The commercial office landscape is undergoing a seismic shift as the result of hybrid work. As such, the metrics for assessing a building’s performance must evolve from relying on traditional occupancy rates (% of an asset that is under a lease) toward developing a deeper understanding of how spaces are actually being utilized.
Property owners have always sought to maximize the value of their office assets, and building occupancy has always been a key metric in assessing asset value. However, the rise of complex and varied hybrid work models requires the focus to shift toward utilization metrics, which reflect the percentage of the leased space that tenants are actively using. A growing disconnect is occurring between landlords who are relying on occupancy to predict future demand and tenants who are realizing that they are paying for more space than they need or use.
As most tenants look to reduce their footprint as a way to cut costs, understanding space utilization as a leading indicator of demand is crucial for landlords when it comes to anticipating future occupancy as current leases turnover. By measuring how tenants use their leased spaces, landlords can make more accurate predictions about future demand, allowing them to align their offerings with tenants’ actual needs and thereby provide more valuable offerings. The market-wide shift toward prioritizing utilization metrics reflects the evolving nature of the CRE landscape, where flexibility, cost-effectiveness, and meeting tenants’ specific requirements have become increasingly important for property owners’ long-term success.
Out with the Old: Defining Occupancy
In the past, calculating tenants’ demand for office space was straightforward. The question simply asked how many square feet of office space does each tenant indicate they need to lease today, and what will their growth rate be going forward (indicating how much extra space they need to have a cushion for growth)? On the other side of the deal, tenants typically calculated their needs using a basic formula of square feet per person multiplied by headcount, while factoring in projected growth. Conventional office leases were often long-term, reflecting the stable and unchanging nature of the five-day, in-person work week.
While tracking occupancy and applying static market leasing assumptions (MLAs) has been a reliable framework for landlords in the past, the hybrid work paradigm requires a new approach. Landlords and property owners need more data and new analytical frameworks to understand how and when their tenants utilize space across their real estate offerings and what they will likely demand in the future as leasing decisions occur.
In with the New: Understanding Utilization
In flexible work models, tenant demand for office space fluctuates constantly. It can vary on a monthly, daily, or even hourly basis. As a result, tenants are relying on alternative methods to calculate their space requirements, aiming to cut costs and avoid paying for vacant or underutilized space. This shift in tenants’ thinking underscores the need for landlords to adjust their mindset as well, as issues faced by customers ultimately become their own.
Owners who rely solely on occupancy metrics will likely overestimate future demand. For example, suppose a landlord claims 90% occupancy, meaning 90% of their asset is currently leased. However, collective tenant utilization of their spaces is only 15%, meaning that only 15% of the leased space is actually being used. In that case, there is a major disconnect between the landlord’s perception of demand and the reality of tenant usage. To accurately forecast future demand and occupancy, owners need to shift their focus to utilization metrics by thinking of them as leading indicators that forecast future tenant decisions.
Utilization metrics provide valuable insight into how and when tenants utilize their leased space. By focusing on this data, landlords can better understand the types of activities conducted, productivity levels, and the purpose of different spaces. This knowledge enables owners to provide tenants with the appropriate space they need and align leasing decisions with actual usage, optimizing efficiency for both parties.
Commonly tracked utilization metrics include:
- Space utilization - how effectively a physical space is being utilized. This can include analysis of how different types of workspaces, like meeting rooms or collaboration spaces, are used and whether they meet their occupants’ needs.
- Time utilization - how effectively a space is utilized over a given time period. This can provide insight into activity throughout the week or throughout the day, highlighting peak and idle times, which can provide opportunities for scheduling optimization.
- Functional utilization - the alignment between the intended purpose of the space and the way it is being utilized. This can aid in understanding whether spaces are adequately accommodating collaboration, individual work, and the other needs of the occupants.
Looking Ahead
With the proliferation of complex hybrid work models, CRE office owners will come to realize that relying solely on occupancy rates is no longer sufficient for predicting future demand and optimizing office assets. On the other hand, tenants will seek to reduce their footprint and cut costs by paying only for the space they actively use. A shift toward utilization metrics is crucial to bridge this gap between landlords and tenants.
By understanding the true utilization of leased space, landlords can make more accurate predictions about future demand, avoid overestimating occupancy rates, and optimize their offerings to meet tenants’ actual needs. Achieving this mindset shift will ensure that buildings are not simply filled, but optimized to maximize cost-effectiveness, productivity, and tenant satisfaction.