Real estate & the networked economy

Recognizing the future: Real estate & the networked economy

Hanson, Woodward S


Alvin Toffler, author of the 1970 forward looking Future Shock, prefers to describe phases in human history as a “series of waves.” The first-wave transformation was human development of “agriculture.” The second was the Industrial Revolution, and the third is the current “knowledge age,” driven by information technology and demands for freedom. Peter Drucker, the pre-eminent business philosopher of the 2011, century, as far back as 1969 noticed the advent of an emerging new economy with the arrival of ‘knowledge workers.’ This new economy was referred to as the Information Economy, because of information’s superior role (rather than material resources or capital) in creating wealth.

Kevin Kelly, executive editor of Wired and author of New Rules for the New Economy, prefers the term “Network Economy” because information isn’t enough to explain the discontinuities he sees. Kelly states that this ‘new economy’ has three distinguishing attributes: 1). It is global; 2). It favors intangibles – ideas, information, and relationships; and 3). It is intensely interconnected. And, that these attributes will lead to a society and marketplace characterized by ‘electronic ubiquitous networks.”


Against the backdrop of Toffler’s third wave; Drucker’s information economy; and Kelly’s ubiquitous networks, the fragmented, commercial real estate industry is experiencing forces of change. Hopefully, all leading to a more efficient, stable financial system. In this manuscript, the author has identified several of these forces and their pronounced effect on the real property marketplace and property profession. These agents of change include, but are not limited to:

Consolidation and Convergence: The genetics of a new world.

Technology: A consumer-centric, techno-savvy world.

Securitization: Real estate becomes a commodity.

Globalization: It’s a small, small world.

Demographics: The Longevity Revolution. Already, strategic initiatives, business plans, and

alliances have been formed in order to harness the opportunities of a global, connected economy.


Peter D. Linneman, Ph.D., CRE, Albert Sussman professor of real estate, professor of finance and public policy and management at The Wharton School, University of Pennsylvania, published a paper in 1997 titled, “The Forces Changing the Real Estate Industry Forever.” I first read the paper following a September 1999 office conference with Joe Forte, Past President of CSSA (now the CMSA, as a member of the Appraisal Institute’s ( Wall Street Initiative. The article emphasized the similarity between today’s commercial real estate industry and the automobile industry of the 1940s, a “fragmented, cottage industry.”

Dr. Linneman described the commercial real estate industry as capital intensive, inefficient, and in the 7th year of a 25-30 year “critical transformation period.” The catalysts for this transformation were the industry’s collapse in the early 1990s; the need for liquidity; changing regulations in the banking and finance industries; and the emergence of the commercial real estate public capital markets. Linneman reported that three to five more downturns in the commercial real estate cycle would likely occur before the “critical transformation period” would be complete and that all capital intensive industries have experienced similar periods of transformation.

As the transformation or consolidation process continues, watch for an emergence of all sorts of new partnerships and strategic alliances intent on optimizing human capital, knowledge, or the supply chain. As of September 11, 2000, the financial news was crowded with reports of such events:

Hewlett-Packard Co., the second largest computer maker, was reportedly paying $18 billion in cash and stock for the 30,000 personnel strong, consulting arm of PricewaterhouseCoopers, the world’s largest professional service firm. The convergence of information and technology.

Morgan Stanley, Goldman Sachs, Saloman Smith Barney, Merrill Lynch, UBS, CSFB, and Deutsche Banc launched a “new Internet portal designed to integrate their equity resources on-line.”

The U.S. Federal Trade Commission approves Covisint, an on-line B2B marketplace being developed by General Motors, Ford Motor Co., Daimler Chrysler, Renault USA and Nissan Motor Co. The project will be engineered by Oracle (an Internet software company) and Commerce One (a B2B Internet solution provider).

Each of these events are patterns of convergence in the “networked economy” and are probably the first of many more to come.


According to R. Stanley Williams, a senior principal laboratory scientist at Hewlett Packard labs, the primary technology that dominated the latter part of the previous century was the invention of the integrated circuit in 1959. Since that date, the number of transistors that can be fabricated onto a single chip has been doubling about every 18 months – a rate commonly know as “Moore’s Law.” Kevin Kelly concludes that the grand irony of our times is that the era of computers is over. All the major consequences of stand-alone computers have already taken place. In contrast, the most promising technologies making their debut now are chiefly due to communication between computers – that is, to connections rather than to computations. The technology we first invented to crunch spreadsheets has been hijacked to connect our isolated selves instead.

