Should YOUR Business Exit California?

Image Attribution: www.theminorityreportblog.com

Last week, I framed three trends we are observing. In order, they are the use of 3PLs - third-party logistics providers, an exodus from the state of California, and a rash of mergers and acquisitions - not seen since the days of Gordon Gecko in the movie Wall Street!

Promised was a dissection of each of these weighty trends. As 3PLs were discussed last week - I will devote some time today outlining various considerations for an out-of-state move. M & A are on deck and will be broken down next week.

It seems when a big employer like Toyota heads out of town - there is a collective sigh as thousands of high paying jobs evacuate for the Lone Star State. Yeah, Texas has been the catcher's mitt for the Nolan Ryan fastballs it has received from our mound of companies.

At some level I understand why a global business would consider cheaper environs - after all - its
about the earnings and shareholder value. What's more troubling to me - however - is the departure of many closely held, multi-generational manufacturing and distribution companies. These folks staked their claim in SoCal, took a risk, made a fine business, raised a family, only to leave for Nevada, Texas, Tennessee or elsewhere - the trend is staggering!

I've encountered five companies - within the last month - who have made the move. Five more have a pile of glossy brochures - on their desks -advertising the benefits of Bossier City, Lousiana or Kilgore, Texas. These aren't Toyota - mind you. These are your neighbors! These are normal people - not faceless corporations - who own and occupy industrial buildings in town and who provide paychecks to a local workforce - not the behemoth plants with gigantic payrolls.

Briefly, the reasons I've heard - which motivated the moves - or move consideration were:

Labor. Soon, the minimum wage in California will eclipse $12 per hour in its climb to $15. If an operation is dependent upon minimum wage employees - this increase must come from somewhere - increased business, price bumps to their customers or profit reduction.

Business-friendly environment. Some are simply fed-up with a new regulation, inspection, rule, agency, or attitude that would suggest "we don't want you here!" Henderson, Nevada welcomed - with large fanfare - one of our clients - who employees 75 people.

Compliance. See Business-friendly environment

Taxes. Texas, Washington, Nevada, and Florida have no state income tax. Oregon has no sales tax. The highest bracket in California is 13%. Our counties levy a 7-8% sales tax on purchases. Most pay less than the top bracket and sales tax only occurs when you buy something. However, whatever you pay in state and local taxes becomes a raise if you are making the same salary in a tax-free state.

Commercial real estate. a 50,000 square foot building in North Orange County, California will cost you about $10,000,000 - if you can find one! A 50,000 square foot building in Nashville, Tennessee is $2,000,000 - plus you get expansion acreage for free!

Utilities. Many states heavily subsidize the power expenditures of manufacturers - their cost to produce is cheaper and the savings are shared. Water is plentiful east of the Rockies - thus less expensive. Ever fill your gas tank in Texas? That jingling you hear is the ample change from your five dollar bill. Now multiply that difference for a fleet of delivery trucks!

Cost of living. One of my dear clients just uprooted his entire family and moved to Nevada. They've lived in Orange County for decades. His reasoning was an encapsulation of all of the reasons above - plus - his young family members could afford to buy houses - hmmm.

Three Commercial Real Estate Trends - Part One - 3PLs

Image Attribution: www.distributiondesign.com

One of the cool things about my profession is I rub shoulders with some VERY smart people - small business entrepreneurs, commercial real estate investors, brokers, and trusted advisors in the insurance, wealth advisory, tax, and banking professions.

I believe the imperative is to listen, learn and spot trends.

Lately, three trends have surfaced in my conversations - business exodus from California, mergers and acquisitions, and the use of 3PLs - third-party logistics providers.

As all three topics are meaty, I will dissect one each week for the next three - so stay tuned, dear readers.

Today, we will discuss third-party logistics providers - 3PLs.

What is a 3PL? A third party logistics provider is an outsource for the warehousing function of your business.

