Ways to navigate an owner's market

I provide Location Advice to owners and occupants of industrial buildings in Southern California. Occupants in Southern California have enjoyed a five year occupant market...multiple buildings available to fit the search criteria, "once in a lifetime" owner motivation, no competition, myriad concessions (free rent, moving allowances, broker bonuses, etc.). Well as the old Bob Dylan tune lyrically opines "the times they are a changing'".  We are firmly entrenched in an owner's market! Today, I will discuss ways that you, as an occupant, can navigate an owner's market.

Start early: As discussed in an earlier post, there are five very distinct reasons that companies relocate. I would encourage you to read the post that discusses these reasons. For this post, we will assume that your company has made the decision to relocate. How early should you start considering your alternatives? I believe the correct answer is 12-18 months prior to the projected move date. This is typically tied to a lease expiration. You may be thinking, "so many factors will change in that time frame"...you are correct. One thing that won't change (in your favor), however, is the CRE market.
 

Know where you stand: You should have a very good idea of the market forces...available properties, recent sale or lease comparables, leasing concessions (if any), financing rates and terms (which lenders are the most aggressive), tax law changes on the horizon that could affect buying, selling and leasing motivation (this was huge at the end of 2012), how your current lease terms relate to the market, what extension rights does your lease document contain...options, first rights, etc. Think "fall back" here. You may be wondering..."wow! that's a lot of stuff!" You are correct, but knowing where you stand and what options are available to you will save you a huge amount of aggravation when it's time to negotiate.

Engage good help: So how do you determine exactly "where you stand?" Some of the information is available to you by reviewing your lease, meeting with your banker, or accumulating those annoying broker mailers that you receive daily. I would suggest that you engage a competent location advisor to help you analyze where you stand and what options are available to you. The right CRE practitioner can educate you on the current market conditions.
 

Be prepared: Assemble all of your financial data for easy access. If you are leasing a new location, the landlord will want to review at least two years of financial data both personally and corporately...that's right, personally. Most owners today are seeking lease security...and they can get it... which means personal guarantees of lease obligations. If your desire is to purchase a  location, I would suggest getting your company pre-qualified for financing. A previous post discussed how to accomplish this. When the right alternative presents itself, you will be ready to react to the owners request for financial information (or submit this with the offer to lease) or present your "pre-qual" letter with your offer to purchase.

 

Examine ALL of your options: Do you really need to move? I know that the premise of this post is that a decision has been made to move...but have you truly exhausted all of the ways to utilize your location more efficiently? Please carefully consider all of the ways to avoid moving as contained in this previous post. Believe me, it's brutal out there. If you can avoid the agony of an owner's market...DO IT!
 

Be realistic: OK, so you you've started early, you know where you stand, you have engaged a great advisor, you are prepared...AND you understand ALL of your options...now what? Please be realistic OR you stand to be bitterly disappointed. The smorgasbord of available properties has closed, the waterfall spigot of lease concessions has run dry, and the desperation asking prices are now closer to 2007 pricing. Remember, this location provides a functional hub for your operation...period! Find the most suitable, functional location that is available today and make it work. You may have to add offices, upgrade the sprinkler system, add a loading door, upgrade the power service, survive without a storage yard, expand your geographical search area, etc. Compromise will expand your available alternatives.
 

Shorten the downside: If you are buying and the mortgage, property taxes, insurance, and maintenance on the purchase exceed 115% of the market lease rates...consider leasing. The exception to this rule is if you plan to own the real estate forever and the real estate will meet your company's needs forever...see where I'm going here? The last thing you want on your books is an overpriced, illiquid asset that doesn't function for your business. You will have to sell the location for a loss or rent the location and provide a subsidy. Don't lock yourself into a long term lease if you believe the rate you are paying is above market. Remember that most leases have escalation clauses. This rent will increase over the term. Shortening the term can shorten the downside.

Good luck out there! Owners are "licking their collective chops". Don't be "raw meat".

