e enjte prill 20, 2006

Adobe: Going its own way downtown

The prevailing view in Silicon Valley is that companies need suburban style campuses to recruit top talent and to allow that talent to develop the ideas needed to be profitable. The more horizontal the better. Engineers want suburban-style amenities, and ideas can't flow up elevators – or so goes the thinking. Adobe Systems (www.adobe.com) continues to thumb its nose at this dogma.

Adobe has for several years been operating out of a 1,000,000 square-foot high-rise campus in downtown San Jose. This campus houses over half of Adobe's principle operations (excluding the acquired Macromedia operations). And it's not populated by just HQ folks. It also has sales, marketing and –yes-- even R&D engineers.

Adobe is so happy with its high-rise campus that it has just bought the adjacent five acres so it can expand ( “Adobe Acquiring Downtown Development Site”/GlobeSt.com ). But it's all alone downtown. No other major tech company has even tiptoed into the downtown high-rise environment. But if Adobe's performance is any measure, a downtown high-rise campus can be good for business. Both revenue growth and operating margins are a spectacular more-than 20% per year and the stock value, while still down from its dot.com era peak, has quadrupled from its post-crash low four years ago.

Tech companies should take note: Maybe volleyball courts, surface parking lots, and supermarket-sized floors don't matter after all.

e martë prill 18, 2006

Is there an ROI on earthquake preparation?

Today is the 100th anniversary of the Great San Francisco Earthquake. The media hoopla is reminding those of us in Silicon Valley, and in the broader Bay Area, of the need to make preparations for the Big One. At home, I'm finally putting together a formal earthquake kit. I know this makes sense because just a little preparation could make a big difference as to how well my family survives a major quake and its aftermath. I don't need to do the math to know that the value of my family's survival is so high that that value times the probability of a quake would far exceed the cost of a first-aid kit, some cans of baked beans, the can opener that I mustn't forget, and jugs of water. For me, there's definitely a positive expected ROI.

For companies, though, calculating the expected ROI on earthquake preparation is not so easy. In their deliberations, companies have to consider -- in addition to the cost of preparation and the likelihood of a big quake, -- what the value of their company will be after the quake. Will it realistically be enough to justify investing money, time, and effort today in creating a Business Continuity Plan (BCP) to improve the chances of survival tomorrow? Is the expected ROI on BCP positive? The answer depends largely on how dependent the company is on the Bay Area.

On the one extreme are companies with only upper management in the Bay Area and with operations, customers, and vendors elsewhere. Their value will not be hurt much in the event of a quake so the relatively low cost of BCP's to assure that management can stay in contact with operations should have a positive expected ROI.

At the other extreme are companies with operations, vendors and customers heavily dependent on the Bay Area. Their economic ecosystem is going to be so disrupted by a quake that no matter how well they prepare, survival is doubtful. The cost of a BCP, likely to be an expensive proposition given the amount of operations in the Bay Area, would have a negative expected ROI.

Most companies, though, fall between these two extremes. Sun, with its globally-dispersed operations, international supply-chain, and worldwide customer-base is pretty close to the “it makes sense to BCP” extreme. I'm not sure, though, how far down the continuum between the two extremes is the dividing line between those for whom “it makes sense to BCP” and those for whom “it does not make sense to BCP”. I suspect companies on both sides of the line are acting in ways that are not rational for themselves and/or not best for the public, and this creates some troubling concerns – particularly as they relate to Silicon Valley companies and the future of technology.

My first concern is that the “bet the farm” business style of Silicon Valley results in companies not putting enough effort into creating BCP's even if rationally they should because their BCP would have a positive expected ROI. While many companies talk about the importance of creating BCP's, the lack of standards in Business Continuity Planning, a field that is still relatively new with little real after-disaster experience, makes it difficult to know whether the proper level of time, money and effort is being expended. Realistically speaking, when confronted with the need to show quarterly results, it is always tempting to forego efforts that might not pay off for many years.

