Why Now is a Good Time To Buy Commercial Properties

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In the current market, all commercial properties are on sale, because either cap rates have increased and/or vacancies have increased.

Increasing cap rates example:
Assume Net Operating Income is $120,000 per year and cap rates have increased from 6% to 8%

At 6% your purchase price would have been $2,000,000.
At 8% your purchase price would be $1,500,000.
You would receive a $500,000 discount, just due to the change in cap rates.
If you are a long term holder, you know that cap rates will go down again, so even if NOI does not increase, the value of the property will increase.

Vacancy increase example:
Assume a property at 100% occupancy has a Net Operating Income of $120,000 and it was previously leased at 95% occupancy which would produce a NOI of $114,000, but now it is leased at 85% occupancy, which would place the NOI at $102,000. This $12,000 decrease in NOI at a 6% cap rate means a $200,000 discount.

If you have any questions, feel free to leave a comment and I’ll respond.

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yH5BAEAAAAALAAAAAABAAEAAAIBRAA7 - Why Now is a Good Time To Buy Commercial Properties

5 Common Mistakes of a Commercial Real Estate Investor

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We’ve all done it; we all make mistakes in real estate investing. The 5 mistakes that I see commonly made in commercial real estate investing are poor due diligence, insufficient market knowledge, not running your property like a business, not having an exit strategy and having too much debt.

  1. Performing poor due diligence. Not paying close attention to the property condition or cutting corners while inspecting the property is a license for disaster. Look closely at the physical items such as building systems, environmental matters and structural components as well as the intangible items such as title, survey, zoning and land use regulations. If you don’t know an answer, find an expert who does have an answer. Get accurate estimates from professionals. Analyzing these inspections can save you thousands of dollars.
  2. Having insufficient market knowledge. To avoid costly mistakes, do thorough research. Analyzing the demographic trends of population growth, income and employment in the local market, will give you a feel for where opportunity lies. With commercial real estate, it’s mostly about being in the path of progress or going into a marketplace that’s ready for major growth. Know that a great property in a poor market can be a loser and a poor property in a great market can be a big winner. Review the market information, then listen to what it tells you about how, when and where to invest.
  3. Forgetting to run your properties like a business. You need to make sure that you maintain a nice property appearance, that tenants are satisfied, that the budget is being adhered to, that you know what your competition is doing and manage your cash flow. Being passive with your investments can be dangerous. Don’t think that you can buy an investment and kick back and watch the checks roll in. You should be receiving your payments within the time frames that are called for in your leases. Keep a friendly, but business like rapport with your tenants. Let them know that this is your business. Some people find it easier to tell the tenant that they are the manager and that they are only carrying out the owners wishes.
  4. Failing to have an exit strategy. Don’t focus on one exit strategy, have multiple exit strategies. An investment plan incorporates all of the due diligence findings and lays out all of the possible outcomes that includes best case and worst case scenarios. Failing to plan is a plan to fail. Your plan should include how to get out if things go wrong, the amount of money you expect to make and how long it will take, the improvements that are needed for the property and their costs and how you will manage the property. The plan will reveal the strengths and weaknesses of the property and should show you how to maximize value in the least amount of time. Make sure that your business plan is updated at least once per year to make sure that you are adjusting your exit strategy as things change in the property, your life and in the overall economy.
  5. You have too much debt. Over leveraging by putting too much debt can be lethal. Highly leveraged deals do happen, however it needs to be backed up by a solid plan with sufficient capital or cash reserves. Every property should be evaluated to understand the break-even ratio. The break-even ratio is the operating expenses plus the debt service divided by the gross potential income. Typically, anything greater than 80% is an accident waiting to happen. Debt can be a good thing. Let it work for you, not against you. Properties with a high upside where you can substantially increase rents in a short period of time are the properties that can handle a high debt ratio.

