A 1993 report on hidden corporate occupancy costs published in the Harvard Business Review reflects a sentiment that’s still true today: Executives tasked with managing the corporate real estate portfolio often falsely believe they are limited and can’t significantly impact their business’s overall occupancy cost.
“Executives may not believe that they can have much impact on the ‘bricks and mortar’ of their cost structure,” Mahlon Apgar, IV writes in the HBR report. “They may also think, even as they strive to improve profits in other aspects of the business, that occupancy costs are either too insignificant to worry about, too technical to analyze, or too fixed to control.”
True, saving $300 a month on lawn care is probably insignificant within your overall corporate cost strategy, and getting into the weeds on the finer points of corporate occupancy may not be the best use of your time. However, there’s still plenty you can do to gain greater control over your occupancy costs, and it doesn’t need to be time-consuming.
Managing The Cost Of Occupancy
“To manage occupancy costs, one must be able to identify their components, measure their impact, understand what drives them, and develop options to change them,” the Harvard Business Review article explains. “All costs related to procuring, building, operating, renovating, and ultimately disposing of space must be considered.”
It’s a mistake to treat occupancy cost as just another fixed-cost line item. When the Harvard Business Review article notes that all costs must be considered, commercial property taxes are at the top of the list, as they’re the most overlooked of all manageable occupancy costs.
Commercial property taxes are the largest cost — more than 40 percent — of your total corporate tax liability. If you’re not actively managing your commercial property taxes, you’re leaving money on the table. On average, most commercial property portfolios could see a 31 percent reduction in property taxes paid as the result of a successful appeal.
Uncovering Hidden Costs Through Due Diligence
Corporate real estate executives are doing more due diligence than in the past. In one scenario, a components manufacturer in the market to expand its operations was debating between two buildings, one in Indiana and another in Kentucky. All things being equal, the decision boiled down to property taxes.
In this case, the buyer considered Indiana (which has a Freeport exemption for inventory) and Kentucky (which does not). A move to Kentucky would have resulted in a tremendous property tax bill on taxable inventory and driven the occupancy cost far above the company’s targets. Too often, businesses don’t do enough due diligence on commercial property taxes before a CRE acquisition.
You should also confirm that the local taxing jurisdiction has any potential acquisitions properly classified. For example, one taxing authority in Texas classified (and taxed) a commercial asset as a large R&D facility, when in reality it was predominately office space with a small R&D lab. The property taxes levied on Texas office space are notably less than on R&D facilities; if this error had not been caught during the due diligence process, the company could have paid far more than its fair share of commercial property taxes.
Leverage the due diligence process to your favor. Start by negotiating enough time to handle all necessary research up front. Don’t guess that you need 6,000 square feet of office space; do the math, conduct a utilization study and determine how much space is truly necessary. It’s always easier to lease less space up front than it is to negotiate lower rent later on.
In Part 2 of this post we’ll cover more aspects of a CRE acquisition that affect occupancy cost and highly impact what you can do to manage them.
Discover Overlooked Opportunities For Reducing Occupancy Costs
FREE WHITEPAPER: 4 Tips For Managing Occupancy Costs During A Corporate Real Estate Expansion