Nearly 20 years ago I proposed that the U.S. Census Bureau conduct a Census of Non-Residential Real Estate by adding a couple of questions to the economic censuses, which are taken every five years. The way it conducts a Census of Housing by adding a few questions to its Census of Population and related surveys. The proposal got as far as a test survey, but was ultimately turned down for budgetary and “respondent burden” reasons. Bothering businesses in the deregulatory era was considered a crime, and subsequent requests five and ten years later also failed. While I was spending twenty years getting paid to accomplish nothing in the public sector, meanwhile, some folks founded a business to survey commercial and apartment real estate themselves, the company where I now work, and sell the results to investors and underwriters. It can’t afford to be as comprehensive as I had proposed, and surveys landlords rather than all the tenants for “institutional grade” real estate only, which for retail means shopping centers and not storefronts owned by and leased to moms and pops.
So props (whatever that means) to Congressman Anthony Weiner for his survey of 5,991 storefronts in the outer boroughs. It is useful information, but requires a little background to be understood. According to Weiner “the recession is forcing small businesses to close shop at an alarming rate.” No doubt it has had an effect. But this being New York there has been an immediate call for all kinds of special subsidies, deals and breaks, for retail stores, retail landlords, or both. Before we start dooming our future by borrowing more money, raising taxes on the less favored, or gutting public services even sooner and more completely than is likely in any event, let’s ask why most businesses close and why stores are vacant. For example, perhaps the stores are vacant because the landlords are demanding rents that are too high.
Also back in the day, I proposed that the New York State Department of Labor measure business turnover rather than just net employment change, and got an analyst there (who also later left for the private sector) interested enough to create and run a program (off the books on his own time) on the subject. The results are on my bookcase, and braving the dust that has settled on this noble effort, I can recall that of the 189,836 private business establishments that were open in New York City in 1992, 80,445 had closed by 1996. (A business was considered closed and opened if it moved from one county to another, not if it merely moved within a county; extensive programming prevented businesses that changed ownership from counting as closed and opened).
Fortunately, 93,116 business establishments had opened from 1992 to 1996 and were still open in 1996. Break even for New York City is upward of 25,000 new business establishments per year. The businesses that closed resulted in 778,000 jobs lost in four years, the businesses that opened added 816,500 during those years, the businesses that remained grew by a net 102,700 jobs (the private job total at the time was about 3.1 million). In 1996, more than a quarter of NYC’s private jobs were in places of business that had not existed four years earlier. (The one other run of this data, for earlier recession years, showed a turnover rate of 33 percent over five years). Yes small establishments tended to turn over more, with those employing 1 to 4 workers starting with 201,000 jobs, losing 59,600 due to closings and gaining 67,600 due to openings. But private establishments with 100 or more employees, which started with 1.77 million workers, lost 358,000 due to closings while gaining 321,500 due to openings — even though many of these are large, stable non-profit organizations such as hospitals and universities.
By the way, it is something of a myth that small businesses account for most of the jobs or most of the job growth. The data show that in 1996 establishments with 100 or more workers accounted for 54% of the private sector jobs; government of course is large employer. After examining the data, I concluded that most jobs are created by the minority of small businesses that, rather than remaining small or going out of business and being replaced by others like them, grow to be large ones. And most jobs are destroyed by large businesses that move out, disappear, or shrink to small ones.
So business turnover and closings, in and of themselves, are not a sign of extreme distress. That’s just the way it goes in business, and for workers in the private sector. And unfortunately the data series stopped after two runs, so we have nothing to compare it with. (What became of the data? Yes I wrote a report. The Department of City Planning never published it. After all, no one was calling for it, and doing something on its own initiative always had the potential to create a political issue, something bureaucrats dread. Perhaps the report would upset some interest group, with repercussions for the Mayor or Council and a reaction in the next budget. Better to collect your pay and wait for the pension.)
What, however, creates an environment for small businesses with the potential to grow to get started? For one thing, cheap space. It’s hard for a business that has yet to find its market to pay massive rents, yet at the peak of the boom in New York City that is what was being charged. In fact, I’ll bet that some landlords have been charging such high rents that even moderately successful commercial tenants were having trouble surviving the boom let alone the subsequent bust. And speaking of busts, one of the downsides of the post-9/11 recession compared with the early 1990s recession is that space never really got affordable in Manhattan, although there was an entrepreneurial boom in the other boroughs. That limited new business innovation in Manhattan during the 2003 to 2007, or so I would assume. Many years ago I had been concerned that because so much new retail space was being added in the suburbs, older space there would become far more affordable than comparable space in New York City, and the suburbs is where the business innovation would occur.
Perhaps not. According to Congressman Weiner “out of a total 5,991 stores surveyed, 726 stores are closed or in the process of closing – On average, 12.1% of stores surveyed were vacant – Brooklyn: 347 vacant stores out of 2458 stores that were surveyed (14.1% vacancy rate). – Queens: 211 vacant stores out of 1730 surveyed, (12.2% vacancy rate). – Staten Island: 63 vacant stores out of 647 surveyed (9.7% vacancy rate). – Bronx: 105 vacant stores out of 1156 surveyed (9.1% vacancy rate).” The problem is that numbers like that are meaningless without others to compare them with — another place, another time, preferably both. Hopefully Weiner’s staff will find the time to duplicate their methodology and repeat the survey in a couple of years, and then a couple of years fater that. In the meantime, let’s assume that these vacancy rates are high.
