Friday, December 29, 2017

A Commercial Real Estate Buyer Doesn't Care!

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Akin to an automobile with a DVD player - a commercial building with certain features may NOT appeal to a buyer.

In fact they don't care, won't pay for the renovation - and maybe worse - will exclude your building from consideration if the betterment exists.

Hmmm, weird you say. I spent a lot of money installing those solar panels in my parking lot. Who cares if the equipment consumes ten spaces - my employees carpool or uber to work. Congratulations! You invested in an upgrade that made your building less desirable - even though you believed the value was enhanced.

So, with that preamble - what other improvements do buyers shun and to which sellers cling - with the expectation of a higher price?

Freeway frontage. Not an improvement per se, but an attribute with which many owners ascribe value. Unless your buyer wants looks from 225,000 cars per day, he will be unwilling to pay. In some cases, freeway visibility is a negative because of noise, debris, and transients that loiter. An exception to this rule is the retailer whose business can benefit from the exposure. Most others don't care.

Signalized corner. Similar to freeway visibility, a signalized corner causes traffic to pause in front of your location - which means your building is on a busy street. Great! but if your business isn't dependent upon destination customers, you just as soon they whisk by. An exception - which could bolster worth - is a property with a higher and better use - i.e. a residential conversion in the future. Now, the signalized intersection creates some benefit and can generate more dollars.

Amount of office space within an industrial building. The amount of office space within a building - especially an industrial building where companies make and ship things - is the biggest merit disconnect between a seller and a buyer. Adding office space to an industrial building is a costly adventure - permitting, construction, timing, new office furniture, etc. - in some cases $75-$100 per square foot. When a seller shells out that amount of money, he expects a return. Unfortunately, rarely does the next guy see any benefit. The layout is wrong, the finishes are outdated, too much shop space is consumed, a second story was created with no elevator, and so on. If a buyer doesn't need the excess office space, he must pay to have it removed or move on to the next building without the problem. Certainly the exception is the black swan that can walk in and use everything without any changes - he will see the benefits and gladly pay.

Assumable financing. Money is cheap and plentiful these days. Lenders are begging qualified folks to borrow. In many cases, a buyer can finance 90% of the purchase at interest rates in the fours. Enter assumable debt. Chances are the assumable debt was written at interest rates higher than present and for less than 90% of the sale price. Thus, a buyer is better served getting a new loan. An exception would be an owner carried loan - especially if the buyer can avoid the costs of an appraisal and loan origination.

Monday, December 25, 2017

Commercial Real Estate Christmas Gifts - Disguised as Lumps of Coal

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Merry Christmas, dear readers! My wish for you this season is joy and happiness and HUGE profits for your commercial real.

As most of you are reading this on Christmas Eve, I thought it would be fun to recap a few "gifts" I received this year - albeit most initially were lumps of coal. Have you ever received such a gift - disguised as a problem? If so, you will thoroughly enjoy this column.

Will the REAL seller please stand up. Early this year we received a call from a dear friend and client. He owned and had occupied his building since the fifties! The use to which the building had be subjected was environmentally questionable, antiquated was kind when describing the construction, and unrealistic summarized his price expectations. BOOM! Three full price offers in the first week of marketing. Just choose the right buyer of the three and clear sailing to close. Except the ownership entity was inactive - ooops! Several weeks, thousands of dollars in past due Franchise Tax Board payments later, we resolved the issue and closed.

Going once, twice - SOLD! We completed our first property auction this week with the good folks at Ten-X. I was quite skeptical the process would render any buyers we hadn't uncovered. Boy was I mistaken! Bidding for the last five minutes was furious - akin to your Grandma angling for a pair of hand-made mittens on E-Bay. Exceeded was the reserve amount by 5%. I'm a believer!

The Smorgasbord of issues. We can generally count on an at least one show-stopping issue in a deal - appraisal below contract price, enviro concerns, a nasty seller or buyer, an unconventional use, a city out for blood. Like dropping the proverbial other shoe, if the issue doesn't surface early, we start to sweat - knowing it's coming. Rarely, however, is there more than one "challenge". Corrected is how I stand! We just closed a deal with not one, two, three, four, five, or six, seven - but EIGHT walk away issues in ONE deal! Where is the octopus missing a shoe?

