Throughout the 1980s many money-center banks became conspicuous consumers of leased real estate in major cities nationwide in an effort to broaden business lines and get closer to their customers.
In recent years, however, banks have retreated from their regionalization strategies, and innovations like automated teller machines have reduced their need for real estate. In the process, banks are now having to become landlords in their rush to control the cost of surplus office space still under long-term lease.
In some markets low vacancy rates have allowed banks to view unneeded office space as a source of revenue instead of as a financial headache.
This condition, however, has proved to be the exception rather than the rule. The rapid expansion of the mutual fund and financial services industry in Boston has, for example, placed a premium on available office space.
Other cities, like Chicago, have not fared as well. Depending on the city, a bank's contractual lease rate on a per-square-foot basis can be as much as three times the spot market on a sublease. When factoring in the remaining lease terms, the financial consequences of disposing of surplus space can be expensive.
One effective solution to the problem of residual leased or owned real estate is financial barter, a technique that has been successfully employed by a number of companies in the nonfinancial sector.
In many instances, financial losses have been avoided by trading a fee or leasehold real estate interest for other goods and services, which can be used in the ordinary course of business - advertising media, for example.
Although barter transactions are usually complex because they cut across a company's organizational structures and lines of authority, the financial results can be extremely impressive. The shareholder is the ultimate beneficiary.
Most corporate barter transactions are driven by a company's need to effect a specific business strategy (e.g., a merger, consolidation, or relocation) in ways that avoid the adverse financial accounting impact of disposing of the surplus leased or owned real estate at below book value.
Transactions are usually put together by barter companies, which can use their substantial capital base, ability to assume real estate risk, and expertise to avert or minimize potential losses. For many of the large banks whose space requirements no longer support their contractual lease obligations, barter becomes an effective financial tool.
In a recent typical transaction, a major consumer goods company was faced with a large potential loss resulting from subleasing 22,000 square feet of residual office space.
The contractual lease obligation was $45 per square foot in a spot sublet market of $15 per foot. The barter company reimbursed the client with "trade credits" equal to the client's remaining lease obligation.
Like a supermarket coupon, the credits were used by the client in partial payment for media acquired from the barter company's inventory at the client's existing cost structure. In effect, a barter company traded its favorable cost basis in its media inventory for the client firm's real estate.
The client used its existing expenditures to avoid a potentially sizable loss on its real estate while maintaining the current level, cost, and quality of its media plan.
The ability to use barter is not limited to leasehold transactions. Trade credits can also be used to bridge the gap between the book and subpar market value of a surplus asset.
It is also possible for major users of commercial office space to hedge expansion needs by covering the cost of their projected requirements with trade credits while "warehousing" the space with a barter company until needed.
The trade credits are used to offset media costs, or, in some cases, the credits have been downstreamed to vendors, including telecommunications companies that are heavy users of the media. The trade credits become, in effect, another form of currency.
The inevitable question arises as to how some barter companies acquire media or other barterable assets at costs below what is available to major corporations in their normal course of business. In such cases the company operates as a principal, using its own capital to acquire positions in marginal cost assets such as media, hotel rooms, airline seats, and telecommunications.
It also acquires capital assets, which it then leases to various companies for a combination of cash and these "soft assets." The resultant inventory becomes the currency of the barter process. In the end, the inventory of barterable commodities is traded into further inventory, real estate, or in some instances, venture capital transactions.