My view is that they are high because landlords haven’t gotten used to the idea that they are going to have to rent to businesses with less of a credit history at lower rents, and are holding out for a better deal not likely to come. The vacancy rate will come down when landlords start to get realistic and creative, as is starting to happen elsewhere. Or, if they paid too much for the building and cannot cover their debt service at a lower rent, after the landlord goes bust, the lender re-sells the property for less, and a new landlord finds a lower rent is enough for a decent return. One might have heard, for example, that the second biggest retail landlord in the United States, General Growth Properties, filed Chapter 11 last week. As far as I’m concerned those who sought the upside should take the downside, not taxpayers or younger generations through (another) government bailout.
Truth be told, most NYC landlords (other than office landlords) have gotten spoiled, because nationally the past 30 years have not been kind to commercial landlords, as the chart in the attached spreadsheet shows. In the chart the national average asking rent (or for one-family homes median existing home sales price) in 1980 is set to 100, to show how they have changed relative to each other in the U.S. All the data is adjusted for inflation, with the figures put in 2008 dollars to make the comparable. The chart shows that the massive commercial building binge of the 1980s led to the crash that wiped out the Savings and Loan industry, and even 20 years later the average office and industrial rent is more than one-third lower than in 1980, with the average retail rent more than 20 percent lower — and going down fast, according to the most recent data released by my firm that has appeared in the newspaper. Shockingly fast.
Investors and coming up with ideas to reuse space and attract lower rent tenants, including new firms. I’ve read articles that in other markets unused space and laid off workers are coming together, with landlords agreeing to ownership stakes and percentage rents in lieu of cash up front, with months of free rent to start the lease and give the business a chance to get going. Shopping center owners who previously limited their marketing to national “credit tenants” (how good is Circuit City’s credit now anyway?) are now actively seeking new firms, or new locations from successful mom and pops or local chains looking to move to better space or open a new place of businesses. In other cases, I read that landlords are renegotiating leases to cut rents to levels their long-time tenants can now afford, rather than lose them. These landlords, like NYC landlords, captured a large share of the increased profitability of their tenants in the boom, but now recognize the need to accept less now that their tenants are earning less. Distress, moreover, is starting to create opportunities, with those looking to become landlords able to pay less for the properties and figure out ways to reuse them. That’s kind of interesting.
In New York City? Landlords would probably prefer a government subsidy. New York’s landlords need to get real, even if reality is Chapter 11.
That goes for housing too, since the recent bubble was residential not commercial. Looking at the chart it’s interesting that the massive 1980s housing bubble in the Northeast and California barely affected the national median existing home price. I assure you the chart for the NY metro looks the same for the 1980s and 2000s, a déjà vu bubble followed by a déjà vu bust. This time the bubble — and bust — happened in far more places, and high prices led to massive overbuilding in less space-constrained markets. It would surprise me if inflation-adjusted housing prices — and rents — didn’t fall back to 1980 levels or lower nationally, and there is only so large a gap between NYC and the rest of the country that can be supported before people and businesses start to leave. That means housing rents and prices are going to have to fall here, too.
Landlords have had a good run, and as Henry George pointed out in Progress and Poverty more than 100 years ago, they tend to capture a lot of the upside. Now, if property gets cheap enough, perhaps those who can find ways to avoid relying out our soon-to-be Albany-wrecked public services (getting around by bike and homeschooling perhaps?) will be able to take advantage of affordable housing and affordable space to allow NYC to recover down the road. If the government allows it, which cannot be certain. Let’s end with a quote from a commercial broker in San Francisco who I often cite in my reports on that market.
“A case in point: I have a 1,200-square-foot retail space for lease with a local landlord. The owner is anxious to lease the premises and is willing to negotiate a fair deal. Numerous small-business owners have expressed serious interest in establishing a food-type retail outlet in this location. But when they go to the building permit department, we typically do not hear from them again: The approval process is just too discouraging. We have attempted to secure professionals who specialize in zoning issues to assist these potential tenants. The cost to hire a qualified attorney and architect runs between $6,000 and $9,000-paid up front-with no assurance of success.”
“Prospective retailers in San Francisco are looking at six to nine months to secure the necessary approvals and building permits. Next, they have to account for construction time, which could add another two months. Any retailer who starts the approval process today could be a year away from opening their doors. This situation kills any opportunity for a small business to get started, and it puts further pressure on people who are seeking a way to survive in these difficult times. In addition, landlords lose the opportunity to secure rent. In the long term, this situation will result in lower property values, which in turn means less property tax paid to the City.”
Perhaps it isn’t all the landlord’s fault after all.
“The City needs to generate more jobs and create more real opportunity for its citizens-not continue to raise barriers to opportunity. All you have to do is drive down most retail streets in San Francisco and you can see the effect that vacant stores have on the remaining businesses that are trying to succeed. Let’s get the City to help get these spaces filled.”
Better that — and squeezing the landlords and lenders big time — than more special tax breaks, deals and subsidies. But too often in NYC’s political culture, the attitude is “if we are for it let’s subsidize it, and if we aren’t subsidizing it we’re against it.” We can’t afford it.