My second concern is the corollary of my first. While some companies may not be putting enough effort into BCP's when they should, my second concern is about companies putting in effort when they shouldn't. Spending money on things like duplicating facilities and taking management time on developing, presenting, and approving plans are drains on company resources and the economy at-large. Are companies seriously debating whether developing a BCP makes sense? I doubt it, and it's probably politically-incorrect to even suggest that a debate is worthwhile. People often see BCP as a life-safety issue, which it isn't. The effort required to save lives in the event of an earthquake is very different from that required to assure the continuity of a business enterprise. If a BCP doesn't have a positive expected ROI, it should not be pursued.

My third concern arises, not from the perspective of the company, but rather from the perspective of the public. Where companies are acting rationally and not pursuing BCP where the expected ROI is negative, their decisions may not be serving the public well. The life blood of the tech sector, and Silicon Valley in particular, rests on a lot of small, entrepreneurial companies creating, developing, and market-testing new ideas that find their way to market via the larger companies that acquire them. These local, small companies are exactly the types of companies for whom “it does not make sense to BCP”. Most are on the edge of survival already and can't afford the time and resources to create BCP's for some possible future event. Yet, if these companies were to go under after a quake, the Silicon Valley food chain would be disrupted for many years, and the advance of technological innovation upon which the public good depends would be significantly slowed.

Are there any solutions? My first two concerns – that corporate managers are not always making rational choices as to whether to invest in BCP's -- need to be addressed by the growing “BCP industry”. The consultants, contractors, and corporate managers involved in the BCP movement have been great at proselytizing the need for BCP's, raising awareness, defining risks and proposing mitigation strategies, Now, though, is time to move beyond advocacy. They need to introduce financial discipline to BCP thinking so they can become decision-facilitators. The path from proselytizer to decision-facilitator is one that other industries, like environmentalism, have also followed in order to have impact.

The third of my concerns requires some new thinking. Rational corporate decisions that are not necessarily best for the public are common in capitalism, and require intervention to protect the public interest. I have no idea, though, what such intervention might look like for this situation. I certainly don't see any government role, but maybe there's a role for the larger Silicon Valley companies. They could take smaller ones under their wings and help protect them by including them in their BCP's. Or maybe they could fund an organization that, in turn, funds BCP's for the smaller companies. These ideas are, admittedly, a bit idealistic, but perhaps they can prompt the creation of some better ones.

In the meantime, we all should do those things that obviously have positive ROI. Let's make preparations to protect our families, the lives of others, and the Bay Area institutions upon which our lives depend. In the corporate world, let's make BCP part of every day decision-making and take all the little easy steps first. Let's not forget, for example, that everytime a Silicon Valley company hires a person here instead of elsewhere the company's earthquake risk increases. Let's take the easy steps one at a time so that we might be able to avoid the large steps needed once a company becomes too Bay Area dependent. For the companies that are already very Bay Area dependent, let's evaluate critically how much should be invested in BCP. Let's not get too caught up in the warnings accompanying the San Francisco Earthquake centennial. Let's try to make personal and corporate decisions rationally. And as a public, let's extend the discussion about earthquake preparation beyond bridges and aqueducts and start talking about how we can protect the economic ecology of Silicon Valley and the advancement of technology.

e enjte prill 06, 2006

Can real estate consolidation bridge CSC's $1 billion gap

Computer Sciences Corp, which over the last year has had talks with several potential purchasers, announced this week that it's hired Goldman Sachs to advise it and to find a buyer. Heretofore, offers have been $1 billion less than CSC thinks it's worth, and CSC obviously is hoping Goldman Sachs can find that extra value.

If ever there was an M&A deal that showed how a portfolio of office space, held solely for a company's own use, can determine whether a company is sold or not, this is it. The $1 billion bid-ask spread is not much given CSC's current valuation slightly above $11 billion. On the margin, the real estate portfolio could make enough difference as to how prospective purchasers value CSC so as to determine whether the decision is “go” or “no go”. Here's why....

CSC has a huge office portfolio relative to its $14 B of annual revenue. This is not surprising given the labor intensity of its business which employs legions of software engineers, systems admins, data architects, etc. all of whom need office space. According to its last annual 10K SEC filing CSC had 79,000 employees. Compare this to Sun Microsystems which has roughly the same revenue (or will once the StorageTek acquisition is fully integrated) but has about half as many employees (even after the StorageTek integration).