In some of these areas you may need help. A local commercial broker can assist you with market knowledge, a contractor or general maintenance person can assist you with due diligence, a mentor may be able to help you get into a business mindset and help you with a business plan and a mortgage broker can probably help you with debt and financing concepts. Having people that you can trust is always a good thing. You probably don’t need them on a daily basis, but having them available when an issue arises can help you immensely and boost your confidence when needed. I believe in being pro active so that you can try to stay in front of problems.

As always, if I can help or be of assistance with your real estate questions please contact me. My way of giving back is to give away my knowledge. Thank you for reading this article.

yH5BAEAAAAALAAAAAABAAEAAAIBRAA7 - 5 Common Mistakes of a Commercial Real Estate Investor
yH5BAEAAAAALAAAAAABAAEAAAIBRAA7 - 5 Common Mistakes of a Commercial Real Estate Investor

Triple Net Properties: A Great Investment

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A highly popular type of commercial property investment is the NNN leased property.

This is typically a retail property leased to a single tenant with a high credit rating using a triple net lease (NNN lease) which means that the tenant is responsible for paying real estate taxes, insurance and maintenance costs.

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Examples of commonly recognized NNN properties are:

• Banks
• Drug stores like Walgreen’s, CVS or Rite-Aid
• Drive-through restaurants like KFC, Carl’s Jr., or Burger King
• Convenience stores like 7-11 or Circle K.

My belief is that these investments are solid investments because they are typically new or nearly new, they have a quality tenant on a long term lease, you can get attractive financing, there is minimal or no management responsibilities, it has stable cash flow, exit strategies are usually easy to implement and there are numerous tax benefits that only real estate can provide for you.

However, you need to know that these investments are not “risk free” and require a certain level of understanding.

Things to be aware of include:
• the tenant’s credit rating – always a major factor – also is it going up or going down?
• the overall stability of the tenant – Are they opening locations or are they closing locations? – How long have they been in business in general and this location? – Are sales of the company and this particular location increasing or decreasing?
• the location of the property – Is it on a corner or a prominent location? – Is there a traffic signal? – Is there easy ingress and egress? – Is it a part of a shopping center?
• traffic counts – What are they? – Compare it to other areas of the City – Are they going up or going down?
• demographics – Same questions as traffic counts – Does the area match the tenant (If you don’t know ask your tenant about his customer) – ie, if it is a McDonald’s, are there families and houses around? – If it’s a Bank, are there a lot of businesses around it as well as houses?
• local market conditions – Are the conditions improving or going down? – Is it a growth market or stabilized market? – Are houses being built or being torn down? – Is there room for growth?

Questions to ask:

• Is the property a single purpose building or is it easy to renovate for another use? – If the existing tenant goes out, can you reuse the building or is it a tear down? – If it is a tear down, is the market now mature enough that you could do a ground lease for the same rent and let the new tenant construct the building or is the property big enough that you could possibly put two tenants on the property or can you get a higher and better use for the property? – Having the existing tenant vacate is not always a bad thing.
• What is the overall quality of the building? – Was it well built or cheaply built? – Review the type of materials, the electrical and the plumbing.
• Are there deferred maintenance items that may require cash outlay in the near future? – Review the roof and the parking lot very carefully to determine the remaining life and make sure that you take these costs into account when you look at the return that you are expecting – These are costs that you can expect, just make sure that you take them into account when purchasing.
• What are the specifics of the lease terms? – Review carefully the existing lease term, the options, your responsibilities, payment history and all of the terms of the lease.
• Is there upside potential to the property? – As stated earlier, it is not always a bad thing that you may need to replace the existing tenant now or in the near future.
• What is my exit strategy, which should include how long I plan on holding onto the property, if times get tough, how can I exit the property if I absolutely need to and when is my break even point.

If you don’t know the market well or are still a little shaky concerning your real estate knowledge I always suggest getting help from a local commercial real estate broker or try to find a mentor. Also, I always suggest that you have a team which should include a person knowledgeable about construction, maintenance and repair, an attorney and an accountant. These people can help you to understand all of the issues so that your deals can be solid assets and so that you can be well positioned to build wealth over the long term. Always remember that this is still real estate and the fundamentals really do apply.

