The Future of Office for Commercial Law Firms

Generalisations have their uses, but in the haste for simplification the individual nuance is often lost.

Today’s narrative is that businesses are handing back office space, hand over fist. Many indeed are, but generalisations don’t work in my game. What’s important for me is to understand the underlying drivers of change, because that’s what informs forward-thinking decisions. To this point, I recently interviewed a Senior Partner from a large Commercial Law Firm to gauge how the sector’s business conditions were impacting their property decisions. Below is what he told me. But first, some brief property stats from Australian Law Firms, to tee up the conversation. Australian Commercial Law Firms have reduced their office footprint by around 20-25%, over the last decade.

Examples of this reduction, using Sydney data only, include:

• Herbert Smith Freehills: 20,000sqm in 2014, to 15,000sqm in 2024, via 1 building move
• Minter Ellison: 13,000sqm in 2010 to 9,500sqm in 2024, via 1 tower move.
• Allens: 12,500sqm in 2019 to 8,500sqm in 2024, via 1 building move
• Ashurst: 15,500 in 2015 to 13,700 in 2024. Recently committed to 10,000sqm from 2025, via a new building move. Now to my interview, with a delightfully honest Partner, whose name and Firm shall remain anonymous.

Q:Why the space reduction? WFH?

A: It is not work from home that’s been the greatest driver of space change, but two other factors. Firstly; a cultural change; many Partners and Senior Lawyers now prefer to be on the floor amongst their team, rather than tucked away in a lonely office. So all that dedicated office space is now surplus to need. Secondly, a technological change. Partners used to have the assistance of their own EAs, then as technology became pervasive Partners relied less on their assistants for day to day matters. EA to Partner ratios have gone from 1:1 to 4:1 over a little more than a decade, with the obvious space requirement reductions.

Does the sector remain profitable enough to warrant the expensive office real estate?

For the most part business is relatively steady for the large Firms, and while there are peaks and troughs of demand, such as the recent softening of M&A, when you look at the largest Firms, last year they averaged over $500,000 of annual revenues per lawyer, which is considerable given the major Firms all have well over a thousand lawyers.

What shifts do you see in the sector regarding work trends that concern you?

From the perspective of someone who’s done this for many years, the biggest threat to the sector is this notion that skills can be transferred equally in a remote working environment, when this simply isn’t the case, and a notable skills gap is starting to appear. This is the iceberg ahead of the Titanic for the emerging generation. It’s all well and good saying let’s do a few days at home each week, if you’ve already gained the experience, but to reveal my true feelings, I think it is negligent of Partners and Senior Lawyers to deny juniors the experience that they themselves have benefited from.

What about the threat of AI?

Everyone is talking about AI as if it’s the end of lawyers. There’s no doubt that volume work, like conveyancing or drafting financing arrangements, are examples of work streams that will be disrupted by AI in the near future. But in the current moment AI is really an efficiency tool, for tasks like summaries of documents, or for researching points. Today the results from AI are incomplete, and real lawyers have to review and amend to final versions. I’m not saying that AI won’t change the legal workforce numbers, I’m just saying it hasn’t yet.

What is the role of office in Law Firm’s War for Talent?

People who choose to take up Law do so mainly because of the career and financial opportunities that it offers. There’s little delusion about the long hours and hard work required to stay the course. So the criteria for talent in selecting a Firm, regardless of experience, is market reputation, subject specialisation and career enablement. Therefore, while office environments are important from a functional perspective, they are perhaps less important for Law Firms than for other sectors. With all that said, Firms invariably have prime office locations, with quality interiors, and the high views. But this has as much to do with the clients we welcome to our office, as it has to do with the lawyers themselves.

Any last comments?Firms should always be thinking of the next generation and their career experience, because they will be servicing the clients of tomorrow So there you have it folks, a genuine and informed perspective, that sounds entirely logical to me.

Are Flagship Stores out? Why uplifted local stores are winning in 2024.

Flagships are a statement of brand potency and experience. They’re ostentatious and bold, like a peacock fanning its feathers in the evening light, demanding its rightful attention.

For retailers, the Flagship Store is the ultimate shopwindow, a luxury of the senses, where architecture, artistry and product meld into a cocktail of delirium and fantasy. 

Dior-Paris, Burberry-London, Tiffany-New York, Prada-Tokyo, and too many more incredible temples of experiential retail to mention. 

But the point-of-sale system might accuse them of being little more than a vanity project, that connects more with the retailer’s ambition, than they do with the customer’s need.

In today’s omnichannel shopping experience, does the Flagship Store justify the cost, and what incremental value can you expect to achieve in brand association and customer acquisition?  