Generally, an industrial company makes, ships, or services something - or some combination of the three. Simple, right? As an example, that percolated product you are enjoying while perusing this periodical - yep, beans grown and harvested, manufactured by someone, finished cans stored in a warehouse, shipped to your retailer and delivered to your house - either in your grocery bag or an Amazon van. Imagine, the amount of warehouse space necessary for storing all of that coffee - plus the folks needed to receive the boxes, forklift them around, place them into inventory, access them when ordered, package them up, and ship them out the door - whew! Lots of steps, people, and space.

Now, let's complicate the above with a seasonal ebb and flow of the work. You are committing employees and space - which are largely intractable to a workflow that changes. Said simply - during some parts of the year - workers are idle - yet you are paying them. Worse - your rent - for which you are committed long-term - covers a half-empty warehouse!

Enter the 3PL. All of the receiving, inventorying, material handling, order picking, packaging, and shipping is done for you - at item or pallet pricing and with a shorter time commitment - generally a year at a time. You pay for the space and handling you need without the overhead of a lease, full-time employees, or the appurtenant compliance headaches.

Why are companies using 3PLs? Aside from the reasons above - overhead and flexibility - 99 of every 100 industrial buildings are occupied - a vacancy of 1% - the lowest in history! If you need to expand - and choose to do so by leasing or buying a building - your choices are limited. Let's say your business growth will come from adding a new machine - but you don't have anywhere to put it - because that warehouse racking consumes a portion of the plant. Simply engage a 3PL, outsource your storage and shipping, and bingo! You have just found some space for that new machine. A similar scenario occurs when your expansion is employee driven - but you lack sufficient office space. Clip that warehouse and build a new suite - you're done!

May I Make Changes to a Commercial Lease?

Image Attribution: www.re-nj.com

We just completed a very simple - or so it seemed at the outset - lease transaction on an industrial building in the City of Orange.

Well over half of our deal volume is in leasing and the other portion is sales. Unlike our residential counterparts - leasing is a BIG part of what we do!

So what added the complexity to a straightforward deal? The lease and appurtenant comments by tenant's counsel!

This episode begged the question - can changes be made to a commercial real estate lease? The easy answer is - certainly! Everything in a transaction is negotiable. The more difficult concept is "when" you should request changes to the lease language. That - dear readers - is the subject of today's post.

Recently, I authored a column entitled "Gotcha clauses in a Commercial Lease". At a minimum, you should ensure you have a complete understanding of how your lease addresses these items.

Next, carefully consider a few things.

How badly does my company need the space? You see, the expansion needs of your business can easily trump - sorry - the addition or deletion of a clause in your agreement. In other words - if you are adamant plumbing repairs be the landlord's responsibility - and you lose the space because the owner is unwilling - that could be costlier than unclogging a toilet.

Are there backup suitors willing to snatch your position if you attempt to die on the freeway of lease language? If so, you might want to tap the brakes on the tenor of your language negotiation - lest you end up in a heap on the 405.

How much is the total consideration of your lease? This figure is easily computed. Take the monthly rent multiplied by the annual escalations times the number of years. As an example, if the year one base rent is $10,000 and you've agreed to a rent increase of 3% annually for 3 years - the total consideration is $376,362 - a big amount of money - but an owner may be unwilling to spend attorney dollars changing a standard lease agreement. Conversely, if you're talking about a 15-year lease for $5,000,000 on an owner lease form - an investment in counsel is a good one - for both parties. 

Finally, consider the owner of your building. If the landlord owns numerous square feet of space and is used to change requests - a few minor tweaks may be in order. If you are dealing with a mom and pop who own one building - changes may be more difficult. A multinational owner with millions of square feet will have an arsenal of attorneys ready for an arm wrestle - so lawyer up!

Six Things a N2B Broker MUST Know to Succeed

Image Attribution: www.fayetteia.com

I have a passion for several things - family, faith, commercial real estate, fitness, and teaching.

When my office approached me to create and execute a training program for our New 2 Business Brokers - I welcomed the opportunity!

The first session was this morning, and I was greeted by ten smiling young agents - I have socks older than most of them - but I digress.

Attrition in our industry is similar to the survival rate in a tsunami - close to 70% of new folks in the business don't make it. Stunning!

