Investment Analysis

What’s Ahead in M&A

In a frenzied environment of corporate mergers and acquisitions, commercial real estate will face tough decisions in the long and short terms.

By every measure, 2021 was a record-breaking year for merger and acquisition activity among global corporations ⁠- both public and private. High year-over-year measures were expected given the COVID-19-induced lull in 2020. According to data from Dealogic, though, global M&A volume exceeded $5 trillion, with the U.S. leading the way with $2.5 trillion. Both of those figures surpass previous records set in 2007 shortly before the global financial crisis. This uptick in M&A activity added further complexity to the commercial real estate environment, which was already experiencing turbulence and uncertainty due to COVID-19. Considering the inflationary pressures heading into 2022, it is no surprise that CRE owners and occupiers are finding that they need to be more creative and nimbler than ever when it comes to managing their portfolios.

This wave of M&A activity is considerably different than the wave that occurred prior to the global financial crisis in creating a clear distinction between how organizations think of corporate real estate in the short term versus longer timelines. In the short term, there are two key areas of focus:

  1. Organizations are now focused on how the drastic shift to working from home can be leveraged to gain post-merger synergies in the real estate footprint. California and New York have both lifted indoor mask mandates, driving companies to quickly understand the types and quantity of space needed for the workforce that will return to the office either full time or in a hybrid model. They are then seeking to immediately shed any excess or underutilized space due to an expected rise in rent rates.
  2. The rise in rent rates is consistent with the expected increase in inflation. Companies are examining the sale-leaseback of owned real estate and deciding whether to own or lease real estate. For example, despite some companies being in a good position to take advantage of record high real estate valuations in the summer of 2021, clients are choosing not to proceed with the sale or sale-leaseback of assets due to the increased cash it would generate on their balance sheets with no immediate plans to deploy it back into their business. The erosion effects of inflation are adding to this concern, which is why it's imperative that global and regional CRE leaders align their real estate strategy with their CFO and finance organization. 

Within the context of a merger integration, there often is a small lack of synergy in the short term, particularly if the time to get to Day 1 is rather short. This incoherence may be caused by having to maintain different legacy CRE and facility management systems or differentiated policies and processes. Lastly, for intellectual property or proprietary knowledge reasons, you may not be able to have co-location of employees, regardless of legal allowances. Where these concerns exist within the carveout or merger of two companies, global and regional CRE decision-makers may need to incur capital costs or even expand the space ⁠- either temporarily or permanently ⁠- to accommodate.

Considering the inflationary pressures heading into 2022, it is no surprise that CRE owners and occupiers are finding that they need to be more creative and nimbler than ever.

The takeaway is that global and regional CRE decision-makers cannot stop at solutioning for the Day 1 portfolio and operating platform. Once that is handled, strategy development must rapidly shift to focusing on the long-term target because that is often where substantial synergy can be realized. The long-term focus also should be viewed from two perspectives:

The Portfolio. The portfolio entails finding synergies with respect to the size and cost of the physical footprint. Within the flurry of financial and legal activity that occurs when integrating two companies, global and regional CRE decision-makers should seek opportunities to:

  • Restructure lease contracts, particularly if there are strategic locations, such as a headquarters or global shared service center where it would be advantageous to lock in a low rent rate for five-plus years, given high expectations that rents will increase.
  • Contemplate sale-leaseback while being cognizant of the impact on balance sheets.
  • Leverage remote work to permanently eliminate space from the portfolio or accommodate projected headcount growth without having to acquire additional space.
  • Reduce the number of buildings in the footprint or even relocate to markets that are better for talent or operational reasons.

The Platform. The platform focuses on the operating model that governs the physical footprint. This is where global and regional CRE decision-makers should be asking themselves:

  • Who is going to manage the real estate and facilities following a carveout or merger?
  • How will they build the CRE organization structure?
  • Are they insourcing or outsourcing real estate and facilities management services?
  • Who are their third-party vendors, and what do those contracts look like?
  • What software is being used to administer leases, manage space, and monitor facility systems and maintenance?

When strategizing for the long-term CRE portfolio, a plethora of variables are unique to every merger integration or carve-out that can impact the ultimate outcome. For example, every company has a slightly different approach and policy for remote work during the pandemic and the subsequent return to the office. Every company has a unique culture and workplace branding. Every company assigns space to its employees and uses collaborative or amenity space in different ways. Some of these disparities may seem insignificant, but when compounded across 50 or 100 buildings in a large-scale merger integration, the impact can sum to tens of thousands of square feet and even generate seven-figure capital costs to reconfigure space.

Looking ahead to 2022, it will be interesting to see if this level of M&A activity is sustained against the projected inflationary environment and the forecasted rise in interest rates. Global and regional CRE decision-makers may find themselves challenged to meet the short-term agility needs of the portfolio, while also trying to navigate the impact and opportunities derived from long-term real estate decisions. In these times of uncertainty and volatility in real estate, avoid strategizing corporate real estate in a vacuum. When CRE decision-makers work in cross-functional, integrated teams, they often produce the best course forward.

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