 



Must dos when purchasing a commercial building

I provide Location Advice to owners and occupants of manufacturing and warehouse buildings in Southern California. Today's post will deal with that "all important" must do list when purchasing a parcel of commercial real estate.

We will assume that you have made a decision to buy and have followed the  suggestions of a previous post on buying an industrial building. We will also assume that you have considered your financing source and have consumed the post on financing a commercial building.

You have agreed upon business points and have signed a letter of intent...now what? Hopefully, your location advisor will assist you though the process and will not just wait for escrow to close and the commission fee to arrive!

Generally and simplistically, here are the things you "must do".

Sign the Purchase and Sale Agreement: Also known as the PSA, deposit receipt, contract for purchase, escrow instructions, etc. I prefer the AIR Standard Offer, Agreement and Escrow Instructions for the Purchase of Real Estate. This document  is widely used in the state of California and contains succinct points on due diligence, financing, representations, warranties, remedies, deposits, liquidated damages, etc. Your contract should contain adequate time frames for you to secure financing and check out the building...structural (roof), environmental, title, operating systems (HVAC, plumbing, electrical, loading doors, fire sprinkler system), underlying liens, underlying financing, leases, etc. I generally ask for 30-45 days for "non-loan" approvals and 45-60 days for loan approval. The times are run concurrently from the opening of escrow (when both parties sign the PSA). Two items of note in the AIR PSA: Paragraph 7.1 obligates you as the buyer to use the services of the buyer's broker for a period of one year from the reference date...not big deal if you close...maybe a big deal if you don't. Paragraph 18.1 obligates the seller to pay a commission if contingencies are waived and you don't buy the building. I would suggest modifying or eliminating both of these paragraphs.

Open Escrow: You or your location advisor should deliver a signed copy of the PSA and any deposits to the escrow company listed in the PSA. As a buyer, you have some say in the title and escrow officer choice. I enjoy using a private escrow company because I get personalized service. My escrow company of choice is Heritage Escrow in Irvine, California. Janet Tilbury is extraordinary and my choice if you want to get the transaction closed with no brain damage.  Janet's phone number is 949.930.8501.

Order the Title Report (prelim) and the NHD: Your escrow officer accomplishes this for you. Once again, you get some say in the title company selected even though the seller pays for a standard owner policy. It is generally a good idea to have a real estate attorney review your prelim especially if the building you are buying is a condo, a PUD, or has an association. Any financing against the property will be removed at the close unless you are assuming the loan.

Review the NHD: The seller will provide you with a Natural Disclosure Statement which will tell you if the building is in a flood plain, seismic area, etc.

Conduct the necessary inspections, receive the reports and review and approve them: I would suggest engaging a company such as All West, Marc Cunningham to conduct a Property Condition Assessment (PCA). the PCA will review all of the building systems...HVAC, electrical, roof, foundation, plumbing, seismic, plumbing, elevators, sprinkler system, etc. and generate a report with any needed repairs and a capital expense schedule for the first five to ten years of ownership. Additionally, you or your lender will order a Phase I Environmental report which reviews the enviro history of the site and the previous uses. All West can also do the enviro but I would suggest routing this through the lender as some companies are not on the lender's accepted list and any loan made on the property will be subject to the environmental health of the building. The lender will also order an appraisal and any loan will be subject to a satisfactory appraisal at the agreed value.

Achieve a financing commitment: Make sure to build the appraisal and enviro approvals into the loan approval so that the time frame negotiated for loan approval includes receipt, review and approval, of the necessary enviro and appraisal reports. If you are seeking an SBA loan, there are actually three approvals...the bank, the CDC, and the SBA. I would suggest not waiving any loan contingency until ALL of these approvals are received.

Waive contingencies: You will receive a PCA with recommended repairs, you will receive a loan commitment. I would suggest approaching the seller on accomplishing some major repairs depending upon the other points of the transaction. Once all are received and approved and you are satisfied with the seller participation (if any), you can waive contingencies. Understand that once you waive, your contingencies you will have liquidated damages if you fail to close because you default. Generally, your liquidated damages amount will be equal to your deposit.