Just kidding, I DON'T want to sell. This has happened to me once in thirty three years! 2017 was the year. Received a call from my seller. He didn't want to close. Our buyer was contingency free at this point and had spent a fair amount of time and money becoming so. Fortunately, the buyer was cool and agreed to allow our seller to cancel in return for a small reimbursement of their due diligence costs. Whew! Please don't try this at home.

New Beginnings. Sadly, businesses fail - some after decades. We benefit because a vacant building must be filled. It's refreshing when the building provides a home for a new budding enterprise which employs dozens and generates revenue for the city in which it's located.

So, on Dasher, on Dancer - Can't wait to see what gifts 2018 proffers.

Friday, December 22, 2017

Is Market Expertise Overrated?

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The question I will consider today originated with a call I recently received. Turns out, the caller was an avid reader of this periodical and this author specifically. Leasing assistance was needed. However, they own a building which is outside my geographical and specialty expertise. But, I took the meeting - with the thought if I wasn't the right guy, I could help connect them to someone who was.

Commercial Real Estate is very diverse. Office space - high rise, mid rise, garden style, medical, government, religious, vocational. Industrial - manufacturing, flex, warehouse distribution, service, truck terminals. Retail - oh my word, the types are endless - regional malls, power centers, restaurants, neighborhood shopping centers, strip centers. Multi family - AKA four plus unit residential. Investments, Hospitality, and Land. And, within each product segment of commercial real estate, there are specialty categories such as industrial manufacturing - aerospace, plastic injection molding, assembly, electronics, food, etc.

In short, it is impossible to know every commercial real estate genre. Akin to a physician, we specialize - typically by a type - industrial, office, or retail, a size range - i.e. 10,000-50,000 square feet, and or a geographical area - example: North Orange County. Intimate knowledge of a thin slice - hyper local - creates a market expertise.

So, when considering engaging a commercial real estate professional - is market expertise critical? by that I mean, is it necessary for your agent to know every deal, every owner, every building, and all of the active agents in the area surrounding your location? Certainly, it helps - but I don't believe it is critical. In some cases, it jades your professional. Viewed is too small a prism for the possibilities your property can endear.

In my mind, the critical components of any advisory relationship are the trust your agent engenders, the candor and transparency with which he deals, the understanding of your requirement and the sincerity of his approach. With these qualities - and the use of technology - your agent can quickly get up to speed on the competition and market conditions. By the way, you'll understand his sincerity when he explains - this isn't my area of expertise.

Friday, December 15, 2017

5 Considerations When Leasing Commercial Real Estate

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I recently authored a post entitled Gotcha Clauses in a Commercial Lease. Wherein, I discussed those nasty sentences in that twelve page tome you were asked to sign - watch out! Today, I'll take a step back and discuss the factors you should consider BEFORE you are ready to ink that commercial real estate lease.

The location. Raise your hand if you have never heard the three most important factors in real estate - location, location, location! Right? But why? Here is why - in no particular order. Your customers may need to find you. May, because some business have zero walk-in or destination customers - others rely upon foot traffic. Access to qualified employees is important for the health of your business. Trucks must deliver your raw materials and transport your finished goods. Employee retention is critical - if you locate out of state, how many will follow? Proximity to your suppliers can save you money. Where do you live? After all, you are the boss. So, location does matter!

The term of the lease. Two common errors I see occupants make are committing to a long term lease when times are frothy or a short term lease when the market is crippled. Business activity fuels a business owner's sense of well being - business is great so I will commit to a ten year lease. Little thought is given to where we are in the cycle, that lease rates are at their all time high, and you would be better served with a five year lease with a five year option. The opposite is true when business bosses are uncertain. Even though landlords are handing out goodies - many opt for a shorter term commitment - three years or fewer.

The leasing entity. Any owner of commercial real estate will require tax returns and financial statements from the corporation, individuals, LLC, or partnership signing the lease. Great! Got those. However, I suggest being preemptive by having your formation documents, information on your previous landlord, bank statements, and history of your company at the ready. Also, give some thought to the reason for the move and why you chose this location. I've witnessed this "story" as the determinant for a tenancy.

The type of owner. A pension fund advisor from New York will view your tenancy differently than a private investor who owns two buildings in Anaheim - and not always more discerning. Speaking "owner" will cause the lease negotiation to proceed swimmingly.