What follows is a list of what I believe to be the essentials for ensuring a long career in commercial real estate brokerage. As our business is a sales game and many businesses rely upon sales as their lifeblood - I believe there are broader applications to any company owner who wants to limit turnover and provide purpose, autonomy, and mastery of their sales function.

Choose your company wisely. Companies such as CBRE, JLL, and Cushman and Wakefield enjoy an international footprint. My firm Lee & Associates is a local firm that became national in scope with two international offices, Others - Voit, Ashwill Associates, are dominant locally. Regardless, find the company that best suits your vision and culture.

Your mentor is critical. Commercial real estate is taught by doing - therefore the person overseeing the doing is tantamount to success.

Decide day one on a specialty. Unless your marketplace will not allow a specialty - because of the size or deal velocity - become an office, retail, industrial, land, or multi-family expert. Some in our trade slice and dice the product type even smaller to become the "go-to" in a size range - 10,000-20,000 industrial owners as an example.

Training is just the beginning. Training is crucial but just the beginning of the triangle of mastery. A solid training program must be paired with coaching, mentoring, and practice - in that order.

Your CRM is your heartbeat. Invest in the very best Contact Relationship Manager - CRM - you can afford. There are many, many good ones out there. Remember, the best CRM is the one that gets used. Don't get tangled up in all of the sexy features you will never use.

Strategically set up your practice. Once you've selected your specialty and CRM - endeavor to know EVERYTHING about every building, owner, tenant in your farm. Carefully log the information into the system and schedule regular contacts until you've "filled in all the blanks". Next, understand others who call on the same companies that you do - material handling, machinery movers, IT professionals, bankers, etc. You've now started a network of referral partners.

Don't forget to have fun! Too many in our industry take things much too seriously.

My Property Didn't Appraise - But Why?

Image Attribution: www.sandiegopurchaseloans.com

Recently, I counseled my sister-in-law. She is selling her house and the appraiser was scheduled to visit.

Although this column is commercial real estate focused, some of the same appraisal principles apply - plus my associate suggested I write something about the process and how slight assumption variations can cause wide swings in value.

So to all y'all out there with a bad number, here's why.

Reason one. Lender review. Since the financial music stopped in 2008, banks have been very careful to ensure appraisers don't have un-tethered reign. Consequently, appraisers are engaged by the lender - not the buyer or seller - and a strict review process is conducted once the appraisal is submitted. I've had appraisers assure me we were OK - only to have the review disagree.

Reason two. Rear view mirror. Comparable sales and leases are tantamount to a fair valuation - and are known in appraiser speak as the market approach. However, past history - done deals - only show you where you've been - not where you're headed. In an up-trending market, a sale that occurred three months ago may dramatically understate the current conditions.

Reason three. Assumptions. Market approach - has a second cousin - the income approach. Necessary for a proper look are recent lease transactions and the capitalization rate investors are paying. You remember capitalization rate - or cap rates, right? - a percentage measure of the net income divided by the purchase price. Well, in order to get there, an appraiser must assume a lease rate - tough to do because lease comps are not readily shared by commercial real estate professionals and a cap rate. As a cap rate is a measure of risk - the higher the risk, the higher the cap rate - the rate used can swing a valuation dramatically. Simple math - Income of $100,000 with a cap rate of 4.5% yields $2,222,222. But increase the cap rate to 5% and we get $2,000,000 - a delta of almost a quarter million dollars.

Last year - in this space - I provided four solutions if find yourself on the short-end of a valuation. In case you missed it, you can quickly catch up by clicking this link. The punch line - Seller reduces the price, buyer ups his down payment, parties cancel the deal, and/or compromise.

Should I Buy THIS Building?

Image Attribution: www.chinabamboocentre.com

I received a call from an attorney last week. We recently completed a lease for his law firm and we swap referrals. 

This time the conversation centered around an opportunity with which he had been presented. 

In short, a friend of his is eyeing a building and approached my friend on becoming a partner. 

The counsel I gave the counselor was post worthy – so here goes.

