Money-Growing: More Companies Seek Shared Ownership in Business Centers

Admittedly, to participate in shared construction of a shopping & leisure facility a developer has to meet a long list of requirements. Only a large anchor tenant has a chance to secure title to space within the development while the developer retains control over the project on the whole. The situation is different in the office sector. Some developers follow the example of housing builders, selling out office centers entirely, in quite small lots.

The demand for offices for sale is high in the city. Most properties are sold out before they are finalized. Nevertheless, obvious advantages aside, such an investment scheme also has certain disadvantages, which have to be taken into account both by developers and their partners – shared owners.

Securing a Share

In 2005, St. Petersburg saw the sale of approximately 24,500sqm of space in completed business centers, Becar Consulting has reported. The figure is significant, considering that last year the city’s office stock grew by only 155,000sqm, at the expense of new office facilities rated as class A to C.

According to the calculations made by Colliers International St. Petersburg, nowadays the city has 61,000sqm of office space available for development under shared construction schemes. Almost all of them are rated as class B or B+, as would-be tenants seeking moderately priced offices cannot afford investment in prime developments. The only offer available in the class A segment is that of NPO Kontur. The company has put up for sale some of its properties at a class A business center under construction on Blokhin Street (Petrogradskaya Storona District).

Sale prices range from $1,000 to $2,700 per 1sqm, depending on location, grade and timing of completion. Participants in shared construction may pay for their properties by installments. Prices vary depending on the schedule of payments, as well. Offices are sold without any final finish. Developers are trying to sell properties in large blocks but sometimes offices as small as 40 to 60sqm are also available.

Little wonder that the shared construction scheme was tested in the office sector by the companies who had gained extensive experience in housing construction and moved to introduce the practice in the field that was new to them. The first company to introduce the scheme in the office sector was the Building Corporation Vozrozhdeniye Sankt-Peterburga (Revival of St. Petersburg), which is part of LSR Group, specializing in high-end residential properties.

The company’s first office project is the class B+ business center Zolotaya Shpalernaya. The investor had secured an L-shaped 19th century development at the corner of Shpalernaya Street and Vodoprovodny Side-street. Two more buildings of varying heights have been added to it, forming a closed courtyard with a 49-space parking area. The complex measures a total 9,100sqm, incl. 6,400sqm of office space. Properties were sold in lots of 170sqm and over. Offices were put up for sale at the early stages of the project. In the fall of 2001 they were estimated at $950 per 1sqm; in May 2004 the last vacant lot was offered at $1,800 per 1sqm. Nowadays, the building has 19 owners. Some of them have purchased offices with a view to let them afterwards.

“The low threshold set for entering such projects appeals to many,” says Anna Romanova, senior office and industrial real estate consultant at Colliers International.

Zolotaya Shpalernaya even features a sort of a business center within a business center, run by an independent management company. One of the investors has purchased 1,040sqm of space on the upper floor, divided it into blocks of 20sqm and larger, fitted them out and put in an additional ventilation and heating facilities. The new office center bears its own name – Sphera, or Sphere, and is run by Advex Trust. Currently, tenants are moving into Sphera. “In the downtown area the demand for small offices of good quality remains unsatisfied,” says Yelena Afanasieva, general director at Adveks Trust. “Offices at Sphera are rented at $546 per 1sqm per year. We have been working on that project since November 2005. Nowadays, the occupancy rate stands at 70 percent.”

In the year 2005, the Building Corporation Vozrozhdeniye Sankt-Peterburga (Revival of St. Petersburg) opened its second business center, rated as class B+, at 7, 14th Line of Vasilyevsky Island. Properties were sold out under the same scheme. The 9,578-square-meter compound features a redeveloped historic building and a newly built wing, linked by a vertical glazed bay window. The complex also provides underground parking facilities, a fitness center and a caf?. Rentable space is 7,000sqm. Only one office, measuring 185sqm, remains vacant. The sale price was set at $1,565 to $1,800 per square meter.

Another company that took up office development was JSC Sodruzhestrvo, developer of countryside real estate. In 2004, Sodruzhestvo launched a 9-storied business center measuring 9,000sqm at 33 Kolomyazhsky Prospekt, near Pionerskaya metro station – a commuter area where boisterous housing construction is underway. The new facility houses Sodruzhestvo’s headquarters, while 40% of space was sold out in large blocks. For example, advertising company BMT has secured a 3,000-square-meter office there.