Close the escrow: The fun part! Now you own a building, congratulations!

The Yin and Yang of Moving

I provide Location Advice to owners and occupants of industrial buildings in Southern California. Generally this location advice involves a move of some sort. Today, I want to discuss the relocation of an occupant from an owner's point of view AND from an occupant's point of view. Recently, I wrote about the cost to originate a lease from an owner's perspective. You can read that post by clicking here. The net result, using the assumptions contained in that post, was that a new lease will cost the owner 20-25% of his future cash flow.

As the market in SoCal has tightened, and occupants have fewer alternatives, I believe the origination cost will trend toward the lower end of this range...primarily because buildings are selling and leasing quicker AND concessions are less plentiful...but re-tenanting a building is expensive. From an owner's perspective, it is far easier (and cheaper) to retain a tenant than find a new one...The Yin.

So what about an occupant relocating to a new industrial building or office suite? How much does a move cost? Simply stated, it depends...an artful dodge but there are sooo many factors involved, that the cost is tough to quantify. I will, however, endeavor to identify some of the major areas involved in the move...stay tuned.

A recent move into a 28,000 square foot building by a light manufacturing company cost approximately $100,000. Approximately 10 medium sized machines were relocated along with inventory, racking, and approximately 3000 square feet of office space and 20 employees.

Machinery-number of machines, size, weight, calibration (or recalibration), electrical hook-ups, UL rating, etc. One of my clients received a surprise when relocating machinery that was not UL rated...even though the machinery was new and had the European equivalence of a UL rating. The city my client moved to required my client to UL rate the machinery at a cost of $7500.

Special Purpose Improvements- Office space, paint booths, electrical distribution, freezer/cooler space, food processing space, racking, conveyor lines, clarifiers, etc. In Southern California, relocating a paint spray booth requires several approvals...Air Quality Management District and city. If you plan to stack over 12 feet...check the sprinkler calc...you may be in for a surprise!

Licensing-business licenses,  ISO certifications, spray booth emissions credits, racking permits, building permits, certificates of occupancy...all may be required.

Office-Any new office space will require building permits...which take time...which is money.

Infrastructure-Plumbing, sewer, water, electricity, Internet, cabling. One of my clients re-located into an office space that had inadequate Internet connectivity. We fortunately did our diligence, were aware of the issue, and were able to negotiate an allowance from the owner to cover an upgrade.

Physical move-According to Ron Larrieu of Penn Corporate Relocation Services, moving the contents of an office space can cost approximately $50 per employee or $1-$2 psf. This cost can be added to the cost of moving the "shop space" which includes the above items.

Miscellaneous-business cards, stationary, note pads, promo items, social media, websites, employee disruption, business interruption...all costs that need to be considered.

From an occupant's perspective, it is is far easier and cheaper to renegotiate an existing lease or remodel an owned location than to relocate...The Yang

My advice to you if you are considering a move:

Read my recent post entitled we have outgrown our location but don't want to move.

Analyze your re-location alternatives carefully...number of buildings on the market, pricing, concessions, etc.

Engage a professional relocation specialist such as Penn Corporate Relocation Services to analyze your location and provide a moving budget

We Have Outgrown Our Location But Don't Want To Move...Now What?

I provide Location Advice to owners and occupants of industrial buildings in Southern California.

This post provides advice to companies that have outgrown their current location but don't want to move.

The reasons for not moving that I hear frequently are...moving is too expensive, I own the location, I have time to run on my lease, my rent is below market, I don't want to take on additional fixed overhead in case business should decline, etc.

The fact remains, however, that the company has outgrown their location and this creates operational headaches which lead to inefficiency and ultimately loss of profit. If your company finds itself in need of additional space and you don't want to move, what should you do? Below are some suggestions for you to consider which may solve the operational space needs while addressing the concerns outlined above.

