What Can The NBA Finals Teach Us About Commercial Real Estate

Image Attribution: www.illustoon.com

The NBA finals start in a couple of days. I generally lose interest when the Lakers are no longer in it - which means I’ve not cared for a week or so. Plus, there are so many other things to focus on this time of year - the start of summer, Dad’s day, graduation, another school year completed, upcoming vacation, three day summer weekends, and lots of gray days. Yeah. It’s hard to complain about SoCal weather but cmon. A day of sun would be nice. My thoughts returned to the NBA as the stage is now set. Miami v Denver. A television network nightmare. I’m guessing the suits would’ve preferred LA v the Celtics with their rich history of playoff battles. You know Magic and Bird were pining and hoping for a rematch. But here we are.
 
You may be wondering what any of this has to do with commercial real estate. Indulge me while I draw some comparisons.
 
It's a LONG season: Just like the NBA season, commercial real estate deals often require a significant amount of time to unfold. From identifying opportunities, conducting due diligence, negotiating terms, and finalizing transactions, the process can be lengthy and complex.
 
No lead is safe: In the NBA, teams can quickly turn the tide of a game and overcome large point differentials. Deals can have unexpected twists and turns. Motivations change, unforeseen challenges arise, and market conditions ebb.
 
Home court matters: In basketball, playing on your home court can provide a distinct advantage due to familiarity with the environment and the support of the home crowd. In commercial real estate - location plays a crucial role. The right address can significantly impact the success of a business.
 
Teamwork and Collaboration: Just as NBA teams require teamwork and collaboration to succeed on the court, commercial real estate deals often involve multiple parties working together. Transactions typically involve buyers, sellers, brokers, lenders, attorneys, and other professionals who must work together to reach the closing table. Effective communication, cooperation, and coordination are essential for successful outcomes.
 
Strategy and Game Plan: NBA teams develop game plans and strategies to maximize their chances of winning. Investors and developers formulate approaches to identify and capitalize on market opportunities. They assess trends, analyze financial data and evaluate risks.
 
Adaptability and Flexibility: In the NBA, teams must adapt to various situations, including different opponents, match-ups, playing styles, and game situations. Required are the same in the commercial real estate industry. Market conditions, regulations, and economic factors can change, and successful professionals in the field need to be responsive and adjust their strategies accordingly. Adapting to shifting trends and finding creative solutions are crucial for sustained success.

Allen C. Buchanan, SIOR, is a principal with Lee & Associates Commercial Real Estate Services in Orange. He can be reached at abuchanan@lee-associates.com or 714.564.7104. His website is allencbuchanan.blogspot.com.

Rep agreements

Image Attribution: www.freepik.com

As commercial real estate agents, our assignments are memorialized through agreements - either agency or representation. In the former, an owner engages us to procure a buyer or tenant for her vacant building or sell an occupied one - referred to as a leased investment sale. The latter tasks us with finding a location for an occupant to rent or purchase. 
 
Owner representations are also known as a listings. This contract underlies virtually all of the signs you see advertising a property and certainly any in the commercial multiple listing services such as AIR or CoStar. If a broker is involved - it’s imperative that such an understanding exists and outline the duties and responsibilities of each party - broker and owner. In real estate transactions, a listing agreement is a contract between a real estate broker and a property owner. This agreement gives the broker the authority to act as the owner's agent in the sale or lease of the property. The term "exclusive" means that the owner agrees to work solely with the broker for a specified period of time to try and sell or lease the property.

There are typically three types of exclusive agreements: exclusive right to sell or lease, exclusive agency, and open listing - by the way all referred to an agencies. 
 
Exclusive Right to Sell or Lease: In this agreement, the listing broker is given the exclusive right to earn a commission by representing the owners and bringing a buyer or tenant, either through another brokerage or directly. The property owner pays both the listing and selling broker's fees.

Exclusive Agency: In an exclusive agency agreement, the listing broker has the exclusive right to represent the property owner. However, the owner retains the right to sell or lease the property themselves without obligation to pay a commission, unless the broker brings a buyer or tenant. 

Open Listing: Though not exclusive, an open listing agreement is a non-exclusive contract, meaning the owner can hire as many brokers as they like. The commission is earned only by the broker who brings a buyer or tenant. 
 
