The commercial real estate industry is experiencing a shift towards flexibility as consumer demand for varying lease terms and turnkey spaces increases. However, many operators providing flexibility are facing challenges due to their foundational lease-based business model. This approach, while allowing for rapid scaling, has proven to be risky and capital-intensive, as seen in the cautionary tale of WeWork.
WeWork, a pioneer in flexible workspace solutions, relied on signing leases, outfitting spaces, and reselling them to consumers. This model made them highly leveraged and vulnerable to market fluctuations and poor real estate investments. The unpredictability of market conditions, such as economic downturns or regulatory changes, further adds to the risks associated with lease-based models, as seen in the struggles of firms in the short-term rental and corporate housing sectors during the early days of Covid.
Despite these challenges, the concept of flexible commercial real estate products has inspired new entrants into the market, facing similar hurdles related to capital intensity and risks. An alternative to the lease-based model is management agreements, where operators receive a fee for managing assets while owners take on real estate risks. This model allows for better weathering of economic downturns and external challenges, benefiting both operators and owners. Established companies like Marriott, Hilton, and Kimpton have successfully utilized management agreements to minimize lease risks and foster partnerships with real estate investors.
Looking towards the future, consumer preferences will continue to shape the market, highlighting the importance of innovative and profitable business models in the flexible commercial real estate sector. The lessons learned from the challenges faced by lease-based operating structures emphasize the need for capital-efficient approaches that prioritize profitability. As the industry evolves, there is potential for growth and success for operators who can adapt to the changing demands of consumers and markets.
