Money Growing: Office of Your Dreams

Recently the plans for the construction of a headquarters were announced by state corporations Rosatom, Obyedinyonaya AviaStroitelnaya Korporatsiya (United Air construction Corporation), and Olympstroi. The International Committee of Russian Compatriots will get it own headquarters with a hotel, within the limits of a joint project with the government of Moscow. By 2009 Ural Airlines should also complete their construction,” says general director of MIEL Commercial Real Estate Andrei Bushin.

Alignment to the West

What can be better than an office center constructed specially for a company according to all of its wishes, needs and requirements? Nothing. Can a typical office building, even a mythical class A building, compare to an individually built "dream office"? The answer is obvious. In the West practically all companies that reach a certain height and scale in business, aspire to obtain their own headquarters. "In developed markets construction of headquarters for a specific company is widespread practice,” says director of development Swiss Realty Group Ilya Shershnev. “Any large structure usually has its own building, reflecting the spirit and ideology of the company."

According to Johan Hultman, director of the department of marketing and development at CMI Development, the practice of building your own headquarters is widespread in the West among large international companies for which status is important. "Usually they are unique buildings designed by well-known architects with a specific functional purpose which meets the requirements of such companies," he describes. Hultman gives Telenor’s headquarters in the suburbs of Oslo with an area of more than 145,000 sq.m, and also the original Menzis headquarters building which has an extremely strange shape as examples.

The majority of large European companies, such as well-known French Michelin have their own headquarters, Swedish Tetra Pak, Google, Yahoo, South-Korean Pantech and many others, adds director of development at Prime City Properties Roman Cheptsov. As you can see from this list, in developed countries many different companies from various fields of business construct their own headquarters. In Russia until recently the only companies that owned their own headquarters were oil&gas, mining and power giants. And this trend remains, with only limited exceptions going against the general rule.

Intrigue in headquarters

In Russia the first such large companies to own their own headquarters were UES of Russia (the Neftyanoi Dom project, which is now for sale, the buyer of which may become Intertsessiya), and Yukos (these headquarters were sold at the height of the bankruptcy process of the company to Prana for $100 million, and then later transferred to Rosneft). Also in Moscow there are the headquarters of Gazprom on Ulitsa Nemetkina, the head office of multinational corporation BP on Old Arbat, Lukoil at Chistiye Prudy and the headquarters of Sberbank.

But experts know about almost ten more headquarters projects under construction. Of course, the most famous and scandalous project is the construction of the Okhta-Center in St. Petersburg, which will become the headquarters of Gazprom. Local residents have already nicknamed this project "corn on the cob", and various committees and public organizations that campaign for the preservation of the historical image of St. Petersburg have sounded alarms and called for authorities to refuse the plans of the construction of a 400-meter building. However, the authorities have closed their eyes and ears to all the cries and protests, and the developer of the project continues to receive all the necessary sanctions and approvals. Perhaps, the political will to build the corn on the cob in the center of St. Petersburg is very strong.

Siemens had a similar amount of problems when it decided to construct its own headquarters in Moscow. The builder of the project is Sistema-Gals, one of a few Russian developers with real experience in constructing headquarters. The company has previously constructed a small headquarters for Trubnoi metallurgical company and DaimlerChrysler, and also its own business center Hals Tower. It is perhaps this experience that has allowed Sistema-Gals to agree on the construction of a headquarters for the German company, within the Leningradksy Towers project, which consists of two towers.

According to the head of the press-service at Sistema-Gals Anna Zavyalova, in 2005 Sistema-Gals concluded an investment contract with Siemens on the construction of its headquarters in Moscow. At the same time Sistema-Gals concluded a contract with a subcontractor. Both contracts assume the performance of services at a fixed price. But during 2006 and 2007 the prices for building materials and work, and also other building expenditures significantly increased. And as such there is no possibility of Sistema-Gals realizing the project within the limits of the initially specified budget. The initial value of the contract was 124 million euros, and in April 2008 the developer demanded the budget be increased to $305 million in connection with changed market conditions.

"Our company initiated negotiations with Siemens with the goal of revising the price of the contract to cover increased expenses,” says Zavyalova. “Together with this, Sistema-Gals is negotiating its contract with the subcontractor so that the subcontractor takes on the full or part of the increased expenditures on the project. If the company will not manage to successfully negotiate with Siemens and/or the subcontractor of the project, Sistema-Gals will consider various options to solve this situation, including variants which may lead to the cancellation of the contract with Siemens. In the event that the contract with Siemens is terminated, the company will most probably reserve all the rights to the constructed building, but should pay back the deposit of 64 million euro as stipulated in the contract." It was not possible to obtain comments from the representatives of Siemens.

Questioned market participants assess this conflict differently. "The conflict between Sistema-Gals and Siemens reflects the general trend in the market,” believes Shershnev. “Some large transactions in the last few years were cancelled because the market increased significantly during the realization of the project and the developer wants to terminate the contract to receive greater profit." But according to sales manager at NAI Russia Vladimir Zhuravlyov, the price for building materials is genuinely growing, but this was predicted and therefore it is not clear why the developer didn’t initially consider this trend when it drew up the estimations of the project. "Perhaps, as a result of negotiations a compromise in the cost of construction from both sides will be reached,” hopes Hultman.