Before we delve into the solutions, let's diagnose the problem, shall we? What is(are) the reason(s) that you have outgrown your location? (Congratulations, by the way, this is a good problem to have as it often signals an increase in business).

Did your company secure a piece of business that cannot be fulfilled in your current location? Has the growth come organically through an increase in the industry? Did you add employees? Has the way in which you conduct your business changed? Have you acquired a competitor or another product line that must be folded into your operation? Have you purchased new machinery or processes that require additional space? Has one of your suppliers asked that you warehouse some of their product where before the product was dropped shipped directly to your customers? Have you brought a formerly outsourced function back into the operation?

The way in which you answer these questions may determine how we solve your space issue (and what type of space you need...production, warehouse, or office). So in no particular order, here are the suggestions that I make to companies...needing additional space...but who don't want to (or cannot) move.

Add additional office space to your location: On the surface this appears to be an easy fix. Please consider the cost of the improvements ($45-$75 per square foot depending upon walls, plumbing, upgraded finishes, etc.). If you own the location you may be over improving your building for the market and this could affect future resale timing and pricing...just ask my friends at DMG. If you lease your location, you will need the owner's approval AND you will be leaving the improvements in the location if you move at the end of your lease. Some occupants have found great utility in modular furniture...flexible layouts and you take the furniture with you if you move. Other considerations are the city in which you operate (the improvements will have to be permitted) and the parking ratio. Generally, office space will require 4 parking spaces for every 1000 square feet of space. Most industrial buildings are parked 2 spaces per 1000 square feet (including office, production and warehouse). You may be limited as to the amount of office space you can add to an existing configuration.

Add a production mezzanine: A production mezz can be a great way to increase production square footage without consuming floor space. If you own your location, add machinery or processes, look into this solution.

Add an office mezzanine:  All of the considerations outlined in the previous "add office" paragraph apply here as well. The differentiation is that in addition to adding office space you are also adding square footage to the overall structure by creating a second story. Parking, city permitting, clearance in the warehouse (because you don't want the second floor to be sufficient for Munchkins only), cost (structural footings are required to brace and support the mezz and are consequently $15-$20 per square foot more expensive than first floor office space). If you create an office mezzanine, are leasing the location, and renew your lease...be prepared for the landlord to base your new lease rate on the "increased square footage" including the new mezz space you added.

Store some finished product or raw materials outside: Subject to city ordinances (if outside storage is allowed), a yard or a secured area outside multiplies your usable square footage.

Lease additional space close by: Whether you own or lease your location, a temporary fix to your space needs may be accomplished by leasing space close by. As a frequenter of this blog, you know that I have written previously about reasons that companies move. The number one reason I see is that the company has leased additional space (s) to accommodate growth and now the operation is inefficient. The upside to this strategy is that the excess space (if the lease is flexible) can be discarded at the lease expiration (if the space is no longer needed) or renewed until a more permanent solution can be achieved.

Outsource a function to another producer: This solution is potentially costly and should be compared to moving and keeping the function in house. Some economies can be achieved however if the function is new (and the upside unknown) or the barriers to entry are formidable.

Separate a portion of the operation and relocate that portion: Once again with full acknowledgement that the main reason I see for companies "relocating" is the inefficiency created by operating from multiple locations...in some cases it works and can solve a space issue. The best example that comes to mind is our client Designworx Packaging. Designworx needed an upscale office image combined with a plain vanilla warehousing function. The two functions were diametrically opposed and unattainable in one building. The solution was to relocate the office function into an owned location and leave the warehouse function at the existing location...space issue solved. Designworx has operated out of the same upscale office space for 13 years and the warehouse ebbs and flows as needed.

Use a third party logistics company: Also known as a 3PL, these independent warehousing providers serve as an outsource for all of your warehousing needs. A third party logistics company provides a "soup to nuts" solution for additional warehousing. Included in the per pallet charge is warehousing, access, shipping and receiving, insurance, etc. My client, Greg Parsons of Summit Warehousing can discuss your specific needs with you.

