As the economy continues to improve and the office market velocity increases, the costs of tenant improvements are significantly increasing as well. This is forcing landlords, looking to lure tenants to their buildings, to provide hefty allowances to accommodate even a standard build out requirement. There are multiple factors causing the rise in costs:
- During the economic downturn, both general contractors and subcontractors greatly reduced their overhead and employee headcount to survive the lean times. As the economy has recovered, these construction firms have been in no hurry to ramp up overhead and employee head count. Instead, they are staying lean and being very selective of the jobs they take. While you will rarely see a group decline to bid a job for fear of being left out of the next big opportunity, many will provide bids at a very high profit margin so that winning a small or mid-size project is more meaningful. In the past, when these firms had large overhead, they would aggressively bid these jobs just to be able to bill the man hours even if it wasn’t a profit center for the company.
- The costs of goods have skyrocketed and availability is limited for many specialty items. The price of drywall has increased at least 20 percent over the past 6-8 months, while electrical parts/equipment and millwork are both up 15 percent. Additionally, specialty lighting is in high demand, but often limited in supply. Industrial developers are also facing a shortage and waitlist for precast concrete used in the construction of bulk industrial buildings.
- Permitting laws changed in 2015 in Indiana. In the past, unless you were constructing 100 lineal feet of drywall, you could often get by without a permit. With the new changes, almost every job, other than a refreshing carpet and paint, requires a permit. This means not only is the permitting fee now a part of most jobs, but construction documents are required, as well. This process lengthens the construction timeline and increases the total project costs by $1.00-$1.15 per square foot. This impacts short term deals the most, where the landlord and tenant are trying to keep costs low and make minor changes to the space.
We are now seeing many cases where the tenant is coming out of pocket to finance a portion of the improvements to make sure they get the space they desire. These rising costs will continue to affect landlords and tenants for the foreseeable future.