CSC's labor intensity leads it to being very office-space-intensive. At the end of its last fiscal year, CSC had 18 million square feet of offices around the world. The lion's share of this space – 14.5 million square feet – is in leased premises and costs the company about $350 million per year in rent obligations alone. Including other costs attendant to keeping the spaces operational, I'm guessing the total expense of the space is at least $500 million (or about $35 per square foot). The operating expenses related to the owned portfolio would be in addition to this.

So how does this large office portfolio affect the price that CSC might go for? Answer: There's evidence that CSC has excess space in its portfolio and, to the extent it can be excised economically, the enterprise value could easily increase by $1 billion.

Like a lot of tech companies, CSC ballooned in size over the last decade. In 1998, it had only 45,000 employees and 8 million square feet of space (versus 79,000 employees and 18 million square feet today). Also like a lot of other tech companies, including Sun, keeping square footage in proportion to people has been a challenge. In 1998, CSC had 177 square feet per person, today it has 227 square feet per person, and after the 5,000-person layoff it announced this week, it will have 243 square feet per person. This is a negative trend, but these metrics point to opportunity.

Assuming CSC only needs the 177 square feet per person it had in 1998 – granted a high-level assumption needing vetting – CSC is going to have 66 square feet too much per person for a total of 4.9 million square feet of excess space. If all of this space could be jettisoned from the portfolio, at my estimate of $35 per square foot, this amounts to $170 million of potential annual savings. About $100 million of this would flow to the bottom line after taxes. If anywhere near this full potential were realized, even accounting for the costs of achieving it which I discuss below, this will add measureable value to the enterprise.

Now, it's unlikely that all these savings could be achieved. Consolidating people so space can be excised from the active portfolio is easier said than done. Things like adjacency needs for work processes and employee commute patterns cannot be ignored in an attempt to reduce costs. If people cannot be consolidated so space can be exited in chunks, no savings are possible.

To the extent consolidation can be achieved, however, savings would be visible much more quickly than you might think if you're not familiar with accounting for excess property and company acquisitions. While it might take a few years for cashflow benefits to show up because rent on excess properties keeps flowing out the door until the leases expire, the expense of excess property would immediately be taken out of P&L upon exit of the excess properties. This is in keeping with accounting standards designed to allow P&L to better reflect the underlying cost structure of the company. And while assets would have to be written-off and reserves would have to be established for excess property rents, these costs would likely never hit P&L. They would be folded into the purchase price, result in increased goodwill on the balance sheet, and would only hit P&L if the goodwill were later written down.

There would be a downside to the accounting, though. The reserves would show up as liabilities on the balance sheet, representing real obligations that would eventually have to be paid off, mostly in the form of rent on the excess properties less any sublease income that might be possible. Understanding the scope and scale of these excess property liabilities is where potential purchasers will have their work cut out for them.

The scope and scale of the excess property liabilities will depend on the structure of CSC's real estate portfolio, something that is not that evident from its 10K. Are offices near enough to one another to allow inter-office consolidations of employees so that large blocks of excess can be disposed? What are the lease lengths and provisions for cancellations for the property to be deemed excess? Do floor plans allow demising of space to sublet and are those spaces built-out so subtenants could use them without a lot of further investment? At what stage of the demand/supply cycle are markets in which the subletable spaces sit and will sublets be at a profit or at a loss?

So, getting back to the central issue: taking all this into account, can $1 billion of value be gained by consolidating and restructuring CSC's real estate portfolio? Very possibly. Using the potential savings of $100 million as a benchmark, and applying CSC's Forward P/E ratio of about 16, the enterprise value would potentially increase by $1.6 billion. Netted against this would be the liabilities of the excess property. A detailed plan will be needed to figure out exactly how much space can be exited, what percentage of the $100 million can be saved (and hence what percentage of the $1.6 billion of gross value can be realized), and what is the net value after accounting for the excess property liabilities. Creating and evaluating such a plan will be the task before each potential purchaser.