Nowadays, Sodruzhestvo is developing two more B+ office buildings on the site – a 9-storied 11,000-square-meter facility to be finalized in the 1st quarter of 2007 and a building of 15 to 17 stories, measuring 25,000sqm, to be commissioned in mid-2008. Nearly all the properties have been put up for sale. Lower floors will be occupied by a health care center, a fitness club and shops.

Offices are sold in lots of 200sqm and over. Sales are booming, deputy general director at JSC Sodruzhestvo, Irina Smirnova, reports. In the second phase only 10 per cent of properties remain vacant. The price of 1sqm is 955 euro in a lump sum or 1,055 euro if purchased by installments. Offices in the third building estimated at 1,100 euro per 1sqm and over are also very popular with the buyers.

In March 2006, the business center Lidval Hall (B+) was commissioned at 4 Petropavlovskaya Street (Petrogradskaya Storona), the first commercial project by GK Razvitiye. The 7-storied facility measures 3,336 sqm (2,512sqm of rentable space). By the time construction works were completed all the properties within Lidval had been sold out under shared construction agreements. Lidval Hall has six owners. Razvitiye has reserved one floor for own use. Offices were sold out in blocks of 350sqm and over. The price, initially set at 1,950 c.c.u. (conventional currency units) per square meter per year (1 c.c.u. = 31 rubles), grew to 2,500 c.c.u. at later stages.

Peterburgskaya Nedvishimost (St. Petersburg Real Estate) Center for Project Development acted as an exclusive broker for the project. Ilya Yeremenko, head of Peterburgskaya Nedvishimost, has said: “In the beginning, we planned to sell the property in whole as a large representative office. But later we opted for a less risky variant. The investor invited several shared owners, but, as the facilities were sold out by floors, the buyers secured autonomous offices.” “The project has proved to be commercially effective. We joined it in the 1st quarter of 2005 and today it is practically completed. Thus, we have secured a payback in less than 12 months,” says Andrei Karelin, deputy general director at Razvitiye.

Golitsyn business center (10,500sqm) is slated to be commissioned in 3Q of 2006 by the International Tourism Institute of the CIS on the 13th Line of Vasilyevsky Island (10,500sqm). The office space has been divided into 75 properties for sale to shared owners. Only 10 percent of space remains unsold. The Nevsky Syndicate realty, the exclusive agent for Golitsyn, reports the highest demand for properties measuring 150sqm. Some firms have secured offices of 600 to 800sqm. Prices have risen from $1,300-$1,800 per 1sqm to 1,600-2,000 c.c.u. since the day the sale began. Most buyers are St. Petersburg-based firms.

“The motives behind the sale of offices at the stage of construction are clear. Investors seek to optimize financial flows, receive extra cash, reduce risks and secure a sooner payback on their investment,” says Irina Romanova, head of consulting at GVA Sawyer St. Petersburg.

Freehold Retained

Not all developers who practice shared construction withdraw from their projects once construction is completed. Some venture on more intricate schemes, retaining part of properties for commercial use. “The interest in shared construction will grow as office projects increase in size,” says Igor Luchkov, head of assessment and analysis at Becar Realty. “Such schemes provide refinancing opportunities to investors involved in development of large-scale commercial zones. Money collected from shared owners is used to finance the properties, to which the developer retains freehold.”

For example, Stalpromtreid company has launched construction of an office and hotel complex on Constitution Square (Moscow District), to be launched in 1Q of 2007. The facility will feature a 25,000-square-meter class B+ business center, 7 to 11 stories high, with an underground parking lot. Ilya Yeremenko of Peterburgskaya Nedvishimost – the company that brokers the project – says that the developer plans to sell 5,000 to 7,500sqm, at $1,400 per 1sqm by installments, and let the rest.

3,000 out of 10,000sqm of office space have been put up for sale at the business center Stels at 32 Borovaya, to be completed in autumn. 80 percent of properties have been sold at $1,800 to $1,900 per 1sqm. The investor is the Matriks management company. “We are building a business center to receive income from rent. Shared owners provide extra cash necessary for bringing the project to completion,” says Tatiana Berezhnaya, the head of the project.

Best Group is raising a 20,000-square-meter business center Avenue (class B+) on Aptekarskaya Embankment. “Originally, our plan, too, was to sell out part of the offices in lots of 500sqm and over, at $2,000 to $2,500 per square meter. The demand was high. But we succeeded in securing a rather favorable loan and halted sales. Upon completion of construction works and final calculation of costs, perhaps, we will welcome one or several major buyers,” Georgy Rykov, general director at Best. Commercial Real Estate, explains.