The Case for Flagships:

There’s a valid argument that in today’s age of astronomical digital ad spends, a flagship is a powerful way to connect directly with consumers, create content and build brand, at a fraction of the cost for the same cut-through and engagement.

Retail is as much about emotive purchases as rational purchases. Emotion is what drives our industry, and flagships run on pure emotion. The flagship is the ultimate marketing project, and there is so much that can occur after a shopper has left a flagship, even empty-handed, that it cannot be contained within a store’s P&L. Scrutinising its value through dollars and cents is fundamentally missing the point – and the true value.

Big brands like Lego, Mecca, Nike, Dyson and Camp USA, have near perfected the flagship model, with oases that pull crowds in, and reverberate out, as the experiences are re-told again and again. Locally, Rebel’s new award-winning Emporium Melbourne Flagship is a masterclass in bringing the fun, movement and engagement of their products directly into the store experience.

The Case Against Flagships:

Yet Flagships fail most when they are created at the expense of the rest of the store and omni-channel network. As if one child in a large family was given more nutritious food, and packed off to the top school, while the others just got by. And worse still, that privileged child somehow ended up with the lesser grades. Or in the retail world, negative profits.

The Shift to Local Stores:

In Australia, local shopping centres are increasingly where retailers are seeing the highest margins and most consistent footfall.

37% of Australians now regularly work from home, and this will trend up as the current student population transitions into the workforce. Going into our city centres now has a defined purpose, not just our pre-2019, automatic 7.55am train ride. Our days are for scheduled meetings, active socialising, and absorbing the working vibe of the surrounds. Office workers no longer have an idol hour to kill each day for their “lunch-break” so perusing the aisles of a massive store now seems like time-lost, not experience gained.

We are living in the flexible work era, and our shopping time-allocation has emphatically transitioned from the centre to the suburb. With this new shift follows a new demand; our local stores can no longer be the lesser experience. It is also the perfect vehicle for the hyper-personalisation we’ve all become accustomed to online: we want someone to know our name, remember our previous purchases, and welcome us back like the loyal, valuable customer we believe we are.

What better way to do that than in local store hubs? Personalisation can be very expensive at scale, but in a local store, great retailers already have personal relationships and connections with their customers, and it costs little more than a smile and some old-fashioned hospitality.

Camilla understand this well, and refer to their stores as a place to socialise, not shop. Their customers come in for a wine and a chat, and accidently walk out with a kaftan. Retail Prodigy Group do this by measuring whether staff learn their customers’ names when they walk into a Samsung store. Neither of these things cost a fortune, but they create huge lasting impressions and foster genuine warmth and connection with these brands.

On a slightly grander scale, but by no means the expense of a Pitt St Flagship, Australia Post deliberately went to Orange, a local community crying out for services, and built the first of their community hubs that meets their customers where they are, and with services that they were asking for. Work-hubs, showers, barista coffee, all while you pick up your ecommerce parcels. And they recognise that their stores, services and product offerings will continue to be very different from town to town, city to city tailored to their customers. What better way to drive both acquisition and retention than with a local format that embraces and respects the community it contributes to.

5 Guiding Principles for Flagship’s in 2024

Assess, in honest detail, the following to inform your Flagship decision.

1.     From a customer view; does your brand have a compelling reason for grand experiential retail? 

2.     What is its real purpose? Explicit front-line sales, or Implicit brand & marketing?

3.     Is your Flagship stand-alone and separate to, or fundamentally integrated with the rest of your store network?

4.     What is its proximity to your customer base? Are you located where they do their shopping, or must they travel to you?

5.     Where is your customer? Are you meeting them where they are, with what they need, or are you channelling your inner Kevin Costner: “Build it and they will come”

To flagship store or not to flagship store, perhaps the answer is not yes or no, but why, and at what cost? We all know consumers shop across all channels at different times for different purposes, and the experience must be of a comparable quality across the network. Flagships have incredible power to delight, inspire and connect, but it is local stores – done well - that have the most power to drive loyalty, long-term relationships and the best R-word in retail: retention.

What Lenders reveal about the true Risk Profiles of different asset types

To know the truth, look below the deck.

On the stage, at the big property event, the well-known landlord Exec will talk of the importance of understanding the nuance of asset bifurcation. They will talk through the data, proving that flight to quality is real and very much alive. They will talk about the accelerated population growth that skilled migration brings to Sydney and detail its projected impacts on office uptake. They will talk about the tide-turning, as workers come back to offices in droves, citing Opal Card data or other. And they will talk about the considerable office stability that Australian cities have in comparison to other gateway cities, such as London, New York and Toronto. It is understandable and right for them, in their role, to present this narrative.

