Commissions, deal structures undergo big changes.

All is negotiable in this no-holds-barred environment

Competition for office tenants is so fierce in downtown Los Angeles that some landlords are offering commercial real estate brokers a bonus of up to $3 per square foot in addition to their regular commissions.

However, some brokers are actually accepting lower commissions than is typical in exchange for the chance to exclusively represent a large tenant in all its various real estate deals.

These are just two of the sometimes contradictory changes occurring in the Los Angeles commercial brokerage business, where once-standard commissions and deal structures are now changing almost daily. The dramatic changes have created a no-holds-barred environment in which nothing is taken for granted, everything is negotiable and even bigger changes are on the horizon, local brokers said.

"Five years from now, our business is going to be dramatically different from what it is today," declared John Knott, an associate director at the Century City office of Cushman & Wakefield of California Inc.

Mike DeSantis, an associate director at Cushman & Wakefield's Mid-Wilshire office, added, "The market today is volatile, and whenever you have a volatile market, you have changes in the way people do business."

Commissions are one of the areas where the volatility is most visible.

Until recent years, commercial brokers customarily represented landlords only and received a commission, which amounted to 4 or 5 percent of the total value of a lease.

Tenants generally didn't pay much attention to the commission because commissions are paid by the landlord and, as long as the landlord was the only party employing a broker, it was strictly a matter between the landlord and the landlord's broker.

But as the glut of space created a tenants' market, more tenants started hiring brokers in hopes of cutting a better deal. As rents rose dramatically through the 1980s, tenant brokers started earning huge commissions.

Seeing all that money changing hands in the deals, tenants began demanding that their brokers rebate some of it -- either in the form of cash back to the tenant or in tenant improvement dollars. In addition, some aggressive tenant brokers saw that cutting their fees could win them more business and still allow them to make a good living.

"Five years ago you didn't have much fee negotiation, but then you had some brokers who reduced fees to get in the door with a tenant, and that led to fee cutting," Knott said.

According to DeSantis, virtually any large tenant today can command a discount or rebate, although most prefer the rebate in tenant improvements rather than cash that would be taxed as corporate income.

Some of the biggest financial pressures still remain on landlords, who pay the commissions to both their own brokers and the tenants' agents.

But brokers are now feeling the pressure too, despite the bonuses paid by some downtown L.A. landlords, because the competition for big tenants has produced another change in the way fees are traditionally paid.

Until recently, brokerages represented tenants strictly on a deal-by-deal basis. If the deal went through, the broker got paid. If not, the broker went fee-less. That meant brokers either got huge payday bonanzas or no money at all.

That is still the case in most deals, but in the most lucrative assignments -- those involving big corporations -- things are changing. Some corporations are offering big brokerage firms the chance to handle all of their deals in return for a retainer plus a reduced commission when deals are transacted.

Explained Knott: "The corporation will agree to a minimum fee if no deal is done and a maximum if the deal is done. You don't have the same large-fee opportunity that previously existed, but you have more security."

Many corporations are turning to this "outsourcing" because cost-cutting moves have led to in-house corporate real estate departments being trimmed to the bone or axed altogether. DeSantis said some in-house real estate departments that used to have a staff of several hundred are now down to several dozen.

Consequently, brokerages are competing aggressively for these long-term contracts because large corporations are constantly acquiring and disposing of office and industrial space throughout the year, meaning lots of work for the brokers who win the contract.

"An arrangement like this represents a big opportunity for a brokerage, especially with everybody going global and the chance that by representing the company in this country you might have a shot at some of its international business," DeSantis said.

Many corporations either choose one brokerage to represent them nationwide or choose a different brokerage for each of several geographic areas, DeSantis said. The accounting firm of Ernst & Young, for example, retains Cushman & Wakefield for its East Coast deals, La Salle Partners Ltd. for the Midwest and Cushman Realty Corp. in the West.

In some cases, these highly coveted corporate contracts result in brokers doing more work for less money, said Knott, because "the things we do for our clients today are substantially more involved than they were five or 10 years ago."

Brokers have always provided some level of financial analysis and other deal-related services. But Knott said brokers are now expanding those services and providing more in-depth levels of each kind of service in their efforts to capture corporate clients.

For example, Cushman & Wakefield has special computer software designed to compare the costs of leases with differing terms and sizes. The software converts the costs of each lease to a cost-per-usable-square-foot basis over the life of the lease so the costs can be easily compared.

Other services the firm is offering to snare the big tenants include reviews of the operating expense statements from landlords, analyses of prospective buildings before a tenant moves in, and managing tenant improvement work for clients, most of whom don't have construction management personnel on their own staffs. In addition to these expanded services, brokerages are obviously continuing to conduct negotiations and provide other standard services.

The changes sweeping the commercial brokerage world are not affecting all deals. In fact, brokerage arrangements for small and medium-sized companies doing smaller deals has changed little, if any, and are not expected to change any time soon. On such deals, commissions will be paid only if the deal closes, as usual.

But L.A.'s topsy-turvy market is still producing other changes in the way the commercial brokerage business is done.

Jim Center, a senior marketing consultant with the San Gabriel Valley office of Grubb & Ellis Co., said he has done several deals in which the landlords paid commissions on a monthly or annual basis as the rent is paid, rather than the usual custom of paying 50 percent when the deal is signed and the remaining 50 percent when the lease term commences.

Center says this type of gradual-payment commission previously was unheard of in Los Angeles and was more of an East Coast or Southeast way of doing business. He explained that landlords typically ask for such "over-the-term" commission payments when a tenant appears financially weak.

"The landlord doesn't want to pay the entire commission up front and then have the tenant go bankrupt," Center pointed out.

Even on leases where commissions are paid up front, landlords are seeking to reduce their risk by pushing for shorter lease terms, he added, so that their initial commission outlay is smaller.

Center said he has so far only seen "over-the-term" commissions on industrial deals in Los Angeles and doubts that such commissions will come into widespread use here because L.A.'s market is still tilted so strongly in favor of tenants. But the fact that such deals have surfaced at all is yet another sign of how quirky and dynamic today's real estate market is and how ripe it is for further change.

In the not-too-distant future, for example, the trend toward long-term corporate brokerage contracts could result in brokers being paid on an hourly basis, rather than on a commission basis, both DeSantis and Knott asserted.

"I wouldn't be surprised if brokers in the future end up working hourly, like attorneys. Whether it's five years or 10 years or never happens, I don't know, but it wouldn't surprise me," Knott said.

And according to DeSantis, even the time-honored tradition of the landlord paying all commissions may eventually change.

While landlords still pay all commissions in the United States, he explained, the custom in Europe is for landlords and tenants to each pay their own brokers.

But it's not something tenants need to worry about immediately. DeSantis figures the gradual shift to a European system will take at least 20 years, and probably more like 50.