f. per year being leased. This equates to a sustained vacancy rate of 220,000 s.f. vacancy growing at 7% per year.

Furthermore, it means that we have less cash flow to buy, therefore the cost of the cash flow increases over time, i.e., owners pay more for each tenant’s cash flow in order to remain competitive. Bottom line, NOI drops and NOI is our commodity.

In a five-year market of the kind we are experiencing the numbers look like this:

• Year 1 end = 220,000 s.f. vacancy
• Year 2 end = 235,400 s.f. vacancy
• Year 3 end = 251,878 s.f. vacancy (we are now at 25% vacancy)
• Year 4 end = 269,509 s.f. vacancy
• Year 1 end = 288,375 s.f. vacancy

During this transition, which is exactly the type of transition we are currently experiencing, the cost for limited cash flow is increased due to the economic principle of supply and demand. We are leasing but not fast enough.

Owners ALWAYS buy cash flow, make no mistake about it. My point is that it is going to cost us more to buy the decreasing cash flow available from the decreasing tenant pool.

Fourteen dollar retail leases are becoming $10 or $11 dollar leases. We are paying $3 to $4 more per square foot to purchase the shrinking number of tenants. Tenants know this and they are not selling their cash flow easily. Like the game of golf, the lowest scores are winning.

The ugly side of this is the certanty of diminishing property values. It is a reality we are going to have to learn to live with for another 24-36 months. Those who wait too long to adjust their pricing and leasing models will certainly loose the battle for the limited tenant pool.

Now, some nearly 25 years hence, I truly do recognize the importance of “sorting” and the notion of elimination has become more and more a part of representing my commercial real estate clients effectively.

Of late, and driven by market conditions, there has emerged a new brand of bottom-feeding. It’s a concept I call “LOI Shopping” or, maybe “Networking the Deal” for better terms.

There is no doubt in my mind that this carp-like behavior among prospective tenants is a product of too much inventory and the desire of often marginal tenants to continue their vain attempts to shrink or even collapse the pricing envelope. Mind you, there is no orchestrated conspiracy here; just a glut of inventory and an every expanding population of weak tenants who think if they shake the tree hard enough fruit will fall to the ground.

Well, I am mad as hell and not going to take it anymore! I am implementing new measures to expose and terminate the pretenders…these fakes and would be tenant hypocrites who are representing themselves to my clients as so much more than they really are.

Although I am not ready to strap on a six shooter like Richard Boone did in “Have Gun Will Travel,” and ride into some western town on a mission of settling scores, I am ready for a serious revision of my qualifying language and the way I handle the “wanna be” candidate.

Sorting through Hypocrisy

Since we are using some Latin, let me throw in some Greek too. The work “hypocrite” is derived from the Greek noun “υποκριτής” meaning “one who wears two masks.” It’s the source of the theater icon that depicts “comedy and tragedy.”

I am ready to pull back a few masks and find out what is behind them. I’m ready for a lot less comedy, especially since no one is laughing. Then too, I am not especially fond of the tragedy angle either.

Masks don’t work well in the empirical world of commercial real estate. Masks are only suitable for the stage, where the emotions of an audience are supposed to be toyed with.

I’m going back to what Del Webb taught me as a highly skilled Sales Counselor…the principle of Terminatio Simulatio Velociter or, in plain English, TERMINATE THE PRETENDER QUICKLY.

You see, guys like Del Webb understood clearly the principled approach to professional representation. There are only two types of real estate investors or, in the case of Del E. Webb, home buyers; the ones that will and the ones that won’t…the ones that can and the ones that can’t…the ones that do and the ones that don’t.

Those that will are those than can and those that can are those that do. No mask, no pretense.

To the Webb organization, the deliberately implemented sorting process begins at the first business encounter (give name, get name, use name) and continues as an integral component of all the follows, culminating in securing loyalty, examination, agreement and execution.

For the foreseeable future, the market is going to continue to hammer us all, owners, tenants and brokers. Too many properties, too little time and too few truly qualified tenants and investors.

I’m going back to the principle of Terminatio Simulatio Velociter or, in plain English, TERMINATE THE PRETENDER QUICKLY.

Why?

Because many of the old models don’t work well in an increasingly collaborative world where people want to have a relationship and role in the creation of their investment outcomes, that’s why.

How is your property being marketed? How quickly can you turn the message and communicate change to thousands of people in a moment of time? These are huge questions for property owners.

In the marketing of your property are you running with the big dogs or licking with the pups? How can you break from the pack in 2010 and beyond enabling you to run with the big dogs?

Meet the Puppies Lickin’ and Playin’ on the Porch

When it comes to commercial real estate marketing, there are pups on the porch lickin’ and there are big dogs in the fields runnin’.