The former industrial estate of the Krasnaya Zarya plant is being redeveloped into the Vyborgskaya Naberezhnaya [embankment] commercial zone. Offices in two business centers have been put up for rent; construction of the third center – Gelsingforssky – will be financed through shared construction.

That list may be continued. “In long-term the share of offices sold out before completion may reach one-third of the market,” holds Yeremenko. “Shared construction schemes are convenient for housing developers. They may diversify their business without revising their traditional approach to it. Sale of properties is also practiced by non-real estate companies involved in development, as well as investors with no access to long-term money. Western and Russian firms involved in office real estate will continue to pursue projects for rent. Those are different operators with different business strategies capable of successful co-existence on the market.”

As investors gain experience in office development their preferences are likely to change. For example, Vozrozhdeniye Sankt-Peterburga (Revival of St. Petersburg) has abandoned shared construction schemes. Properties in the company’s business centers under construction at 12 Dobrolyubova (Petrogradskaya Storona) and on the site of the mixed-use facility Paradny Kvartal (the Chernyshevskaya metro station) will not be put up for sale. “Shared construction models are still actively practiced on the market but having reached a new level of working with commercial real estate we believe that by managing our properties on our own and focusing on proceeds from rentals we are likely to achieve better results,” holds Olga Klushina, deputy general director in charge of sales and marketing at Vozrozhdeniye Sankt-Peterburga.

Communal Flat for the Rich

“For the time being, there is only a handful of projects realized under shared construction schemes. That is why it is still too early to judge on the negative sides of such practice. But I think as soon as in some 3 or 4 years we will feel their impact in full,” says Yelena Nikulicheva, general director at IB Management. “Sale of space in business centers is our national know-how. A landlord is free to control actions of his tenants but not of a freehold owner. As a result, office centers are likely to transform into ordinary communal flats. In such circumstances, management companies are to play the decisive role.”

The task of operating a business center is, indeed, fraught with serious problems. Developers resort to various means of tackling them. For example, Lidval Hall is run by a non-profit partnership TSP Lidval Hall (Association of Property Owners). As soon as the first tenants begin to move in, TSP members will decide whether to hire an external property management company or contract several specialized firms that would provide management and maintenance services under TSP’s control.

Where there are only six property owners it may be possible for them to come to terms with each other. But what if there are dozens of them? “Operations of the associations of apartment owners, at least somehow fall under provisions of the Housing Code and other legal statutes, while there is still no law in this country governing relations between owners of commercial properties. Everyone sets those rules at own discretion,” says Konstantin Kozlovsky, general director at JSC Management Company PSB. “If some shared owner refuses to pay operating costs, who is there to force him to do so?”

In a move to retain control over the building, engineering systems and amenities installed therein, the developers often force shared owners to enter into agreements on utility and maintenance services with the firms under the landlord’s control. For example, Sodruzhesvtvo’s business center is run by Dom, set up by the developer for the purpose. Matriks plans to run the business center Stels on its own. Business centers developed by Vozrozhdeniye Sankt-Peterburga (Revival of St. Petersburg) are run by Kvartira LuxService (part of LSR Group).

“We do not impose our services on the owners,” LuxService’ representatives say. “But under the law in effect the landlord is to sign an agreement with a maintenance company before the building is commissioned. At that stage it is practically impossible to bring the owners together so that they decide, which management model they prefer.” Owners of office properties in the business center have set up a non-profit partnership. Not all the owners have already joined it but the number of members grows steadily. Experts at Kvartira LuxServis believe that shared ownership schemes have proved viable, though, of course, there are more problems than in the case where there is only one owner, especially at the stage of commissioning.

For example, it is difficult to come to terms with all owners as regards the schedule of repairs as some of them have already moved in while others still wait for fit-out works to be completed. Decision-making is slower as each issue has to be discussed and voted on by all the members. Problems arise for shared owners, as well. “To begin with, by acquiring an office property its owner inevitably becomes attached to it,” says Kozlovsky. “He is no longer as mobile as a tenant who moves into larger offices as his business grows. Secondly, the owner is forced to take care of matters he has little experience in, such as fitting out the premises, solving problems arising from maintenance, etc.

“Finally, what the shared owner is buying is merely a box. The developer retains control over engineering facilities, which means the new owner will be forced to accept the terms and conditions of technical maintenance at relatively high rates imposed on him by the developer. Under a fairer scheme, by acquiring office space its owner secures co-ownership rights to the building in proportion to the size of space acquired. Alas, the market is still underdeveloped and requires regulation.”