Commercial Real Estate

According to market experts the construction cost of 1 sqm of built-to-suit is about equal to five years’ worth of rental payments. Moreover, constantly increasing rental rates and market value means that built-to-suit is becoming an extremely financially attractive option for firms seeking new office areas.

Definition

Built-to-suit means that a building is intended not for the open market but for the investor’s own use and is built according to its specific requirements. “Generally built-to-suit projects are realized not by their owners but by appointed development firms who are familiar with all the latest trends and developments and have a strong track record of this type of construction,” says Vera Setskaya, vice president of GVA Sawyer.

Advantages

Building your own building is becoming ever more popular in the commercial real estate market. It is a cheaper solution than buying an already completed building. According to information provided by Cushman & Wakefield Stiles & Riabokobylko, built-to-suit offers a saving of 30-40%. GVA Sawyer comments that the construction cost per sqm is 1.5-2 times less than similar premises on the open market. Moreover firms can take advantage of construction loans to cover the initial investment.

Another factor that can prompt firms to opt for built-to-suit is the unavailability of suitable premises for rent. Usually firms that choose built-to-suit have very strict requirements in terms of infrastructure, engineering and location, etc. Future expansion is also taken into account during construction in the form of additional areas that can be rented out until they are required.

Disadvantages

One of the disadvantages of built-to-suit is that it can take a long time to find a buyer on the secondary market. It is not easy to locate a potential purchaser with the same specific requirements as the previous owner. There are several examples of built-to-suit projects experiencing poor demand in the Ural real estate market.

The ONAKO administrative building in Orenburg provides a good example of what can go wrong. Completed in 2002, ONAKO started the construction work but TNK-BP finished it after they became the owners of the Orenburg oil complex. They then decided to relocate the firm’s senior management to Buzuluk and the new building was no longer required. Following an unsuccessful attempt to sell it, TNK-BP was finally forced to situate its departments in the building.

Built-to-Suit Owners

Despite the obvious economic attractiveness of the built-to-suit option, the number of firms choosing this path is quite limited. Many firms opt instead to rent premises with the assistance of real estate professionals, leaving their senior management to focus on the business. Built-to-suit is also quite capital intensive. Typically it is undertaken by Russian heavy industry firms, large foreign corporations, the gas & oil companies and banks. In 2000 TransCreditBank built a class B office building in Yekaterinburg. The 8,000-sqm five-story building located in Zheleznodorozhny next to the Severny railway station and Uralskaya metro station is according to Jones Lang LaSalle fully occupied by the firm.

According to Penny Lane Realty in terms of the number of Russian and foreign firms choosing built-to-suit, the balance currently stands firmly in favor of Russian firms. For foreign firms cost is not the deciding factor but rather transparency. Given the lack of transparency in many construction projects foreign firms typically prefer to rent.

The Built-to-Suit Process

There is a common view in the commercial real estate market that regardless of how restricted a firm’s budget, built-to-suit projects always involve expensive state-of-the-art buildings. However specialists from Penny Lane Realty disagree with this, commenting that every built-to-suit project is developed in line with the firm’s specific aim – some firms seek solely to save money while others build costly smart buildings with a view to selling them in 5-10 years time. The type of building chosen depends upon how much the firm is willing to spend, the overall aim and the company’s profile, among other factors.

GVA Sawyer holds a somewhat differing view: “BTS buildings in Russia are really far higher in quality. They are built by professionals using the best materials. The buildings available on the open market are not always very high quality. However internationally there is not a large difference between the quality of buildings built for their owners or for lease.”

In most cases, real estate is not the main area of business of firms looking at built-to-suit, so they sometimes have difficulty defining precisely what they need. Consequently, the design and construction is undertaken by professional developers based upon the client’s requirements. At the start the client and developer work together to define the specific requirements as to location, outline, infrastructure and layout, etc. Then the developer starts to look for a possible site. Following this the developer formulates the budget for the project, which is then approved by the client and the architects create a design.

“At this point it is very important to take into account any planning permission restrictions – often site owners want to build 20-story buildings; however, it turns out that ten is the maximum number permitted. The architects should work alongside the real estate consultants, engineering and builders and together formulate the recommendations regarding the numbers of floors, ceiling heights, window dimensions and building service infrastructure, etc.,” comments Ms. Setskaya. Following the completion of the design phase construction starts in strict accordance with the agreed specifications. At completion the finished building is transferred to the client.

Some firms do go it alone. These include very large holding companies that have their own construction companies. Good examples are TNK-BP, Yukos and Gazprom, which have all completed built-to-suit projects. In 2001 Lukoil-Permnefteprodukt moved into their new 6,200-sqm office center in Perm located at Ulitsa Lenina 77 (source: Cushman & Wakefield Stiles & Riabokobylko).

Built-to-Suit Buildings

Built-to-suit buildings are equipped with a modern infrastructure including: ventilation and air conditioning, fire alarm and fire extinguishing systems and controlled access. “In the West ’smart’ elements have long been incorporated into new construction. In Russia however an urge to reduce the amount of initial investment is still being felt. Having said this, a number of factors like the increased cost of power, IT innovations and the reduced operating costs offered by smart buildings is resulting in strong growth in this market,” comments Ms. Setskaya. Construction firms often include extra areas for expansion that can be rented out until they are required.

For example, UralSib partially rents out its class B+ office building in Ufa located on Krupskaya Ulitsa. The same trend can be observed in the rental market with expanding companies renting out large areas and subletting small sections. In many built-to-suit buildings the management, maintenance and cleaning are carried out by external companies. However, there are still some owners who take on these tasks independently in to cut costs.

Cost & Payback

The cost of built-to-suit is currently estimated at between $1,200-1,800/sqm. This includes everything except the interior finishings, i.e., the land lease, construction pit, parking, engineering, construction materials and work, etc. Standard interior finishings start at $200/sqm and have no upper limit. If the building is shell&core then all that is required is the installation of plaster partitions, flooring and ventilation, so the total cost is likely to be from $200 to 300 per sqm. If more complex work is required, for example, interior design, then this increases to $400-600/sqm.

“The payback period for BTS projects is calculated in accordance with the cost of the loans or direct investment while also taking into account the rental and sales market for similar buildings,” says Ms. Setskaya.

Prospects for Built-to-suit

Market experts agree that today there are relatively few built-to-suit projects in the Ural region. This relates to a lack of transparency in the construction market and an absence of market tenders. Clearly, as the market becomes more transparent more companies will choose built-to-suit. A role will also be played in this by the economic stability of the country as whole. Many experts believe that in the future BTS will become widespread and experience strong demand from a wide range of clients.