Add building square footage to your location: This solution would only apply if all of the following criteria exist...you own your location, the site is large enough to accommodate additional square footage, and the city will allow additional square footage to be constructed. If all of these apply, congratulations! You managed to foresee your growth and planned accordingly. CJ America recently purchased a location with excess land. CJ intends to convert an obsolete manufacturing plant into a food production facility at the cost of many millions...very costly to relocate in the event additional space is needed. CJ is well positioned as they can expand upon the excess land by adding additional production or warehousing space.

Utilize cube by reworking your racking plan and purchasing a high reach forklift: My client, Raymond Handling Solutions can assist you in evaluating this option. According to Simon Walker of Raymond Handling Solutions, Every time you narrow your aisles in to a narrower aisle configuration, you gain approximately 33% increase in pallet storage density. Therefore moving your Wide Aisles to Narrow Aisles, you would increase storage density by 33% and moving from Narrow Aisles to Very Narrow Aisles, you save 33%. Of course this increased storage capacity comes at the price of increased capital investment in lift trucks  and pallet rack.

A quick and easy tip to help evaluate if you can increase your storage space in your current building is to stand at one corner of the warehouse and look out at the opposite corner. If you can see the opposite corner without obstructions, you likely have an opportunity to increase storage cube using increased investment in materials handling products. Commodity class, stacking height and sprinkler calculation must be considered before you go vertical.

To talk to a materials handling expert  call Raymond Handling Solutions at (562) 944-8067 or visit Raymond Handling Solutions.

Add another shift or two: My client, Advantage Adhesives prolonged moving for several years by adding a second and then a third shift. The move was projected to be costly because of the power requirements and relocation of several large coating and slitting machines. According to Greg Lane, the President and owner of Advantage Adhesives, the advantage (no pun intended) of the second shift in their case was that most of their overhead (rent, exec salaries, benefits, etc.) was covered in the  business generated by the first shift. The second and third shift became very profitable as a result. Greg warned, however, that a complete run must be accomplished in the additional shifts...raw materials to finished goods and out...or work in progress is produced which consumes rather than saves production space...just the problem we are trying to solve.

Gear your lease terms (or your desire to own) to your growth projection: The best advice is saved for last..."an ounce of prevention can be worth a pound of cure". If your company is rapidly growing, please don't buy a location or sign a long term lease (in excess of three years)...even if your location advisor encourages otherwise. You will avoid the uncomfortable problem of too little space.

Financing a Commercial Building Purchase

I provide Location Advice for owners and for occupants of industrial buildings in Southern California. I recently authored a post entitled The Buying Motivation. I would encourage you to read this post before you consider purchasing a location as there are some factors to consider prior to making a large investment such as this. We will now assume that your company meets the criteria necessary to consider buying a building and must now figure out how to finance it. There are several ways to finance the purchase of a location...conventional, private party, seller financing or SBA financing. This post will discuss SBA financing in great detail as this form of financing is used by a large percentage of buyers who purchase commercial real estate in Southern California. I have enlisted the help of my friend and colleague, Mark Rozelle of Rozelle Financial to assist me in the explanation. You can contact Mark directly, by clicking on his name or company name. You will be redirected to Mark's email address and company website. Discussed will be a history of SBA financing, types of SBA financing, eligibility requirements, business qualifications for SBA financing, and the process of obtaining SBA financing for the purchase of a location.

History of SBA Financing: Mark explained that small businesses have been given a huge boost by the federal government through the Small Business Administration’s SBA loan programs.  These loans are almost always the best choice for a business owner when he/she wants to buy a commercial building, buy another business or capitalize the business with long term working capital.  In the most recent government fiscal year over $30 billion in SBA loans were approved.  These loans were split almost equally between the two SBA loan programs known by their government code section:  504 and 7(a). SBA loans are designed to help businesses be more successful.  By requiring smaller down payments to purchase real estate, they leave more cash to be invested into a business.  By offering lower interest rates, they help a company’s cash flow.  By financing business acquisitions when banks shy away, they keep small businesses active and growing. By providing permanent working capital they help businesses keep up with growth opportunities. The program is very efficient and tightly regulated to make sure that every tax payer dollar used by the program goes to help a company that needs it.