Behind the scenes, where the real stuff gets done, the people who assign the money, the lenders, are offering a different narrative, by way of their lending appetite.

• Only 10% of Australian lenders now categorise Office as a favourable asset class.

• Industrial, Build-To-Rent, Build-To-Sell, and Alternative Assets are now, respectively, the top 4 lending asset classes across investment grade real estate.

• Office is currently ranked below Retail.

• Most Lenders now require a pre-lease commitment above 60% for Office to be considered, while Industrial requires no pre-lease commitment at all.

• In 2023 Australian banks reduced their exposure to Office debt to its lowest mark since 2010.

To say that Office is an investment concern is a bona fide understatement. A better simile would be to say it's a boat with a gaping hole in its hull, and the captain and crew members are quietly suiting up with life jackets.

And while in the short term this Office paradigm does indeed present tenants with a powerful bargaining chip to secure quality office with high incentives, in the long term it means that the overall product, particularly lower grades, may deteriorate through lack of available investment. It may also mean that fringe and suburban Office Hubs, like Mac Park and Chatswood, become dingy and soulless.

Many landlords have provided an excellent service over the years, and no one wants to see them fail, but Office, in its post-industrial era form, is radically changing. Crucially, however, the businesses and people that used to congregate within them, are not.

They are very much here and thriving and are just looking for new environments to suit a new purpose.

For many of us, this transition from past to future will be a struggle. Today's entrenched leaders are unlikely to be the right people to lead tomorrow's workforce, as the temptation to go on another "in my day" rant may prove too great.

And so, as autumn turns to winter, eventually the green shoots of spring will arrive, and a peaceful rhythm will settle in once more.

Scentre Group threatens to lock out David Jones

This week David Jones is again in the news because of a breach of lease across their Scentre Group portfolio. After a stoush that has been unfolding over at least the past month, Scentre have now issued a formal breach notice on 8 stores (out of a total of 19), because a change in control has occurred without their approval.

DJs was acquired in March 2023 by Anchorage Capital Partners, who have a mixed record on retail acquisitions, with the ill-fated Dick Smith 2012 purchase and subsequent collapse, and the more recent voluntary administration of Scotts Refrigerated Storage, sitting alongside success stories such as Brand Collective (who own Superdry, Volley, Shoes & Sox).

According to the AFR, “Scentre is not convinced Anchorage is a satisfactory counterparty to the lucrative long-term leases it has signed with David Jones and has refused to agree to the change of control”.

What is a Change in Control?

Change in Control is a lease term often overlooked by smaller retail tenants, but very surprisingly so by a major like David Jones. Essentially, change in control refers to a situation where the ownership or control of the tenant changes hands. This can occur in several ways, such as through a merger, acquisition, or sale of the business.

Most tenants don’t assume that their landlord could dictate if and to whom they sell their business. But this clause effectively allows this, and it can come as shock to both little and big retailers alike.

Typically, landlords seek to include this clause in case the tenant is acquired by another company that may not have the same financial strength as the original tenant. This could potentially impact the tenant’s ability to meet their rent, refurbishment, or other obligations to the landlord under the lease agreement. 

To protect the landlord’s interests, a lease agreement may require that the tenant obtain written consent before any change in control occurs. The landlord may also reserve the right to terminate the lease if there is a change in control without their consent, as is the current scenario with David Jones, or to require the new tenant to provide additional financial guarantees or security deposits.

The other concern shopping centre owners tend to have is in regard to the new tenant’s reputation and retailing skill. The change in control carries a potential risk of negatively impacting the centre tenancy mix, brand credibility and overall customer experience.

What can tenants do to better protect against a change in control clause?

Whilst they are often tedious to read, and harder to understand, it’s important not to gloss over a change in control clause. This applies even if you are not currently considering selling or listing your business in the future. It’s apparent now that David Jones may not have thought they would ever sell, when some of these breached leases were signed in the 1970s.

Depending on your position, and your landlord’s priorities and concerns, there are a number of different strategies that may be applied in order to reduce your exposure and increase your operating flexibility.

In new lease negotiations, it is often possible to remove this clause altogether, or substantially reduce the limitations it can have on your future dealings. Mitigating this exposure could include seeking an assignment of the lease to the new entity without the need for the landlord's consent, provided that the new tenant meets certain financial criteria. Alternatively, ensuring a change in control only triggers at a certain percentage of ownership (typically 50% or more), or does not apply to an IPO.

If you’d like to learn more about change in control strategies, or other ways to mitigate your leasing risks, reach out to me or any of the team at Franklin Shanks for a chat.

Jaymie Rowland

Head of Retail