To come to a finished building

Not all constructions of headquarters end in conflicts. In Moscow the construction of several large headquarters which should be completed after 2010 have begun at the same time. NTV plans to complete the construction of a premises on Novomoskovskaya ulitsa by 2011. And perhaps, by 2009, Sberbank will find itself a headquarters in the territory of Moscow-City. Also by 2009 the construction of the headquarters of Nissan in Moscow should be completed (area – 80,000 sq.m, volume of investments - $415 million).

Thus, the first headquarter projects are appearing in Russia. Here, unlike western companies, which build headquarters for themselves, involving a contracted developer, Russian companies still prefer to behave differently. "Until now the majority of companies in Moscow and St. Petersburg prefer to rent rather than buy offices. The share of companies prepared to build their own headquarters are even less, i.e. to invest money at the earliest stage so that an office building is designed precisely for their needs," says president of Promsvyaznedvizhimost Michael Golomb.

"The majority of Russian companies still rent buildings entirely if it is necessary for them to place their headquarters there,” adds Shershnev. “Or they buy a constructed building. The construction of a building as a headquarters is not too widespread yet as Russian business is quickly growing and companies simply cannot adequately calculate the necessary volume of space." VTB bank has taken this route and bought 60,000 sq.m in Federation Tower. In 2005 Zepter bought Serebryany Dom business center in Moscow, which it co-invested in and has located its headquarters there, says Kira Butba, head of the commercial real estate department at Vesco Consulting. And Sedmoi Kontinent, according to Olga Shirokova from Blackwood, has bought premises in Svyatogor business center for the accommodation of its headquarters.

"Not all companies that want to create their own headquarters and place their top management and main administrative structures there independently construct buildings or buy them. Many rent large areas in high quality business centers," adds Yuri Yudakov, head of the office real estate department at Praedium. For example, Yandex has rented office premises measuring 29,100 sq.m in the first phase of the Legion II multifunctional complex where the internet holding will locate its headquarters. Video International has acted similarly, having signed a preliminary contract for the rent of about 20,000 sq.m in RigaLand business park.

Headquarters Vs. rent

It is possible to understand businessmen who don’t want to build their own headquarters and prefer to organize their head offices in already existing buildings. Remembering the story of Siemens is enough to understand: it is extremely difficult to work under contracts with Russian developers. Even with the best. "We don’t have a fee development market and therefore such projects are rare,” says Georgy Kuzin, executive director of RDR-Holding. “Companies simply don’t have anyone to involve in the realization of such project. And the conditions of involving someone are not clear, but the risks are high. Companies are afraid to be engaged in it."

We can understand why this happens. Development companies usually make a profit of 20-30 per cent, but in working for a specific customer, in the opinion of Kuzin, this does not exceed 3-7 per cent. If there is unexpected growth in the cost price of construction this may fall to zero, which would force the builder to try to reconsider the conditions of the contract and increase its price. Developers won’t work at a loss to themselves.

"The question of how profitable it is to undertake this or that project depends on the professionalism and foresight of its participants,” believes Golomb. “A developer may face hidden risks which he previously undertook under the impression of there being practically no risks. So, for example, the process of designing may be accompanied by longer lengths of its realization in view of the necessity to approve conditions with the customer such as the cost of the project and the architectural concept."

In addition the customers of such buildings are large, rich and stubborn companies, and therefore bargaining with them is not so simple. "Only large companies can afford to own their own headquarters," believes Bushin. "Expenditures on the approval of any construction are constant in size, therefore the bigger the building, the lower these expenditures will be per sq.m of the total area. In connection to this it is more profitable to build larger buildings and therefore large companies can invest serious financial investments, to start and finish the process of construction," he argues.

According to Kuzin, the main purpose of building your own headquarters is to save money and improve the controllability of the holding: "You build to gather all the divisions together. It is important, as it increases controllability, eliminates transaction costs, lowers rent and provides the possibility of equipping the building to your own needs. It also has an image factor." "The construction of headquarters is interesting and profitable for companies that have a branched out industrial network, various fields of expertise and a large number of employees, Cheptsov agrees. This allows the work of the personnel to be optimized, and more effectively and more quickly solve arising problems."

According to Golomb, the basis for decision-making in the construction or purchase of a building can be most varied - both financial, and in terms of image: "But a significant share of such proprietors are companies that work in the raw material and financial sectors." "Your own headquarters, constructed under an architectural project reflecting the business and ideology of the company, is an important element of development for large businesses. Any large company all over the will come to this stage at some point. But for quickly growing businesses it is not always justified," concludes Shershnev.

"Your own headquarters usually means more expensive furnishings and interesting architectural solutions in comparison to traditional "flexible" leased buildings. Therefore the cost price of such projects is usually 50-100 per cent more expensive than traditional office buildings," Shershnev says.

Therefore, Butba continues, the construction of your own headquarters is most interesting for large international corporations, bank structures or industrial groups (holdings). And it is understandable: such companies now experience huge inflows of oil dollars and therefore can easily afford to invest large amounts of funds in the construction of their dream office.”

However, at a certain stage of development of a business the expenses of constructing your own headquarters starts to pay off. "Usually large international corporations which have their own headquarters, exist for many decades, and sometimes even centuries,” Zhuravlyov says. Constructing your own "building" is profitable as it saves on unreasonable rental payments over a long period of time."

Perhaps, when Russian businesses will grow out of small children’s trousers and will enter into adult life, interest in owning your own headquarters will grow. "The cost of renting office premises increases every year,” warns Cheptsov. “In connection to this many companies find the construction of their own office buildings which become their headquarters more profitable. Of course, huge funds are spent on their construction, but over time this money is made back."