As I have said before, if you have any questions or I may be of assistance in your real estate needs please contact me. My way of giving back is to give away my knowledge. Thank you for reviewing this article.

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yH5BAEAAAAALAAAAAABAAEAAAIBRAA7 - Triple Net Properties: A Great Investment

Investing in Commercial Real Estate

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Investing in commercial real estate can be extremely lucrative and rewarding. And in the current economic conditions, it can provide more security than investing in the stock market.

The stock market is currently on shaky ground, surviving in large part due to government bailouts. Continuing market corrections are inevitable. At the same time, most companies aren’t paying much in dividends.

On the other hand, commercial properties, purchased correctly and with the right tenants in place, can provide security through income, tax benefits, equity, appreciation and leverage.

But investing in commercial real estate, like any other kind of investment, requires preparation, diligence and perseverance.

1. The first step is to understand the types of product available to invest in and the major differences between them. Each property category has its own unique characteristics and requires specific knowledge to own. The types of commercial properties are:

• Apartments ranging from 5 units to hundreds of units, from a single level to a high rise building.

• Hotels ranging from a small bed and breakfast to a motel to a large multi-story hotel.

• Office properties can range from a single building to a campus of buildings to a high rise building.

• Industrial properties can go from a small building with one tenant to a large building with one tenant to a large building with multiple tenants.

• Retail properties consist of single buildings, neighborhood shopping centers, power centers, regional malls and lifestyle centers.

Of course, you can also have multi-use properties where you have any combination of apartments, hotels, offices and/or retail stores. You don’t need specific knowledge in order to invest in any one category; get the help of an expert in that product type to guide you until you gain this knowledge.

2. Next, determine the amount of money you are able to invest and what return you need to generate from the investment to make the investment worthwhile. This number is purely subjective and can vary from instance to instance.

Typically, you have two types of investments, value driven investments and value added investments.

Value driven investments are secure investments backed by stable leases with periodic rent increases which will generate a return in the 6% to 14% range depending on the marketplace, demographics, tenants’ credit, age of property, etc. These properties will typically become more competitive the larger they are as institutions will compete for the larger ones (over 100,000 square feet). Since institutional investors require a lesser return, they will drive the price up to a point where it’s no longer worthwhile for a smaller investor. I would suggest looking for properties which can generate over a 10% return so that both you and the investors can make money.

Value added investments will offer larger returns, especially in the long run, since the risk is typically higher. Typical value added properties generate a 12% to 25% return on investment depending on how long it will take to maximize the value.

3. Now that you have a number of how much you have to invest and the return you require, you are ready to start looking for a property. There are several places to look for properties such as online services like LoopNet, CoStar, and Catalyst, but I suggest that you utilize a commercial real estate broker who specializes in the type of property you want to purchase. You can find these brokers on the internet or by driving around your area and getting names from the signs at different properties. Speak with 3 or 4 brokers to get a feel for which one can best assist you with your particular needs.

4. If you find a property that meets your requirements and you need a loan, submit it to a bank or a mortgage broker who will shop it around and get you some quotes. This is important as they will issue you a letter of intent stating the terms upon which they will be able to lend to you.

At this stage you can determine how much you need to invest, how much your monthly mortgage payments will be, and what your cash on cash return will be. This will help you make an educated decision on whether or not you want to buy the property.

Understanding real estate leverage is important whenever investing in commercial real estate. I suggest that on value driven investments you utilize no more than 70% leverage, but in value added investments, I feel that you can go as high as 100% leverage depending on how quickly you can do the things which will add the value.

As I say throughout my blogs, if I may be of assistance with your real estate questions please contact me, I truly want to help.  My way of giving back is to give away my knowledge.  Thank you for reviewing this blog.

yH5BAEAAAAALAAAAAABAAEAAAIBRAA7 - Investing in Commercial Real Estate
yH5BAEAAAAALAAAAAABAAEAAAIBRAA7 - Investing in Commercial Real Estate