A final note: I haven't even talked about the potential inherent in the owned office portfolio of 3.8 million square feet which I'd speculate has a market value somewhere between $300 million and $800 million depending upon the degree to which it were leased-back. Some or all of this owned portfolio could be sold to help finance a purchase. And while past prospective purchasers probably understood that these assets could be monetized via a sale-leaseback, unless they dug deeper into analyzing how much of the office portfolio might not be needed, they would not have realized that some of the space would not have to be leased-back.

It'll be interesting to see how the CSC sale plays out. There have been other big M&A deals that have been dependent upon real estate, but these have been the purchases of retailers, such as the $6.6 billion buyout of Toys R Us, where the value and obligations of store leaseholds loomed large. As for the purchase of a non-retailing, non-real estate public company, though, CSC could be the first that is so dependent upon investors rolling up their sleves and examining what can be done with the real estate portfolio.

e premte dhjetor 16, 2005

Hooray for PGH

Just can't help bringing attention to my old hometown....

Google just announced that it is establishing a research center in Pittsburgh. Not a big center -- just expected to grow to 100 people over a few years -- but anything associated with Google nowadays is big news and gets attention.

I'm sure the announcement is going to raise a lot of eyebrows, just like when Rand McNally named Pittsburgh the most livable city in America back in the mid-1980's. Most people think of Pittsburgh as an old-economy city cloaked in black smog and soot. Well it used to be, but things have changed. It's actually high-tech flavoured now. They don't make steel in Pittsburgh anymore, and at least one of the old mill sites is now an R&D park. The biggest employer is, I think, University of Pittsburgh (called "Pitt" for those in the know) which is big in medical tech, and it's located "just down the street" from Carnegie Mellon University which excels in IT -- which is, of course, the attraction for Google.

Pittsburgh has been for quite some time a town ready to be discovered. Maybe the Google announcement will unveil its attractions. The city regularly ranks highly in most-desirable-cities-to-live surveys due to its great universities and museums (a legacy of the city's early 20th C prosperity), dramatic landscape, recreational opportunities, relatively mild climate, etc. and, most notably, low cost of the living. The last of these is, granted, a somewhat back-handed complement because it largely results from the city also being one of the "most leaveable" cities -- with its population having peaked in the mid-1970's as the old industrial jobs were lost. Low demand for housing has made homes incredibly affordable.

No doubt, it would be over-reaching to call Pittsburgh "the next Silicon Valley" -- or even "the next Austin or Denver or San Diego", but with the Google announcement maybe the city will get a little more of the respect it deserves.

e martë gusht 30, 2005

Typo's and all....

I started this corporate real estate blog a few months ago with good intentions to post regularly, but alas, the demands of my job (and two pre-school kids) seem to have gotten in the way. In my defense, I did compose a few posts prompted by current events – things like the role of real estate portfolios in a company privatization like the $11B Sungard purchase, the effect of the dollar's fall on corporate real estate budgets, and even the advice I'd give the new pope about the Church's real estate portfolio if I had an audience with him. Seems, though, that my Nervous Nellie habit of wanting to edit things before posting them bogged me down. By time pieces were complete to my satisfaction, the news upon which they were based was no longer news.

So I'm changing my ways. Expect syntax that leaves much desiring, mispelings, and typpo's. But at least I'll get my thoughts out there.

Another problem, though, will still plague me. I'll still have to be careful in what I write publicly about Sun's private real estate activities. On one hand, I want to write candidly about our real estate plans so members of the real estate community can think about how they might partner with us for mutual advantage; and I also want to write candidly about insights gained from my Sun experience, under the theory that these insights will aid others and that “helping each other helps us all”. On the other hand, as an employee of a publicly traded company, I don't want to reveal proprietary information or run afoul of SEC regs that govern public disclosure. For example, after the announcement of Sun's intended acquisition of StorageTek, I was going to post a piece about real estate challenges attendant to M&A activity but it was too difficult to write anything of substance that did not reveal at least something about how we would be thinking about the integration of StorageTek – and providing such insights might have required a public SEC filing. So I elected to be cautious and never posted the piece. As I proceed with these posts, though, I'm hoping I'll find a better middle ground – somewhere between “overly-cautious” and “overly-candid”.

