Buildings of the Future

Industry experts from Brandywine Realty Trust, PREIT Malls, Liberty Property Trust, NFI Industries, and WeWork all weigh in.

Over the last 10 years we have witnessed shifting patterns in the way we occupy and utilize commercial space. There has been a big shift in office, with less demand for traditional space. Recently designers have begun to speak about the future office as a “palette of places” to provide different work and meeting space all within a single office suite. Co-working has grown rapidly, no longer serving only individual entrepreneurs and start-ups but now expanding to Fortune 500 companies. E-commerce is having a huge impact on the retail and industrial markets simultaneously. Big box warehouse demand continues to fuel development and absorption while retail malls are scrambling to backfill or redevelop large blocks of vacant space.

We spoke with five local leading experts across the commercial real estate spectrum, responsible for investment and development decisions, to get their perspective on the future of commercial real estate in their specialty and to find out what they are anticipating over the next 10 years to ensure their future success.

Jerry Sweeney
President, CEO & Trustee
Brandywine Realty Trust

What do you see as the key disruptor(s) to the office market over the next 10 years?
Jerry Sweeney: The key disrupter is going to be the unknown impact of technology, followed closely by how technology impacts peoples’ lifestyles. The portability and power of technology has altered workstyles and lifestyles forever. We’re looking at office being a declining demand business which means people will be using less square feet per employee than they did 20 years ago. The reality is that it’s going to be very competitive, particularly with regard to older office stock, over the next 10 years.

We go through a process every quarter where we rank every one of our 250 properties. We look at a 5-10 year window of relative value appreciation. Anything that falls into the bottom 25% becomes either a sale candidate or a rehab candidate. Before we go to sell something, we ask ourselves “can we make this property work and meet the demands of what tenants are requiring now?”

How do you think people are going to use office space 10 years from now?
JS: You want to create a lot of optionality. Brandywine doesn’t build office space anymore. We create building envelopes with column-free floors, all state of the art systems, and as much glass as we can put in to make our energy model work. This creates as much optionality for the tenant as possible. We want to offer a tenant a floor plate that has a very low loss factor and with more fixtures than we’ve historically done, because if people are going to pack in at 8/1000 you don’t want to create a sports stadium environment.

It’s going to be very competitive, particularly with regard to older office stock over the next 10 years.

How will these changes impact the way companies lease space in the future?
JS: There’s going to be an increasing focus on shorter-term leases, which is actually okay. The issue for us is on the length of lease and how we recover our capital investment. But we’ve had a lot of companies looking to move into the city or they had flex requirements where they were prepared to pay a premium for the flexibility of having space in a downtown building. These tenants will typically sign longer leases. So we’re getting 10-12 year leases downtown versus 5-year leases in the suburbs. WeWork has done something smart – they’re selling services, not just space. Creating the sticky points is really smart.

Will driverless vehicles impact the way you do business?
JS: Driverless vehicles and ride sharing are major disrupters; they’re disrupters to car ownership. At Brandywine, we’re spending more time thinking about how much parking we need when we design a project. A big discussion is how to create the drop-off or pick up point for Lyft and Uber and determine how many parking spaces we need. We’re redesigning garages to be a flat plate with higher ceiling clearances so, at some point, we can convert them. But what a great social benefit we realize by having access to mobility without having to carry the fixed cost. I think it’s a game changer.

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Dave McLaughin
General Manager
WeWork – Eastern US & Canada

What does the co-working business model look like in 10 years?
Dave McLaughlin: You’re going to see co-working take a bigger piece of the overall pie. We’re seeing a tight connection between space/culture and talent acquisition/retention/growth. That connection is a big part of what we focus on. If we’re right, we’ll continue to see a paradigm shift in how companies think about their space in light of their growth strategies. We’re going to have more density within the space and often times the density and volume, like the size of the market, provides opportunities to try new things from a business model point of view.

Are you seeing an influx of new adopters to the co-working model outside of freelancers, start-ups, and entrepreneurs?
DM: The co-working model is definitely evolving. We’re seeing a greater variety of people coming to co-working and more large companies – both mid-market and enterprise companies. The new adopters are about 30% of our members. But this is happening at such a rapid rate, new sales are blending into the overall numbers very quickly.

If you look back 10 years on co-working, it was all small start ups and early stage venture. Now, there are companies at every stage of maturity. For instance, Microsoft is a member. You wouldn’t have seen Microsoft in a co-working space a few years ago.

We’re seeing a greater variety of people coming to coworking – both midmarket and enterprise companies.