Types of SBA Financing: Mark identified the SBA as the only source of commercial real estate loans that require as little as 10% down.  Non-SBA loans usually require 25% down. When buying real estate, borrowers can also finance the tenant improvements and renovation of the building at up to 90% of the appraised value. The most important requirement to keep in mind is that the buyer’s business must occupy 51% of the building. Special purpose properties can only be financed to 85%.

Most real estate buyers prefer the SBA 504 loan program. This program provides for very low and long term fixed rates.  In this program a bank provides a 50% loan in first position and the SBA provides a direct loan in second position for 40% through a non-profit agency called a CDC.  The SBA loan is a 20 year fixed rate loan.  Bonds are sold every month to fund these loans, and the price on those bonds determines the rate.  Recently rates have been below 4.5%. The first TD loan differs in terms from one bank to another with the best rates generally tracking slightly above the SBA. The SBA has a prepayment penalty that declines over the first ten years, and bank loans often have penalties for the first five years or longer.

Alternatively, the SBA 7(a) program can be used to purchase real estate. With this program a bank provides a 90% loan and the SBA gives the bank insurance against a default.  These loans are generally adjustable, but a few banks offer fixed rate 7(a) loans. The loan fees are quite a bit higher and a lien may be required on your residence or other property. A prepay penalty that disappears after three years may make these loans the best choice for buyers anticipating a short term hold.

SBA 7(a) loans can be used to refinance certain real estate loans and other business debts.  Some rules apply to make sure the limited SBA funds are not used up on refinances. The loans being refinanced must have unreasonable terms, such as a balloon due soon or extremely high interest rates. 

Eligibility Requirements: According to Mark the SBA has a large rulebook that defines which companies can borrower through the SBA program.  These rules make sure that companies are not too large, too speculative, too passive or morally questionable.  This rulebook is available on line. You may access the rulebook by clicking here.  Since it is a PDF document, you can do key word searches for topics of interest.

Most businesses are eligible, but here is a list of some of the businesses that cannot borrow through the SBA:  non-profits, lenders, life insurance companies, foreign businesses, religious institutions, political institutions, businesses that exclude individuals and highly speculative businesses.  Many franchises are eligible, but some are not. Most individuals are eligible, but the following are not:  those who have neither US citizenship nor permanent residency status, those with liquid resources that are too great (generally more than the cost of the building for real estate loans), those who have defaulted on government loans previously and those with certain criminal convictions.  Mark can speak confidentially with you about your situation and advise about your personal eligibility.

Business Qualifications for SBA Financing: Mark continued by stating that businesses must be small to qualify.  There are two different standards for this determination.  For 504 loans businesses must have a net worth below $15 million and a two-year average after tax profit of under $5,000,000.  Some exceptions apply to these levels.  For 7(a) loans and as an alternative measure for 504 loans, the government has established a separate definition of small for each type of business based on either the number of employees or gross revenues.  In general, companies exceed the definition of small when they have a dominant market share in their industry.  The government doesn’t want to promote monopolies.  Very few businesses that seek SBA loans exceed the size standards. You can contact Mark to discuss your situation and confirm your company’s eligibility.

The Process: Mark cautioned that SBA real estate loans generally require a 45 to 60 day escrow, but if tenant improvements are extensive, more time may be needed.  These loans can also be used to build a new building, in which case the escrow cannot close till the construction drawings are complete and approved. There are several approvals and third party reports such as environmental and appraisal must be completed prior to funding.

Please visit the Rozelle Financial website for additional information or to apply for an SBA loan. You can also reach Mark by phone at 714.710.9400 or email mark@rozellefinancial.com.