An agreement called a tenant or buyer representation authorizes the broker to represent the tenant or buyer in their search for a new space, negotiate lease or purchase terms on their behalf, and often also may include handling other aspects of the transition such as planning and managing the move.
Much like listing agreements, tenant or buyer representation agreements typically specify the broker's responsibilities, the duration of the agreement, the geographic area covered by the agreement, the compensation that the broker will receive, and other terms and conditions of the relationship. In these types of arrangements, it's especially important for the broker to fully understand the needs of the client. For instance, a manufacturing firm may have very specific power requirements, zoning regulations, and more.
 
Preceding a Tenant or buyer representations could be anything from a company growing and needing larger facilities, to a business downsizing or restructuring its operations, to an operation relocating to a different area. These transitions can often require expert help to manage, particularly when it comes to finding suitable new locations, negotiating leases or sales, and managing the move itself.
 
Among the two understandings  - an agency obligates the owner to pay a fee if certain conditions are met - price, time frame, terms, etc. - whereas the rep agreement asks the agent to seek compensation from the owner as well - in some instances by cooperating through an agency. Yes. That’s correct. By engaging a practitioner to source an address, no resulting fee is promised. In effect, the occupant gets professional representation for no charge to the occupant. What if an owner refuses to pay an occupant’s rep, you may be wondering? The short answer is he’s out, scout. 
 
You may be curious why all occupants wouldn’t proceed in this manner? After all, they get the expertise of a commercial real estate professional for free. I’d offer these reasons as possibilities:
 
Control: Some businesses may prefer to handle the process internally to maintain control over every aspect of their move.

Costs: Even though the broker's fee is usually paid by the owner or landlord, the cost may still be reflected indirectly in the lease or purchase price.

Confidentiality: Some companies might prefer to keep their property searches and moves confidential until they are final, which can be easier to manage without involving external parties.

Complexity: Some businesses may have very specific or complex needs that they believe they can manage better internally.

Past Experiences: A company may have had a negative past experience with a broker and may choose to handle the process internally as a result.
 
In conclusion, while there are many benefits to using a commercial real estate broker, the decision ultimately depends on the specific needs, preferences, and experiences of the individual owner or occupant.
 
Allen C. Buchanan, SIOR, is a principal with Lee & Associates Commercial Real Estate Services in Orange. He can be reached at abuchanan@lee-associates.com or 714.564.7104. His website is allencbuchanan.blogspot.com.
 
 

Five most frequently asked questions

Image Attribution: www.clipart-library.com

Next month I celebrate 39 years brokering commercial real estate in Southern California. My office of Lee & Associates celebrated 40 years this month. That’s right! All if my days have been spent at the same shop - a rarity. Logging weekly my thoughts and experiences started with the Location Advice Blog in 2010. And the Southern California News Group started publishing my writings in February 2015. Yep. Over eight years and 400 plus columns.
 
What follows are the five most frequently asked questions of me as a commercial real estate practitioner. Plus, I will throw in a bonus one! Stay tuned.
 
Question number five: Can I make changes to the space and if so, who pays for it? Generally and it depends.
 
Changes to a location - additional office, power upgrade, sprinkler retrofit, paint and carpet, moving walls, installing racks, distributing power, etc. can generally be accomplished subject to ownership approval and governmental approval with the proper permitting and code construction.
 
Changes to the square footage (IE: adding a structural mezzanine), changes to the common area, fencing required parking spaces, creating windows in bearing walls - not so easy.
 
Changes are typically paid for in one of three ways: the owner pays for all of the cost and concedes the cost (rare), the occupant pays for all of the cost (even rarer), or some combination of the two. This compromise could be an owner paying for the refurbishment of the space such as paint, carpet, and cleanup and conceding the cost and paying for the cost of a sprinkler retrofit and amortizing the cost over the term of the lease.
 
The "acid test" of who pays depends upon the owner's ability to pay, the owner's motivation, the general or specific nature of the improvements (think future marketability) and the market (is the competition delivering space to the market completely refurbished). Sometimes an owner will be willing to compensate a tenant in the form of free or half rent to offset the cost of changes.
 
Question number four: How do you get paid? The owner of the property pays us.
 
A common misconception is the fee adds to the purchase price or lease rate. The reality is an engaged agent can achieve a much higher purchase price than the typical owner because of market knowledge and experience. On the occupant side, an experienced agent can negotiate a better lease rate and concession package because of our knowledge of comparables, availabilities, and motivation. The net result is a better deal for both parties.
 
Question number three: How long have you done this? Since 1984.
 