In any event, I'm back on-line. I still believe in the need for this blog. I am prompted back partly by a couple recent Peter Pike dispatches wherein he wrote about real estate blogs. “Where are all you real estate bloggers?” he wrote. Seems that he did a search and didn't find too many worth writing about. I've done some searching of my own, looking particularly for blogs about corporate real estate. I didn't find any. So I guess I'm it.

More to come. I promise. Typo's and alll.

( Gsh 30 2005, 02:28:12 MD PDT ) Permalink Comments [17]

e enjte mars 10, 2005

The CRO??

I don't know if the top corporate real estate executive of any company has taken on the title of "CRO" -- Chief Real Estate Officer -- but I wouldn't be surprised if this job title isn't eventually adopted by many. An article in the February 24th issue of the Economist entitled “A Rise in the C-level” talks about the trend towards establishing new C-level positions in corporations. It used to be that corporations had only CEO's and CFO's and the occasional COO. Now there are posts for all manner of CXO's: Chief Information Officers, Chief Technology Officers, Chief Talent Officers, Chief Purchasing Officers, Chief Privacy Officers, Chief Growth Officers. Why not CRO?

According to the Economist, “the rising number of C-level appointments indicates a significant change in corporate structure” reflecting the fact that “heads of specialist functional 'silos' (finance, human resources, IT, etc) are becoming more and more involved in talking corporate strategy with the chief executive and the board”.

This certainly rings true to me, particularly for the tech world. In a fast-changing world where product lines often do not last more than a few years, the functions that define the corporation's character – its culture, organization, business practices, geography, and financial structure -- seem to me to be the ones that are really strategic. Products will come and go, becoming almost tactical responses to how best to use the corporation's resources at any particular time; the corporate character is what endures and determines long-term success.

No function defines a corporation's character more than corporate real estate. Over the last decade, real estate groups in many companies have come to be respected strategic functions. I would like to think the Workplace Resources function at Sun is one of these. We've been involved in many strategic issues that go far beyond our traditional “facilities management” role. We've played active, sometimes lead, roles in addressing issues such as the company's geographic configuration, recruitment and retention of employees, and cost structure.

Probably no CEO has gone so far to think that long-term strategy isn't about products – my admittedly unconventional assertion, above – but many, if not most, now realize that the functions are no longer just services for the business units; they now play important strategic roles. The rise of the CXO's evidences this. I'll be watching to see if anyone is annointed "CRO".

If you are a subscriber to the Economist, you can check out “A Rise in the C-level” at www.economist.com. Search "C-level" in the February 24th issue.

e hënë mars 07, 2005

New Corporate Real Estate Blog

I'm starting a dialogue about financial issues in corporate real estate (CRE) and invite all interested parties to join in.

The dialogue I envision will be about difficult issues CRE execs confront as they make risk/return decisions for their companies – decisions like whether to lease long or lease short, whether to lease at all or own, whether to plan around market cycles or ignore them.

It'll also be about issues CRE execs face as they attempt to reconcile the divergent goals of, on one hand, the corporations which they serve and, on the other hand, the real estate industry within whose world they must operate. I hope the dialogue will allow three groups – CRE execs, corporate finance execs, and real estate investors – develop a better understanding of each others' worlds so they can better team to create value-creating CRE solutions for their mutual betterment.

Many of my postings will be prompted by news items that relate – many times not so obviously -- to corporate real estate. As such, I hope the ensuing discourse will be provocative and have a certain immediacy.

I also plan to post about issues that I confront in my role as Head of Financial Strategy in Sun's Workplace Resources group. Since this dialogue will be available to those both inside and outside of Sun, I will have to be careful to not divulge any proprietary information. Even with this restriction, though, I believe I'll be able to post articles with enough substance to provoke comment.

Which brings us to the issue of "comments"...

A dialogue requires more than one voice. I am hoping readers will comment on my postings and on each others' comments and that the blog takes on a life of its own. I'll be the steward, but I don't want to be the only one heard. The greater the participation, the more we'll learn from each other.

So I'm hoping to hear from readers, and now would not be too soon. Seriously. A good way to comment now would be to give me suggestions for topics I should address. I'd really like to hear your ideas. Please let me know by commenting on this posting.

I look forward to hearing from you