This shift to communications and connectivity is best evidenced by the Internet, although other technologies are also relevant to commercial real estate’s evolution. As the number of connected PC’s increases from 33.3 million in 1998 to 59.8 million in 2003, the value of the network increases by no less than “n-squared.” The consumer has more information and power than ever before, leading to Kelly’s “techno-savvy, consumer-centric” marketplace.

Arthur Andersen and the Rosen Consulting Group in their, eReal Estate: a Virtual Certainty, focus on how the Internet and e-business affects the commercial real estate industry in terms of future opportunities and risk. They report that the use of the Internet is increasing at an exponential rate as the world “webs up.” Mega-trends expected to apply to the industry as a whole were identified as follows:

Internet Benefits: The Internet facilitates growth in worker mobility, globalization, and securitization. Also, the Internet is increasing worker productivity to all-time highs resulting in GDP increases.

Location: Just as important as it was a century ago, location remains central to success. While traditional location factors like highway or rail access will still be important, those projects with proximity to fiber optic and cable hubs, or proximity of logistic hubs, will generate increasingly greater value.

Physical Structures: The Internet and eBusiness are encouraging physical changes in all product types, including automation in warehouses, flexible space configurations in offices that adapt to changing tenant improvement requirements, and the inclusion in alcoves in apartments for computers and other technology.

Capital Requirements: Because of the costs of retro-fitting existing buildings for new technology, or the cost of installing the latest technologies in new buildings, real estate will become an even more capital intensive industry. “Internet ready” properties will be increasingly demanded by tenants in most markets and most product sectors.

New Revenue Sources: The growth of the Internet is expected to generate for all property types (except retail) new revenue sources (e.g., the provision of telecommunications and tenant advisory services).

In the recently published eReal Estate Companies: The Impact of eBusiness and the Internet in the New Economy, by Arthur Andersen, it is noted that the industry as a whole has historically been something of a laggard in embracing new technology. And that has a lot to do with the nature of the business. “Some real estate professionals believe that the industry is too relationship-oriented to benefit from the technology-driven Internet,” said Carl Berquist, worldwide managing director of Arthur Andersen’s Real Estate and Hospitality group. “They don’t recognize the impact of enhanced customer access and communication; the savings in business-to-business cost and time; the critical importance of changes in information access and dissemination; or the effect of improved work processes and organizational efficiency.” Internet-driven real estate, however, is breathing down our necks, Andersen’s research suggests. “It is only a matter of time,” the report says, “before property changes hands partially or completely on-line.”

According to Peter Pike (, the likely Internet trends will include branding, email connection, intranets and extranets, public access, and data access. According to Business2.0 ( the Internet’s future will be characterized by ubiquitous connectivity, streamed not downloaded data, flat-fee pull and a renaissance of creative expression.

With the advent of numerous web-based, real estate “portals” such as Inman News (www.inman. com); LoopNet (; PropertyFirst (; CoStar Group (, etc., sophisticated real estate information has become readily available to buyers, sellers, and the markets between them. Many real estate professionals argue that the availability of this information will limit their business opportunities. Nothing could be further from the truth. With so much “info clutter,” the Internet provides the property counselor with the opportunity to convert raw data to useful information. A valueadded process intended to provide information based solutions to client projects. It has been estimated that “infomediation” will be our core competency in the 21st century, just as manufacturing was in the 2011, century.


Robert Hall, a Stanford University economics professor, published an article titled, “This New Economy Won’t Stop: Thank the Capital Markets,” in the February 2, 2000, Wall Street Journal. Hall stated that, “Capital markets have developed a much more stable financial system – based almost entirely on markets rather than banks.” With increased liquidity and specialized analyst coverage, the current expansion phase of the commercial real estate market has enjoyed an extended term.

When discussing securitization, there are primarily two topics: 1). Real Estate Investment Trusts (REITs) — the equity play; and 2). Commercial Mortgage Backed Securities (CMBS) — the debt investment. Information concerning REITs is available from the National Association of Real Estate Investment Trusts (; and information concerning the CMBS market is available from the Commercial Mortgage Securities Association (; the investment banking community; and the rating agencies.


