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Big slowdown expected in coworking, flex office leasing

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Big slowdown expected in coworking, flex office leasing

SNL ImageKnotel's space for Milk Bar, a dessert and bakery chain, in New York
Source: Knotel

In the wake of The We Co.'s failed IPO attempt, industry players expected a significant dropoff in coworking and flexible office leasing, and fourth-quarter operating metrics will likely prove them right.

"Any deals that were on the table are being either totally dropped or they're being very heavily scrutinized," Julie Whelan, head of occupier research for the Americas at CBRE, said of prospective coworking and flex office leases. "It's going to take them longer to get to the finish line."

In an effort to compartmentalize the fallout from the WeWork Cos. Inc. drama, office market players and analysts are distinguishing flex space from coworking. Coworking is the hyper-short-term leasing model WeWork popularized that reaches the smallest tenants, including the two-person start-up or single user, while flex space is a somewhat longer-term model preferred by large corporations and other enterprise clients for piecemeal space solutions. Coworking may face greater late-cycle risk than the flex market, but both spheres will likely feel some near-term reverberations from WeWork's troubles, the industry sources said.

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Whelan said the fourth-quarter coworking and flex office leasing totals will be "significantly smaller" than third-quarter figures. She noted that the falloff is unlikely to have much impact on New York — the largest coworking and flex market globally — because the players in the space make up a relatively small share of the city's overall office market.

"There is a sentiment that they are still out there," Whelan said of coworking and flex office tenants. "It's just that the speed at which they're moving and the scrutiny they're getting before a lease is signed, and the types of leases they're even engaging with, are going to be very different than they've been in the quarters leading up to the end of Q3."

Andrea Chegut, a research scientist at the MIT Center for Real Estate, said she expects the market pause to continue for months, during which there will likely be a significant rebalancing of the power dynamic as newer, smaller coworking and flex market players take market share from WeWork. There is enough room for multiple players, she said.

"There are people hot on the heels of WeWork," she said in an interview. "It's not a business model that's not copy-able."

The coworking and flex office marketplace is more crowded than it was at the beginning of the decade. One of WeWork's chief competitors on longer-term leases with corporate tenants is Knotel, a flex office provider that has fashioned itself as a safer, steadier alternative to the freewheeling, free beer-and-ping-pong model that characterized WeWork's debut.

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In an interview, Eugene Lee, chief investment officer and global head of real estate at Knotel, described 2019 as a breakthrough year for the New York-headquartered company, which was founded in 2016. Knotel saw huge growth in the number and type of institutional tenants, as well as their square footage requirements, which could climb to 50,000 to 100,000 square feet on the high end. Lee estimated Knotel now does business with 20% of the Fortune 100 set, and he expects 2020 to be another growth year for the company, the new air of cautiousness in the market notwithstanding.

"The demand for our product far outweighs the existing supply, and so I would expect us to continue to grow — obviously thoughtfully," he said. "Not in a reckless way."

Knotel is gradually moving away from signing leases in office buildings and moving toward securing management agreements with building owners, effectively entrenching the company's position as the go-to for tenants' flex needs. The arrangement is also beneficial to building owners, insofar as it provides tenants with flex options without encumbering the space through lease contract provisions.

"What we've seen is that the largest companies in the world want some portion of their real estate to be flexible. They still want sparkling headquarters. But 10% of their business is growing and shrinking at any given time," Lee said. "At the same time, office building owners aren't accustomed to operating that way. ... You see more and more of these large companies saying to owners, 'Do I have the ability to flex in your building?'"

MIT's Chegut said the coworking and flex office business model is here to stay. She credited WeWork in particular for "the digitization of the office environment," for merging data analytics and the built environment in compelling new ways. And she applauded the company for its unique hiring practices that brought urban planners, conceptual architects, consumer data analytics and other peripheral disciplines into the fold of daily operations.

"WeWork may or may not be a 100-year company, or a 30-year company for that matter. But ... the notion of coworking ... will be played around with in the marketplace for time to come," she said.

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