What do you see as the key disruptor(s) to the co-working business model over the next 10 years?
DM: When you give people more flexibility, they might take advantage of that and you might have more turnover. We haven’t seen that thus far. In our view, the WeWork model is similar to what happened with cloud computing. It used to be you had to configure your own premise server installation and tie up a lot of capital, then design it for the maximum load they would ever need to carry. It was inefficient. Then along came cloud providers and suddenly you can stream everything from the cloud and pay for what you use. This provides extreme flexibility and gives your business agility at a time when the cycles of change are fast. That’s a little like what’s happening here from a space point of view.

How are you preparing current projects to ensure they are adaptable to future technology and customer requirements?
DM: We’re focused on thinking about how the future of work and the experience of how we work is going to evolve. We use the data from building information systems to refine our approach to how we build out the space and what sort of member facing technology we introduce. We want to contribute to the member experience and make it more seamless. So, technology is definitely going to play into what we do with the physical space as it evolves.

One of the things I’m so fascinated by about WeWork is we have about 165 buildings across 15 countries and are taking in about a half million square feet of space per month globally. We’re designing and producing our product across different floor plates and different cultural contexts. This gives us a lot of data points. The exciting part of this is we gain the ability to learn at a faster rate because each building becomes another set of data points that inform how we understand the opportunity and where to take it.

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Jeff Brown
President & Vice Chairman
NFI Industries

How are you preparing current and future initiatives to ensure they are adaptable to future technology and customer requirements?
Jeff Brown: NFI Industries is a developer and an operator, which lends itself to growing our customer relationships. We have begun offering single-point-of-contact services which encompass the full supply chain. Technology plays a different role here — one that enables our customers to have access to where their product is in the pipeline at any given time, from drayage, warehousing, domestic distribution and final mile delivery. This way they can make smart decisions about their inventory allotment and reduce their overall costs. We believe this is going to be a bigger business for us.

The ports are a key part of our business, as is world trade. From a port standpoint, industrial is key to Southern California because it’s the first port in the U.S. that gets trade from Asia. With our recent acquisition of Cal Cartage, based in Long Beach, California, NFI is expanding its geographic footprint so we can manage and transport those goods anywhere in the United States.

I expect an increase in industrial space demand because people are ordering more goods online and you have to be closer to your market. I recently saw an empty Lowe’s Store – huge parking lot, 30’ high ceilings – perfect for warehouse distribution. Repurposing big box retail that hasn’t been successful is certainly a natural fit. They’re strategically located and close to the rooftops (homes), and ideal for last mile delivery.

How will the changing demographics and preferences of the workforce impact the industrial space demand?
JB: As workforce demographics and preferences change, companies will need to continue prioritizing how to address what the workforce seeks from an employer. Attributes such as an aptitude for working with technology may lead to changes in facility designs, layouts, and footprints. For example, automation may allow tasks to be less physically demanding and companies will need a workforce that will be proficient in safely using the technology.

How will this impact a companies location choices and lead to changes in the type of future development (i.e. multi-level warehouses).
JB: Companies will need to evaluate the capital investment and potential impact on labor costs they would endure while getting closer to urban markets. Competition for employees will increase. With potential employees considering a company’s location, employee amenities, and sustainability efforts, employers will need to consider these to remain competitive.

Companies are re-evaluating their existing networks and looking for ways to reconfigure them to create the supply chain of the future.

Will driverless vehicles impact the way you and your customers do business?
JB: I’m not sure we will transition to driverless vehicles within 10 years due to regulatory and societal challenges, but this will have a huge impact on facility design and location decisions. Electric powered vehicles may be more prevalent than driverless. It costs much less to operate electric vs. diesel. As it stands now, you can’t use them in a long haul environment, but in the case where a truck starts and finishes its day in the same location, I see real opportunity delivering to local metro areas. There’s a huge upside to that. Tesla has a battery production factory in Nevada (Tesla Gigafactory) and five years from now I expect they’re going to continue to increase the life of a battery, so we will be exploring those options, absolutely.

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Joe Aristone
Executive Vice President

What do you see as the key disruptor(s) to the retail market over the next 10 years?
Joe Aristone: We’re in the internet phase (for retail) right now, and I think the impact of the internet on retail sales, to a certain extent – on bricks and mortar – has been overstated. The retail format is always evolving, as history has shown, and one particular format does not necessarily mean the death of the other. Fast forward to where we’ll be in the future? Retailers will become somewhat agnostic to property type; they’re gravitating towards the best locations in any particular trade area and it doesn’t necessarily matter whether it’s a mall or a lifestyle center. I expect it will be more about flight to quality.

One of the things that’s going to continue is that developers need to be focused on how to create an experience in their respective properties. We’re doing that and I think a lot of the other quality retail developers are doing that. Ten years ago, 8-10% of our portfolio was dedicated to food, beverage and entertainment. Now that number’s over 20% and will continue to move up.