Information obtained from the NAREIT Web site defines a REIT as “a company dedicated to owning/operating income producing real estate.” REIT shares are traded on the major stock exchanges and are referred to as “dividend stocks” as opposed to “growth stocks.” REITs are required to pay virtually all of their taxable income (95 percent) to its shareholders. REITs provide the commercial real estate investor with several benefits:

Liquidity: REITs have helped turn real estate liquid. With over 200 publicly traded, diversified portfolios, investors can buy and sell interests instantaneously.

Security: With a low level of debt, professional management, and the underlying security of the real estate asset, REITs provide the small investor with a reasonable level of security.

Performance: Between 1979 and 1998, equity REITs had a total annual return that far outpaced that of direct property investments (14.35 percent v. 8.72 percent). Currently, most equity REITs have a net asset value which exceeds their market capitalization and are producing excellent returns.

Access to Superior Management and Cheaper Capital: Another advantage that REITs have over the traditional direct real estate investment is the “institutional advantage” of attracting envisioned managers and access to cheaper capital.

According to an August 21,2000, NAREIT press release, funds from operations (FFO) per share rose 8.7 percent on average for all equity REITs in the second quarter of 2000, when compared with the same period last year. In the first quarter of 2000, comparable year-over-year FFO per share growth was 8.1 percent. Earnings growth for other large publicly traded real estate operating companies (REOCs) also advanced, with year-over-year earnings per share growth of 33.1 percent in the second quarter, compared to 29.1 percent in the first quarter. Among equity REITs, the strongest 2Q2000 FFO was in the apartment, industrial, regional mall, and office segments.


Joshua Anderson, MAI, published an article titled, “The abc’s of CMBS,” in the Third Quarter 1999 issue of Valuation, Insights and Perspectives, as published by the Appraisal Institute. Anderson defined commercial mortgage backed securities as “asset backed securities that are the products of financial engineering designed to convert a pool of mortgages into a series of bonds.” They take the form of conduits, fusions, Re-REMICs and Credit Lease Pools. Through the use of CMBS instruments, investment bankers have a way of placing public market capital into commercial mortgages.

Four rating agencies: Fitch IBCA (www.fitch; Moody’s (; Standard & Poor’s (; and Duff & Phelps (, play significant roles in determining the price of the CMBS bonds. Each rating agency has a slightly different rating or grading scale. Investment Grade ranges from the highest rating of “AAA” indicating the capacity to pay interest and principal is extremely strong through “AA” and “A” to “BBB,” which indicates adequate payment capacity. Speculative Grade ratings are “BB,” “B,” “CCC,” “CC,” and “C” indicating that there is some capacity for repayment, however, there are large uncertainties or major risks of repayment. Other grades and notations include “D” rating which indicates payment default.

A review of the April 26, 2000, “CMBS Quarterly Insights: Changing With the Times,” as published by Standard & Poor’s Structured Finance indicates that there is growing consensus among those involved in CMBS that the U.S. market is showing signs of “maturation.” The days of heady, exponential growth in domestic issuance are, for now, over. As the first quarter drew to a close, it seemed that Standard & Poor’s earlier prediction that 2000 will see domestic issuance levels of between US$50 billion and US$55 billion remains on target. These levels mark considerable decline from the previous two years, ranging from US$67 billion in 1999 issuance, to US$78.4 billion in 1998 issuance.

This decreasing level of issuance is traceable to a few sources. One main factor has been the already high level of financing that occurred from 1997 to 1999, severely limiting the universe of new financing this year. Also, the low volume of commercial mortgage origination between 1989 and 1992, means that there are fewer refinancing opportunities now. Last, but certainly not least, bond markets as a whole have been significantly impacted by rising interest and treasury rates.


Thomas L. Friedman, author of The Lexus and the Olive Tree, indicates that the driving idea behind “globalization” is free-market capitalism – the more you let market forces rule and the more you open your economy to free trade and competition, the more efficient and flourishing your economy will be. Globalization means the spread of free-market capitalism to virtually every country in the world. Globalization also has its own set of economic rules — rules that revolve around opening, de-regulating and privatizing your economy. How have America’s largest companies responded to globalization? A review of the mission statements and tag lines associated with the “Big Five” professional service firm’s Web sites confirm several of the mega-trends discussed thus far. By example: KPMG Peat Marwick: KPMG is the global network of professional advisory firms whose aim is to turn knowledge into value for the benefit of its clients, its people and communities. (