High failure rate marketing models such as cards, letters, complicated brochures, mindless spreadsheets that don’t cut-to-the-chase, ugly property signs and costly networking meetings are increasingly being replaced with lean and quick, impactful, attention-getting, direct and digital marketing models. Interactive, please.

In today’s commercial real estate marketing game slow is bad…speed is good; actually, speed is essential. In a competitive environment, slow is costly, while speed, agility and message delivery creates economic margins and a more responsive audience.

Big, old-line marketing is expensive, complicated and difficult to control, modify and monetize; the message is mostly, non-repetitive with a single impression that yields lower results. Message renewal is necessary for property owners, but old models make its delivery expensive and its recreation clunky and difficult.

A large factor in effective marketing is the ability or inability to edit our message on the fly…THIS IS HUGE IN TODAY’S FICKLE MARKET. Minutes and hours can make the difference in deal-making. Speed counts. Reaction time is money.

Break from the Pack…Lone Wolf Marketing

Ask yourself why Twitter, MySpace, YouTube, Craig’s List and Facebook have hundreds of millions of global viewers daily. Why do companies like Exxon, General Electric, Hollywood film makers, resorts, news networks and national retailers have Twitter accounts?

Why did candidate Barack Obama choose online, digital “speed marketing” as his primary message channel resulting in his raising more money than any candidate in history with the end game being his election as President? Uh, let me see…because it works? Why does it work?…uh, let me see…because, at the end of the day, people like it?

Lean, new straight-line marketing via hard-hitting and informational emails, digital brochures, property websites, video, blog content, RSS feeds and narrated PowerPoint presentations are, at the end of the day, a lower cost marketing approach per impression, editable and evolutionary and can deliver a higher and measurable result for property owners.

There are more reasons commercial property owners should take a careful, studied look at how they create, broadcast and control their message. Let’s start with “people” and how they currently gather information in general.

We’ve become tired of direct mail marketing…we don’t like to read all the crap that is thrown at us…we’d rather get the message first hand in a form we like and can access at any time, 24/7/365. In short, people want to control the marketing message they receive not have it shoveled upon them.

The old line “rapport” building is still valid…we are just going to have to build rapport faster and more effectively in order to succeed in the commercial real estate marketing game. We have to earn rapport faster than “power lunching” and meeting attendance.

Prospect rapport isn’t always fostered by eating with them, running around from place-to-place, engaging in never-ending phone tag or flying from airport to airport. I and owners earn prospect rapport by how well we communicate, the speed of our communication, its accuracy, style and ever changing content delivery.

Frequent, Fast, Evolving and Affordable

I’ve become the Chief Operating Officer for frequent, fast, affordable real estate communication models. Such models are easier than ever to create and their potential for audience and monetization are better than every. The upfront cost creates a digital magazine that can be edited constantly…example…look at this commercial real estate blog!

I am asking all of my substantial clients, i.e., those with multiple properties or large office complexes or retail centers to do the following, do it soon and to pay the freight now for a marketing infrastructure that will accelerate their communication and create a basis for an ever-changing property message:

• Create a Commercial Property Website (I can help)
• Communicate features, themes, and lifestyle benefits (I can help)
• Deploy video, podcasts and narrated presentations (I can help)
• Increase digital communication, links and downloads to gain audience (I can help)

We are entering a period of time when many properties are going to get drowned out in the ocean of similarity in the minds of a shrinking pool of prospects.

Owners who can attract users, separate them from the masses and hold their attention will be those who break from the pack. Owners who do not adopt new marketing methodologies will continue to see their properties languish, sadly.

Collaboration through real estate blogs and social media channels, coupled with powerful presentation marketing that attracts and hold eyeballs on your property is becoming the central marketing challenge for owners and, for that matter, commercial real estate brokers.

Remember this, the spreadsheet analysis means nothing if no one sees it. A great CAP rate doesn’t sell if the marketing fails to perform. In a market with increasing vacancies and volatility, sustained attention created with speed of message becomes paramount.

If you need a more effective marketing platform, consultation, an action plan, a property website or just some free advice…call or email me.

It is a competitive and nervous leasing market and therefore, it is wise for owners to abandon the “one-size-fits-all” approach to leasing.

Lease program development requires a careful examination of the prospective tenant’s business needs and qualifications. Whether the commercial real estate market is Prescott, Arizona, Tucson, Arizona or Phoenix, Arizona, presenting lease options to a prospective tenant can work well because options are non-threatening and they empower.

It is entirely possible that some leases can be optioned to the tenant where street rate is actually exceeded in years 4-5 of an initial term. In a market filled with vacancies and tenants seeking the best value in exchange for their commitment, it makes sense to offer optional leasing programs, which empower the tenant (let me give you a hint, they already have the power) to exercise the power of choice.

Vacancies are increasing and owners are competing for a limited number of truly qualified tenants. The option approach is another opportunity for economic performance. It will be some time before we can say to tenants, “The rate is the rate…” and have them sign off with little resistance.