How much more e-commerce demand do you see in coming years, and will this have a noticeable impact on the demand for retail space?
JA: You’re going to see continued growth of online retail —but I think what will continue to happen is you will see e-commerce retailers continue to blur the lines between internet and brick and mortar; it will be a balancing act. Multichannel is the best way for any retailer to win. Why did Amazon buy Whole Foods? Well, they saw a brick and mortar opportunity to interface with their consumers. I expect this trend to continue. Traditional retailers that have a strong online presence achieve the highest penetration with their consumer base. Online retailers continue to see value in a physical presence as well. From an economic perspective, it’s more efficient for them.

Maybe there will be fewer malls of a higher quality. That’s consistent with what we’re doing, focusing on the quality of our portfolio for the last five years. So, as we think about our footprint, in two core markets (Philadelphia and DC), we’re asking how do we trim our portfolio so we’re left with what I would categorize as a high-quality retail portfolio that is compelling to tenants.

E-commerce retailers continue to blur the lines between internet and brick and mortar; it will be a balancing act. Multichannel is the best way for any retailer to win.

Will driverless vehicles impact the way you and your customers do business?
JA: We’ve already seen an impact from vehicle drop-offs like Lyft and Uber. And we’re starting to think about how we engage the consumer as they come onto our property. That’s going to carry through to the driverless cars as well. To a certain extent it will mean less need for surface lot parking. We’ll see parking lots become densified and reused. In some of our properties now, we’re looking at adding residential and other mixed uses. The paradigm of traditional retail and use of our sites is being reinvented. We’re seeing an opportunity to add multiple uses as we enter a new paradigm. In terms of new development projects, we’ll continue to be focused on ways to better utilize the parking fields that get underutilized by lack of car traffic in the future.

One of the things we ‘re seeing that years ago you’d never think about having, is charging stations in our parking lots. But we are incorporating them now to accommodate electric vehicles.

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Bill Hankowsky
Liberty Property Trust

What do you see as the key disruptor(s) to the industrial market over the next 10 years?
Bill Hankowsky: Number one is e-commerce. It’s not that long ago it started with fulfillment centers – big million-square-footers – you’d get second-day delivery and that was incredible, then it became next day so these buildings had to get closer. Now it might be same day and the buildings have to be inside the metropolitan area.

Driverless vehicles are another big issue. There’s a convergence of technologies happening now. We could have electric trucks that are driverless. The way people think about transportation costs might be very different. Ten years from now I expect there will be high adoption. Some people think if you have a child today they will never take a driving lesson.

How are you preparing current development projects to ensure that they are adaptable to future technology and customer requirements?
BH: The way people use industrial buildings is more varied today. The result is to construct buildings that fit the requirements of a wider array of customers. A building with higher ceiling heights (up to 36’) allows users to put more traditional logistics operations in or rack it higher. For the same amount of square footage, you’ve picked up 12% more volume. You could also take that building and mezzanine it – make it two stories – within the 36’ and that’s how an e-commerce building would get laid out.

We’re providing more land per square foot of building to provide our customers with the flexibility to store trailers and provide parking for employees, depending on what they’re doing inside the building.

How much more e-commerce demand do you see in coming years, and will this have a noticeable impact on the demand for industrial space?
BH: The market share that e-commerce is taking of the pie is eating into historic demand – we all know that. But it’s still in the early innings. It’s conceivable in 10 years it could be 30-40% of all sales. These are not unfathomable numbers. E-commerce uses more square feet than traditional industrial customers since they don’t control their inventory. They have to have it all in-stock all the time, in every size, every color, so they can fulfill orders coming in 24/7.

Is the growth in last mile delivery operations due to direct to consumer fulfillment leading to a shift in strategy relative to new development or investment?
BH: Absolutely. When you think about next day or same day delivery in dense population areas, you need last mile. You’re not going to find a piece of land in a built-out metro anywhere. You need to find a redevelopment opportunity. Industrial developers today are not just in the development business, they’re in the redevelopment business.

What are the prospects for continued rental growth over the next 10 years?
BH: Demand has outstripped supply for 29 quarters of continuous positive net absorption of industrial space. That, of course, is the classic situation that allows rent growth. Fast forward 10 years: e-commerce keeps growing – so there’s demand; people want to get smarter about logistics and need new products, so there’s demand; the third more traditional piece is that the economy continues to grow. But, considering how hard it is to find sites that are last mile, have access to labor, and can get close to customers, that puts a constraint on supply. I assume demand will be driven by e-commerce, regardless of cycle. With some amount of logistic reconfiguration and cyclical economic demand against a backdrop of disciplined development, vacancies should stay in the single digits over the next 10 years and we should see rent growth.

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