Land Landlord Fairy Tales:
The Emporer's New Management Fees
Issue 42 - June 08

Why do landlords and building managers refuse to de-couple utilities costs from management fees? And why isn't the government stepping in ?

This is the first in a series of three articles citing gripes that tenants have about landlords, building managers and the government who are all alternately "to blame". Apart from those who are actually crooked, usually it is not really anyone's fault at all. Tenant's complain that they have no control, building management claim they are stifled by tiny margins, landlords see a situation that both works for them and makes them money, and government thinks it has better things to deal with.

We have picked three of the top recurring tenant gripes. These three issues - building management utilities bill mystery, the gross area/net area veil of confusion, and the reinstatement rip-off - are all environmentally significant and huge points of contention that every one blames everyone else for.

The emperor's new management fees
It's funny how certain subjects just keep coming up. But it was not until a conversation between a corporate enduser, a former-landlord rep and a facilities management professor that the Emperor's New Clothes concept became clear. For those who don't know, the story goes that there was once an emperor who was extremely powerful, proud, rich and vain. He commissioned a beautiful outfit to be made by two cheats who tell him that the fabric is so fine that it cannot be seen by people who are dishonest or unfit for their position. He pretends to see the non-existent clothes and holds a grand parade to show everybody how fine he looks in his new outfit. The commoners and his aides go along with the charade, Landlord Fairytales worrying that they will appear dishonest or unfit for their position if they point out that he is not wearing any clothes. Finally a child calls out "but he's naked" and everyone laughs - the emperor carries on but has lost face and is now ridiculed rather than supported by those around him.

"Any landlord who claims to be green but that has a rental model that incentivises themselves to use more power not less is fooling themselves," says Marcus Bowen, Head of Asia, Corporate Property, Prudential. Another ex-landlord representative in Hong Kong admits having to go to the legal department to get a specially worded letter when one commercial tenant asked for a management fee breakdown so that they could install their own chillers. Other end-users in fear of their 'emperors' have asked not be to named, but have encouraged RFP to both write this article and to lobby government to make the separation of utilities bills and management fees law. Not only would this give tenants control over their carbon footprint and energy usage, it would help tenants appreciate electricity and water as commodities and building managment as a service.

Property management companies
Many people try to push blame onto the property management companies. The perception, and in many cases the truth, is that they make their margin on fuzzy management fee pricing and electricity is a large part of that. This practice is quite simply ridiculous. A management company is providing a service, and people pay pay for services. What law firm charges for its time and then insists that the bill is so high because of all the photocopying? Companies that do this should be very embarrassed at their own lack of self respect.

In some markets government regulation makes this inevitable. For example, in Thailand a much higher tax on rental income as opposed to business tax charged for property management. This has led to an arrangement between many landlords and management companies to balance rental income and management fees, meaning that latter can look disproportionally high to tenants. In China, business operating restrictions and tax regimes disincentivise landlords from setting up their own management companies, breaking the link between utilities and rental pricing but effectively incentivizing management companies to load utilities to make their margins.

Keith Futcher, Managing Director, ISS Facility Services, says that tenants and even landlords who ask for a line by line breakdown are treating property management as a pure commodity rather than the value adding service that it can be. "Some clients don't take into account all kinds of things that make our service blue chip," he explains, "The time we take to recruit, train and retain staff who will look after client needs, the maintenance costs of their uniforms and the wisdom that comes with training and servicing staff over a broad spectrum of property types is often overlooked by clients wanting to take this approach." Additionally, he points out that ISS is happy to work in a transparent manner with clients wanting to reduce their energy consumption as the company maintains rigid accounting standards. However, property managers and landlords sometimes find it difficult communicating to tenants and strata title owners the need to pay for a proportion of public utilities.

Any landlord who claims to be green but that has a rental model that incentivises themselves to use more power not less is fooling themselves.

Cost of meters
According to Robert Allender, Managing Director, Energy Resources Management, in the past the cost of installing meters to enable the adoptions of things like chilled water cooling may have provided an impediment to cost transparency. Nowadays, however, meters are cheap and easy to install. The Macau Venetian for example has a separate meter for each of its retail tenants.

Allender believes that the current status quo is a lose/lose situation for all stakeholders, except possibly utilities companies. He says that until corporate real estate executives say they want to know exactly how much electricity they are using, nothing will change. This is not even just about cutting costs and carbon emissions. Companies should be able to benchmark their best practices and, most importantly, their buildings.

Claude Bernatchez, National Director - Facilities Management, Cushman & Wakefield (in Shanghai), also points out the lose/lose nature of the situation clearly: "Most property management (PM) fees are fixed at a flat monthly fee paid by the tenant or strata title owner with no annual reconciliation to actual expenses." Read that last sentence again.

So now we have heard from a tenant, a property management company, an energy auditor, and a professor. Definitely time to get a landlords perspective. We shouldn't blame them, who wouldn't try to make a buck while they can? Unfortunately all of them declined to comment. Perhaps they are all off having a 'green parade' somewhere.


Interview: Claude Bernatchez, National Director Facilities Management,
Cushman & Wakefield
It has been said that landlords and property management companies are incentivised not to be transparent in the charging of utilities and management fees. Is this the case?
In the Shanghai office market, these PM fees typically are not negotiable and money collected over actual operating costs (sometimes as much as 15-35 percent of the total PM fee) is profit. And, as most landlords won't allow third party PM companies to earn this amount, there is often a flow back to the landlord as "alternative rent".

How is this different in other markets?
In other markets, operating cost transparency and reconciliation is law.

Would an honest open book approach to management fees, and allowing tenants to pay per use for utilities, be better for the environment?
Yes, definitely. This is the key missing link in China right now between the selection criteria of the end-user or strata owner and the investment decisions by the developer.

What challenges and opportunities appear for landlords in this situation?
The challenge is in rethinking investment returns and re-pricing in the market - that is in terms of rents, handover conditions and PM - as components of total occupancy cost. The opportunity lies in being first to market with a "Green Property Management" offering while this is a top priority for all end-user decision makers. I think that this has the potential of dramatically effecting capital values and therefore impacting the long term take-out financing for commercial properties in China - potentially a real benefit for developers operating in the tightening credit environment for real estate in China.

What possible problems could face property management companies and tenants?
There are tax and legal issues regarding the structure of PM companies, escrow accounts or money held in trust and how the PM companies can collect, distribute and reconcile the PM fees. The annual audit and reconciliation process will be onerous for some. For new buildings without operating history, it may be a challenge to show prospective tenants their likely total occupancy costs and convince them to move in if the PM is not fixed.

If sustainability is going to be a "must have" in the decision making process in China, open book property management is imperative. For example, for LEED certification to be anything more than "marketing BS" or "nice-to-have PR", reconciled property management cost is the only way for the market to separate more energy efficient, sustainable buildings and green property management operations from those that are less so.

How can good FM improve the environmental performance of buildings and is that ever hampered by the ambiguity of management fee structures?
The goal of FM service is to improve all aspects of performance, including the building's impact on the environment. Some of the biggest areas both PM and FM can affect is the consumption of water & power and the reduction of waste; with proper equipment selection, installation, audits, processes, maintenance and the quality of the original base building, costs can be reduced by as much as 10 to 30 percent.

RFP

Wk.

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