19th February, 2020
In the wake of the WeWork debacle, those watching the co-working market have been wondering where the next phase of growth will come from. Could hotel-style management agreements be the answer?
The co-working and flex space industry has recently experienced a healthy uptick in awareness due to headline-grabbing operators like WeWork, whose story includes a failed IPO and a $9.5 billion bailout from SoftBank.
The result has been landlords becoming more educated about the co-working industry and its potential drawbacks.
This has paved the way for new types of flexible space management-style agreements, alleviating some of the risk from co-working startups while returning more in rental yields to landlords.
In this case, a management agreement is defined as an agreement made between the property owner and the management company, which could be a co-working startup.
These agreements will result in landlords taking on a greater share of risk and fitting out their asset with a flexible workspace. In return they receive greater share of revenue without having to deal in the detail of running a co-working operation.
While this is new to co-working, this type of agreement is common in the hotel industry, where many well-known chains don’t actually own the properties they operate in, but instead enter a management agreement with the landlord.
For instance, did you know Hilton own next to no hotels of their own? They used to own their hotels, but have shifted to management agreements, operating the hotels on behalf of their owners under their Hilton brand in exchange for a percentage of revenue fees.
And the timing couldn’t be better for this new type of agreement, as the flex space industry is gearing for more rapid growth. In fact, JLL has predicted that 30 percent of office space will be flexible by 2030, up from just five percent now.
Management-style agreements will be a big part of the future of co-working and flex space, due to the benefits to all stakeholders involved, including the community using the space.
Operators like flexible workspace, commercial real estate management and co-working companies all see this as a great opportunity to grow their portfolio of spaces without taking on more expensive leases and paying for fitouts. Therefore, they’re able to reduce risk while also increasing their company valuation.
Opening a co-working or flex space in a traditional way would meaning leasing the space from the landlord, putting up the money to design and fit the space out, and then re-renting out the space to co-working or flex tenants.
By winning management-style agreements, these operators would be able grow their portfolio of spaces and earn revenue without the costly leases attached.
Operators will generally bring in their own technology to help manage the space, but also connect people in the space to help build community.
The system therefore offers a valuable ‘network effect’ connecting people within the space, to other spaces as part of the landlord’s portfolio, and potentially the operators branded network of flexible workers.
These types of agreements are new and evolving, and will be need to be tailored for each landlord or occupier wanting to engage in flexible workspace.
It took the hotel industry 30 years to graduate from traditional leases to management deals.
While the flexible space industry is not as progressed as hotels in these types of agreements, this year will be an exciting one for more case studies to help develop trust and progress how these agreements should be structured.
The types of deals currently being structured have the operators earn a management fee and share revenue with the landlord after a certain point, instead of operators simply paying a lease and keeping any upside from re-renting space out.
Landlords will generally own the space and therefore put most of, or all, the capital required to fit out the space, while the revenue share they earn will help them pay back that investment as well as earning a potential premium on what they would normally expect under a traditional lease.
Depending on how much risk the landlord wants to share with their operator, and how much they want to feel like they are in a true partnership or joint venture, the revenue share will be adjusted to gear the operator towards being fully invested in the success of the space.
Many of these types of deals will be white-label offerings, meaning the landlord is likely to give naming rights of the building or space over to the operator.
There will be some landlords that see the significant value in the operator apply their brand to the space, as then they can benefit from leveraging the brand awareness, customer experience and network that comes with the operator’s brand – especially if they’re a premium player.
Operators that would be entertaining these types of deals will be your larger sized companies with a growing portfolio. They have the resources and infrastructure to propose a financially attractive business model, guide the design and build out process on behalf of the landlord. They would also have the capacity to train and manage on-site staff, as well as fill the space to an optimal occupancy level in order to generate revenue and therefore have the space succeed.
Rather than being very early-stage co-working startups, these operators are established brands looking to diversify their portfolio.
There may also be some activity from commercial real estate managers listening to their clients’ needs and providing a solution, whether it be end-to-end and in-house or through strategic partnerships with other operators.
There are global players in the market that have publicly announced that they’re winning management agreements and placing focus in this space.
New York-based Industrious raised another $80 million last August focused on strategic landlord partners and management-style agreements.
Knotel is another player with a current focus on London, they do a mix of lease and revenue share deals. Knotel manages the Twilio office in London and pitch landlords on the notion that they can bring in high-value global tenants like Microsoft into their buildings.
This activity is seen globally, but we’re just starting to see conversations happen here in Australasia around management-style agreements with landlords as well as occupiers wanting flex space.
Don’t be surprised if you see a few headlines in the coming months about these type of agreements in your backyard, as there is a healthy appetite from all parties to get more flexible workspaces up and running.