All Profit is Derived From Risk
The 'Low Risk' Paradox
As management thinker Peter Drucker famously stated, "all profit is derived from risk."
For decades the commercial property sector has chased the mirage of the (very) low risk return, driven by the demands of financiers & investors, and reinforced by conservative valuation practices. The age-old reference point of the ‘bond yield spread’ evidences an approach to property investment that is seen as only marginally more risky than a largely risk-free government bond.
This drives a behaviour amongst property developers, owners and managers that has stifled innovation and produced a glut of generic workspace offerings that often fail to meet the evolving needs of modern business. With hybrid working now well entrenched, and employee expectations of their workplace higher than ever before, this risk averse approach is at odds with the demands of the occupier.
The shift to operational real estate – workspaces that offer a broad range of activated amenities, hospitality-led workspace services, and flexibility – coupled with the critical nature of workspace brand, require an approach that not only tolerates a higher degree of risk, but a actively embraces it.
The Financier's Fear
At the heart of this issue lies the financier & investors. The institutions that fund commercial property development, (banks, investment funds, and the like), understandably prioritise the safety of their capital. They seek predictable returns and abhor volatility. This translates into a preference for investments perceived as low risk: established property types, long-term leases, and tenants with impeccable credit histories.
However, this demand for security often leads to an aversion to anything novel or unconventional. Operational real estate is an anathema to them. Developers, owners and managers find themselves constrained, pushed towards replicating what already exists rather than venturing into innovative designs, embracing new technologies, and creating spaces, amenities and workspace service solutions that occupiers crave.
The result is a self-perpetuating cycle of sameness, where the fear of risk chokes off the potential for truly ground-breaking projects.
The Valuer's Echo Chamber
Property valuers play a crucial role in this dynamic. Their methodologies, heavily reliant on comparable sales and income capitalisation, inherently favour established property types. How can a truly innovative building, one that redefines workspace paradigms, be accurately valued when there are no direct "comparables?". The fear of being sued is a significant motivating factor, leading to an approach where there is minimal risk in the valuation advice, coupled with sufficient caveats in the reporting.
This creates a challenge.
Valuers, in their pursuit of accuracy, defensibility, and low risk advice, often reinforce the financier's risk-averse stance. The system becomes an echo chamber, where caution is amplified at every stage, and the potential for transformative development is strangled.
The Beige Brigade
The consequences of this risk-averse approach are plain to see: a sea of "vanilla" buildings that dominate the commercial landscape. These spaces, often characterised by inflexible layouts (buildings designed around the structural grid of the basement car park is bizarre), outdated infrastructure (designing for a static density of 1 person to every 10 sqm is a simple example), a lack of compelling amenities & flexibility, let alone a forward thought to how the workspace will be truly operationalised, struggle to inspire. They fail to cater to the dynamic needs of modern businesses and the expectations of a workforce now accustomed to significant flexibility and choice.
As knowledge work evolves, demanding collaboration, creativity, flexibility and well-being, these generic buildings risk short term obsolescence.
The Paradox of Prudence
Herein lies the great irony: the pursuit of "low risk" commercial property investment ultimately creates a significant risk of irrelevance and obsolescence. In a world of liberated work, where employees are "employee-customers" with heightened expectations, businesses are drawn to spaces that offer experience, service, flexibility, and a sense of community.
Older, generic buildings, struggling to compete, face the very real risk of prolonged vacancies and rapidly declining value. The same applies to ‘bland’ new office developments and refurbishments. The desire for risk aversion presents, in fact it creates, a significant risk of obsolescence.
The Flexibility Factor
Adding another layer of complexity is flexibility.
Tenant demand is increasingly skewed towards flexibility, driving the need for commercial office assets to provide adaptable and flexible solutions for their occupiers.
However, flexible workspace operators, who can provide this flexibility to occupiers, are increasingly moving away from traditional leases with landlords. Instead, they often seek management agreements, where the landlord and operator share revenue. This model compounds the risk-averse valuation challenge.
While the valuation of management agreements is not new – the hotel sector, for example, has extensive experience with this – commercial property valuers often struggle to attribute sensible values to flexible workspace management agreements. This reluctance further reinforces the conservative tendencies within the sector, and pushes landlords away from offering what their customers are demanding.
If a product is created for which there are no customers, is it really a product at all? It is definitely not a quality investment opportunity!
Embracing Calculated Evolution
The path forward demands a fundamental shift in mindset. The commercial property sector must move beyond the illusion of risk elimination and embrace a more dynamic approach. An office asset is not a government bond.
This requires:
Enlightened Finance: Financiers who understand that calculated risks, such as funding innovative designs with extensive and activated amenities and flexibility, together with hospitality-led workspace services, can yield significant rewards. Embracing this perceived risk is a risk reduction strategy in itself.
Adaptive Valuation: Valuers who develop methodologies to assess the value of experience-led spaces and alternative operating models, recognising the importance of factors beyond simple square footage, lease terms, and the fabled “comparables”. This is a well-trodden path in sectors outside of office, so the solution is not complex.
Tenant-Centricity: A laser focus on understanding and anticipating the evolving needs of tenants, prioritising flexibility, technology integration, and the creation of compelling workplace experiences through a broad range of activated amenities and hospitality-led workspace services.
The Future is Fluid
The future of commercial property is not about eliminating risk, but about intelligently embracing and navigating it. It's about recognising, as Drucker noted, that profit is inherently linked to risk, and that the greatest risk lies in clinging to outdated models and failing to adapt to a world where work is no longer tethered to a desk.
The sector must embrace a future where agility, innovation, and a hospitality-led approach are not seen as risks, but as the very keys to unlocking long-term value and creating spaces where businesses and people can thrive.