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Wednesday, 6 June 2012

Getting rich with Commercial Real Estate (CRE) VII: Dutch Commercial Real Estate industry turns to ‘the demolition man’ for relief, making the Dutch antitrust authority NMA smell a cartel.

Tied to a chair, and the bomb is ticking
This situation was not of your picking
You say that this wasn't in your plan
And don't mess around with the demolition man

About two months ago, on April 16, the latest episode of our continuing soap Getting Rich with Commercial Real Estate appeared, describing the deteriorating situation on the Dutch commercial real estate market, with its structural overcapacity, dropping demand and its 15% permanently vacant office buildings in The Netherlands. Suffice it to say that the situation didn’t improve since then, as there had been nothing that could have made the situation improve.

Today the news got spread that the most important representatives in the Dutch Commercial Real Estate industry – realtors, office lenders, local authorities and project developers – decided to jointly throw the towel on their increasingly outdated and unnegotiable office building stock and want to ‘mess around with the demolition man’; the real one that is.

They reckon: when we demolish the 15% permanently vacant office buildings and business premises, the current overcapacity is turned into a small deficit. This would spur sales and renting prices and would solve the vacancy problem in The Netherlands.

Although it seems initially a huge destruction of capital, it could eventually turn into a win-win situation, according to the CRE representatives:
  • No more permanent vacancy of office buildings;
  • Demolishing the ugly office buildings, would put the better looking office buildings in the picture;
  • Better renting and sales prices for the remaining buildings, due to forced scarcity;
  • Better chances for the building and construction industry, realtors, office lenders, project developers and everybody else who earns his income in the CRE industry; 
Or something like that…

The Dutch antitrust authority NMA (i.e. Nederlandse Mededingings Autoriteit) considers this joint strike of the CRE industry to be ‘probably illegal’ as a consequence of the Dutch and European antritrust laws. It considers to start an investigation when the current plans are turned into reality.

The Dutch financial newspaper Het Financieele Dagblad ( wrote today an article on this developing story, of which I print the pertinent snips:

Supervisor NMa (Dutch Anti-trust authority) warns representatives of the CRE industry, who are jointly planning to demolish structurally vacant office space

When the planned demolition will indeed be effectuated, this would lead to artificial scarcity and thus increased prices for office buildings and industrial premises. Demolition would then be turned into an abusive means of Commercial Real Estate owners to force higher prices into the Dutch CRE market, according to the NMa in a reaction at questions of the FD.

‘The only party that seems to benefit from office demolition is the lender’, according to a spokesman from the supervisor. ‘I don’t expect us to approve demolition on this single argument. More parties should benefit from demolition’.

According to insiders, an agreement has been reached to do something about the growing (structural) vacancy of office buildings. Part of this agreement is a demolition and restructuring fund. The exact details have not been elaborated yet, but parties agreed on the starting point: the industry deposits money in a fund to pay for demolition of futureless office buildings. Every year between €150 and €300 mln would be deposited in regional funds.

According to one of the parties involved: ‘a million square meters (about 9 mln sqr feet) of office space should be taken out of the market during the first year. This would solve the vacancy problem within five years’. The agreement is set between local authorities, CRE-owners, investors, financiers and project developers. The deal will be signed, after the grassroots of these parties have put the signals to green.

The joint demolition of vacant office space is already mentioned for some time as a solution for the CRE-market. This market suffers from high vacancy and dropping rental and sales prices. At the moment 14% of the total Dutch office stock is not rented anymore, almost 7 million square meters (36 mln sqr feet). A result of excess office building and the crisis.

This might be the right solution for the wrong reasons. The abundance of structurallly vacant office buildings is a thorn in the flesh of the Dutch cities, villages and their citizens. Ugly and poorly designed office buildings, built by the lowest bidder for companies that were penny-wise, but pound-foolish, look like scars on the Dutch communities.

Acres and acres of vacant buildings at near-dead industrial zones supply a desolate and unsafe feeling to people that live closely to it. Besides that, these zones attract the wrong kind of people: graffiti artists, drugs users and petty criminals, that make these places even more unsafe.

Demolishing or restructuring vacant buildings at these zones and turning those into areas for sports, recreation and play can supply new possibilities and joy for the people in the neighborhood. Therefore demolition can indeed be a solution.

However, that is not the point. The point is that the CRE industry and the local authorities in the cities and villages want to return to a time of (artificial) scarcity of office space.

They all hope for a return of the good times, in order to avoid  (postpone?) the necessary restructuring of the whole CRE industry, while hoping to restore the vast income in rental fees and sales of office space. I consider this a very naive statement for a number of reasons:
  • There is a continuing trend towards working at home among people in The Netherlands. You can’t simply take this trend away by demolishing the unnegotiable, vacant office space. It would help slightly, but that’s about it;
  • The crisis will in my opinion linger on for a number of years; personally I don’t see any improvement coming in Europe before 2015-2016, due to (a.o.) the lack of courage among the current generation of European politicians. Until 2016 the structural vacancy will therefore grow, instead of diminish. This would mean that demolition is a temporary band-aid and not a structural solution for the overcapacity in the CRE-industry;
  • You can’t make an omelet without breaking an egg; there needs to be a restructuring of the whole CRE-industry in The Netherlands:
o    Abolishing the excess capacity in the Building and Construction industry for Commercial Real Estate, by thoroughly reorganizing this whole industry;
o    Stopping the excess supply of building ground and industrial zones by the local authorities in cities and villages;
o    Stopping the still ongoing building frenzy in The Netherlands by rejecting all building plans that have little added value: no new office buildings, unless these are more energy efficient and green and replace older office buildings;
o    Demanding demolition and restructing plans for every office building that has been vacant for more than two years in a row;
o    Perhaps there must even be an introduction of a ‘waste disposal fee’ for newly built office buildings of 20% of the building price. If the building can’t be sold in the future, the 20% can be used to demolish it;

However, I am sure that these were not the topics in mind at the demolition cartel, when they invented their bold plan. Therefore I would personally add some stringent additional measures before approving of it.

However, I doubt if the central government will do so in the near future. The current cabinet did never outshine with clever ideas and a thoughtful policy, towards the residential and commercial real estate markets. Like Sting said: you better not mess around with the demolition man!

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