Friday, July 10, 2015

How is Price Determined in a Commercial Real Estate Deal?

Image Attribution: www.airwaveadvisors.com
Price. That monetary value that an owner of commercial real estate places upon his building. Just how is the pricing in a deal determined? That question is the topic of today's post.

Simply explained, the price or lease rate is a function of what a ready, willing, and able buyer or tenant will pay and what an owner is willing to accept.

But, we must begin with an asking price, in order to attract a ready, willing and able buyer or tenant, correct? So, how is an asking price determined?

From my experience, dating back to three pieced suits and wide lapels, asking prices are derived from several factors:

Location. A well located, freeway proximate building will command a higher asking price than one that is buried in a business park in a residential development. The ready pool of potential occupants will also factor in to pricing as the building may provide an easy expansion for a neighboring business. Ready sources of raw materials for manufacturing companies or easy logistics for warehousing companies can enhance a building's location - and thus an asking price.

Amenities. If your building has the bells and whistles that occupants demand, the building is more valuable and will sell or lease for a higher price. As an example, a freestanding building on its own lot is more desirable than a building that shares a wall with the building next door. An outdoor storage area is a feature widely desired by occupants because they can use the exterior for more space. More amenities - higher asking price.

Owner Motivation. This is probably the BIGGEST determinant of an asking price. An owner must have realistic expectations of the price his building will command in the market OR have enough staying power for the market pricing to "catch up" to his asking price.

Recent Comparables. Too often, folks in my profession, tend to generalize the recent market sales or leases without truly understanding the motivation behind the transaction. Such as, did the occupant renew his lease or consider market alternatives and choose this particular building? Was the occupant motivated by any special circumstances - such as being next door? The "true story" of the transaction should be considered in any asking price decision.

Current Availabilities. As closely as possible, the number similarly equipped buildings that are currently available in the market should be analyzed and understood.

Up or Down Trends. If the market is up trending, you can push pricing a bit. The opposite would be true of a down trending market. An owner might benefit from preempting a down trending pricing market by leapfrogging. Leapfrogging is a method of taking the lowest recent sale or lease deal and asking even less. Sometimes occupants react because they believe the building is a bargain.

Current Borrowing Rates. If capital is plentiful, easy, and cheap, an increase in pricing generally will result - and an owner can ask more - for his building. The reason is the buyer pool will be more plentiful, competition will be more apparent, and available inventory will leave the market more rapidly - thus upward pressure on pricing.

Once an asking sale price or lease rate is determined, the market takes over- that illusive force that pits buyers, sellers, tenants, and landlords into the wrestling match of a commercial real estate transaction. Ask too much for a building with few amenities - the building will sit. Bring a properly priced, well appointed building to the market - the floodgates of potential occupants will rain on your door.