The vibe. How quickly did you receive a response to your lease offer? What additional information were you required to provide from your initial offering package? What do other tenants in the building have to say about the owner - yes! you should talk to a few of them. The answers to these questions will provide a glimpse of your future as a tenant.

Friday, December 8, 2017

The MOST Important Part of a Commercial Real Estate Investment

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Many of you reading at home own a business.

Your business address - if it's not your spare bedroom or a corner of your garage is found at a manufacturing building, a suite of offices, or a retail storefront.

You either lease or own your location.

If you lease the commercial real estate you occupy, you have a landlord.

Said landlord - the commercial real estate investor - is the subject of today's post.

Landlords come in all shapes and sizes. Some own very few buildings and have invested their own savings in a commercial real estate investment. While others are funded by Wall Street or a pension fund and are extremely bureaucratic.

Regardless of a landlord's holdings, their source of funding, or sophistication - the one thing they share is their reliance upon a property's net income. The income stream - rent less operating expenses, or net income - provides their return on investment.

I believe the income stream is the MOST important part of a commercial real estate investment - otherwise, you don't have an investment - you own an empty building.

A commercial real estate investor - AKA a landlord - considers many aspects of his investment.

The stability of the income stream. Is rent paid by several tenants or one? If an investor owns a 10,000 square foot building with ten tenants and one tenant moves out - nine other rent paying tenants remain. Manageable. Conversely, if the 10,000 square foot space has one occupant - the income is dependent upon the health of that tenant. If business ebbs, a costly vacancy may occur. Also, when does the lease(s) expire? A short term lease - less than three years - creates a potential transition much quicker than a ten year lease.

Is the income stream above or below the current market. Rents have sky rocketed within the last few months. If a lease was signed two years ago, chances are the rent may be below the market rents today. This is good news if the buildings goes dark and you must replace the tenancy - you'll get more rent. However, if we experience a dip, you may find yourself owning a building with an unsustainable rent - quite costly if your tenant vacates.

What sort of return does the income stream provide. Generally, the net income - rent less expenses - provides a nice return on the money invested - typically 4-6%. A simple example. Net income is $10,000 per month - $120,000 per year. If this $120,000 per year provides a 5% return - the building is worth $2,400,000. Your return may be drastically different. Let's say you bought the building ten years ago and paid $1,500,000. The same $120,000 in annual net rents yield you an 8% return.

Friday, December 1, 2017

Are you a Commercial Real Estate Dreamer or a Seller?

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One of the nasty by products of a seller's market is an un-realistic seller - one who is motivated by the price he will accept vs. the best price his property will fetch.

Also known as dreamers, this brand of seller approaches the market in this fashion - "well, I understand my building has issues, but I still want more than it is worth."

We as commercial real estate professionals are then confronted with a dilemma; do I accept the assignment to sell the building - albeit at an inflated number with all of its fuzz - and hope the market will persuade him to be realistic? Or, do I turn down the listing and hope I'm contacted if the first guy fails?

Because available buildings are so scarce these days, too many of us take the assignment, let the market activity be the bad guy, and pray for divine providence.

So, to all you sellers of commercial real estate out there, before you send your broker into the market without a story - the reason for the price, the upside potential, a solution for the challenges - something, please consider the following:

Your broker is not a magician. Unless your representative is named Houdini, chances are he cannot remove a mystical rabbit from his hat - AKA find you the needle in the proverbial haystack. Buyers these days are savvy. They are successful business owners or investors who understand risk. Generally, buyers are willing to be flexible and work around problems - but not if the other side is un-realistic in its expectations.

The valuation your broker gave you is accurate. Brokers are paid to close deals at the highest possible price in the shortest amount of time. Period. Why would we tell you your building is worth half what you believe?

Your broker has considered the challenges. Countless are the number of buyer tours we conduct and amount of feedback we filter. When you contend "I know my roof needs replacement but I'm not willing to bend on my price" - we've heard the buyer's comments. "Well, if the seller is unwilling to fix the roof or reduce the price, who is supposed to pay for that?" Listen to your professional. He is telling you the truth.

Credibility is at stake - yours and the brokers. When a building hits the market fraught with issues, the market place reacts in one of two ways - wow! The seller must be smokin' the good stuff or the broker must have puffed the price to convince the seller to list with him. Either way is a loser. Typically, the universe of potential buyers simply ignores the new offering as unrealistic and unworthy of a second look.