PricewaterhouseCoopers: Restructuring to serve clients in the new global economy. (

Deloitte & Touches Strong national presence & expansive global reach. (

Ernst & Young: Long-distance issues. Far-reaching solutions. Global business has a new address. (

Arthur Andersen: Leading the new economy as one firm. One World. One Organization. (

These carefully constructed message statements seem to confirm: 1). The “Big Five” are now “professional service providers,” a branding decision reflecting a wider view of the marketplace than accounting; 2). There is a new economy; and 3). Yes, it is global. Also, one of the messages suggest that being perceived as “one firm” is competitively advantageous. I strongly suggest that you visit each of the Web sites noted above for a comprehensive view of the visions, initiatives and branding related to the top five, global consultancy firms.

A May 1, 2000 article titled “Go Global,” posted on the Business2.0 Web site, indicates that by 2003, an estimated 67 percent of Internet users will log on outside the United States; and foreign share of ecommerce will reach 56 percent – up from 28 percent in 1998. In B2B e-commerce, although the United States currently controls 60 percent of the global market, the American share will plunge less than 40 percent by 2004, when the worldwide B2B market reaches $7.3 trillion. In Europe, B2C e-commerce is expected to grow from a mere $5.6 billion in 1998 to $430 billion by 2003. Japan is forecasted to experience a 20-fold increase from $3.2 billion in 1999 to $63.4 billion in 2004.

A contrary position is taken by Stephen Roach in his Web posting “Global: Payback Time” on the Global Economic Forum site ( digests/latest-digest.html). Roach states that it is payback time for a worldwide economy growing at its fastest pace in 17 years. To the extent investors are disappointed by a stock-adjustment-induceddownshift in the economy, optimistic growth expectations could be dealt a tough blow. That could well be exacerbated by the impacts of higher energy prices.


And on top of everything else, the world is aging; a new “longevity based era” is dawning. This was the focus of The Counselors of Real Estate (www.cre. org) High Level Conference 2000 in Scottsdale, Arizona. According to Philip Cottone, CRE, Conference Chair: At the turn of the last century, the average life expectancy was 47. In our lifetime, there is a real possibility that the average life expectancy will increase to 100…or more.

Today, people over 50 represent a 27 percent of the population, and people over 80 are the fastest growing segment of the population.

Next year, for the first time in the history of industrial countries, people over 60 years old will outnumber children. Even Third World populations are living longer.

An evolution revolution is going on – a revolution so vast and extraordinary that it will affect every aspect of our lives-the professional, personal, social, economic, political, and spiritual. We are facing change as never before. An aging population will demand not only a reallocation of wealth and services, but the rethinking of the conventional wisdom that has been supporting and directing society for hundreds of years. Imagine the impact on the health-care segment of the commercial real estate industry.


Ray Kurzweil, author of The Age of Spiritual Machines, and winner of the 1999 National Medal of Technology, with his “intuitive linear” view of technological progress expects 20,000 years of technological progress in the 21st century. In order to retain our personal health through this period of exponential change, Kurzweil advocates that our profession must be our passion, and we must make a life-long commitment to learning.

According to Walid Mougayar’s “Aggregation Nation” in the March 2000 edition of Business2.0, we must create businesses that constantly manipulate information to extract higher value from it by reselling it, re-using it, re-packaging it, or giving it away; either directly to end-users or indirectly via third parties. Electronic market power, then, will be determined by how cleverly we mediate information services.

Finally-“the cluetrain manifesto … the end of business as usual”-suggests that many companies fear these changes, seeing them only as a loss of control. But control is a losing game in a global marketplace where the range of customer choice is already staggering and a suicidal game for companies that must come up with knowledge necessary to create those market choices. RE125


Woodward S. Hanson, CRE, MAI, CCIM, is a fifth generation real estate professional in Fort Myers, FL, and is managing director of Integra Hanson Consulting. He has over 21 years of valuation and consulting experience and specializes as a litigation consultant and advisor to numerous institutional real estate investors, developers, and service providers. Hanson is the 2000 president of the Appraisal Institute. He is also an instructor with the American Law Institute of the American Bar Association and a member of the University of Florida’s Graduate School of Business Real Estate Advisory Board. (Email:

Copyright American Society of Real Estate Counselors Fall 2000

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