First, compute the potential revenue. In this case, my friend was not going to occupy the building with his business. So, the opportunity will strictly be an investment. Also, the real estate is currently vacant. Considered should be the rent a tenant(s) will pay – not a puffed-up version – but a real true number. Next – how long will it take to lease the space. Finally – what concessions will have to be given to attract a paying customer? Oh yeah, if 100% is every tenant paying every month on time – you might want to figure in a shrink factor of 5-10% in case someone slow pays or stiffs you.

Next, add up the expenses. Biggest in this line of figures is property taxes. Insurance, maintenance, and utilities tag along as well. Don’t forget – the property taxes will rise in accordance with your purchase price. Make sure you take this into consideration.

Now, subtract the expenses from the potential revenue. The difference is a return – also known as a Net Operating Income. However, from this amount you’ll need to make sure you allocate some dollars for a new roof or a blown AC unit – lest you are swiping your Visa Card when your tenant is broiling on a July day.

OK. Now we have realistically modeled our income, subtracted real expenses, and created a reserve for major repairs.

Most would now do some math – return divided by the purchase price. This simple formula allows you to see what your percentage return is for an all-cash purchase – with no loan. In today’s market – this percentage should be 5.5% at a minimum. Frankly, I like 6%+ much better. Because, likely the purchase will be financed and with creeping interest rates – you don’t want the advantage of leverage to be a disadvantage. Said simply, if your borrowing costs exceed the all-cash return – YOUR spendable amount – after you pay the bank - will be much less.

Now, take a reality check. Remember, you have made some assumptions on the market rent and time it will take you to fill the vacancy. Will the deal still make sense if the lease up time is double? What if you can only get 75% of the rent you anticipate? Remember 2008? Yeah. Me too.

It’s the numbers, stupid! Investing in real estate is all about the cold analysis of the deal. Please don’t fall victim to the “but I love it” syndrome. 

Are Commercial Real Estate Brokers Un-necessary?

Image Attribution: www.reco-play.com

Recently - in this space - I opined about commercial real estate technology and whether technology will replace the role of a commercial real estate broker.

If you missed the post, shame on you! But, here's the punchline - Not likely, due to a myriad of reasons.

Today, I endeavor to discuss the function of a commercial real estate broker - in a deal - and to what extent that participation is necessary.

Before we address the question, a bit of background. Most commercial real estate transactions - be they a new lease, a purchase, or a lease renewal in an existing space  - employ two sides - a procuring agent - those representing the buyer or tenant and an owner's agent - those representing the owner of the building. In California, agents are allowed to represent both ends of the transaction - also known as dual agency.

Each side has a purpose.

Tasked with finding a tenant or buyer is the owner's agent. This effort is filled with all manner of marketing initiatives - to brokers and prospects. Sometimes an owner believes he can short-circuit the search for a buyer or tenant by planting a sign on the fornt yard and digitally advertising. Problems arise when the inquiries pour in, tours are required, and a negotiation ensues. OK, an agreement has been reached - now what? Certainly, a broker's role on the seller's side is crucial.

Conversely, a procuring agent's goal is to locate a space for his client - the occupant. If a list of available buildings was easily accessed by a business looking for space - the contribution made by a procuring broker would be lightened - not eliminated but diminished. Residential agents face this challenge as all listed houses are public facing through sites such as Zillow, Realtor.com, and Redfin. A homebuyer can find out what is available with a swipe of an app. The only consumer-facing commercial real estate site is Loopnet. Accuracy of complete availability is limited as there is no governing realty board to create accountability for the submissions. So, a key to the walled garden of commercial real estate availabilities is secured through an agent.

I once heard the reason flight attendants are on board an aircraft during your cross-country flight - is in case of an emergency - not to serve you honey glazed peanuts. A similar set of crash precautions is contributed by the agents in a deal. Problems arise and a skilled practitioner can counsel you through various solutions. We recently guided a seller through a buyer's request for repairs. What started as a high six-figure ask was whittled down to a mid-five-figure take - all because of our web of contractors. Don't ever underestimate the power of a great network when it comes to solving a problem.

So, unfortunately, dear reader, a commercial real estate professional is a necessary evil in a transaction.