 Real estate content (comps, avails, absorption, current pricing) is the same but the method of delivery is different. Who would have foreseen in 1984 that I would be doing this when I turned 66- prior to fax machines and the world wide web! Or, that we could survey inventory of available buildings - in our car - or at the beach - and send a list with images to our clients with the click of a button. Or, that we could send a video - in real time - of the property - unbelievable!
 
Question number two: How much is my building worth? That depends on a number of factors.
 
We consider the market - up trending or down trending, comparables and availabilities. If the market is up trending, chances are your building is worth more than the comps suggest. If the market is down trending, you might be best served to price lower than the recent comps and preempt a long marketing cycle. Marketing time plays a role. How long can you afford to market the building? A fire sale motivation will cause the building to be worth less. Does the building have special amenities - excess or surplus land, upgraded power, fenced yard, freezer/cooler space, special AQMD permits, etc. For the right buyer or tenant, these amenities can add to the price.
 
Question number one: How is the market? Weird.
 
I’ve written as nauseam lately about our markets. Suffice to say a lot has changed since our normal up-trending 2019 commercial real estate market. Global strife, a pandemic, decades high inflation, recessionary fears, interest rate hikes, and bank failures have all added an air of uncertainty to the ways owners and occupants of commercial real estate view the world.
 
Bonus question: How do you come up with your content week after week? Different ways.
 
Typically, I gain inspiration from the economy, deals I’m transacting and client interactions. Oh. And my occasional neighbor insight. Thanks Rudy.
 
Did I leave any out? Please comment below with your question and I will promptly respond. 

Allen C. Buchanan, SIOR, is a principal with Lee & Associates Commercial Real Estate Services in Orange. He can be reached at abuchanan@lee-associates.com or 714.564.7104. His website is allencbuchanan.blogspot.com.
 
 

Not All Industrial Buildings Are The Same

Image Attribution: www.png.com

As we’ve discussed many times - commercial real estate is as varied as a teenager’s moods. Sure. We deal in three specific asset classes - industrial, office, and retail. But within each are subcategories that create the variations. Certainly a regional mall is different than a Mimi’s Cafe. Your doctor’s office contains different amenities than the location where your CPA resides. Today's column deals with the features that define the different types of industrial buildings. There are three main categories of industrial buildings - manufacturing, logistics warehouses, and flex. So how do I know which category appeals to the genre of industrial occupant? Continue reading and I will draw the distinctions.
 
Manufacturing Buildings: Manufacturing buildings are locations - generally constructed of concrete, concrete block or metal - where products are made, stored and shipped. The raw materials of the manufacturing process are generally stored on site (many times in an outside storage yard so as to not poach inside floor space) as well  as the machinery that makes the products and the employees that operate the machinery and support the manufacturing process. These buildings can be "freestanding" or parts of a larger building but typically have greater power feeds into the building, 10-30% of the total square footage in office space, ground level loading doors vs truck high loading doors (some may have both), fenced outside storage areas, and a warehouse clearance of 14-24' under beam in the warehouse/plant area. Because these locations have more office space typically, they also have more parking spaces - a minimum of 2 parking spaces per 1000 square feet of building. Manufacturers can generally operate in a building with lower ceiling height because their plant is consumed with machinery and raw materials vs finished goods waiting to be shipped. Most products are made and delivered within days - so as not to inventory a large amount of finished goods. A distribution warehouse as described below will typically not fit a manufacturing requirement however some distributors may be able to occupy a manufacturing building especially if the building is equipped with ground level AND truck high loading.
 
Logistics Warehouses: Logistics buildings used to be referred to as distribution warehouse buildings. They generally are made of concrete (because of the wall height). Products are staged, stored, and shipped from within their walls. Typically, no manufacturing or assembly is done on site. Consequently, fewer support staff and no raw materials are housed at the location. Logistics buildings require truck high loading, warehouse clearance of a minimum of 24' and truck turning radiuses of 130' or more. The ideal set up is a rectangular building with "cross dock" loading so that the point from stored goods to loading doors is minimized. Because these buildings typically house fewer employees, the premium on office space and parking is lessened. These buildings normally have a parking ratio of 1 parking space per 1000 square foot of building
 
Flex (or Flexible): The personal computer boom of the early/mid-1980s gave birth to a new industry and consequently a new type of industrial building, the flex building - formerly referred to a Research and Development building. Since computer companies employed a large number of skilled workers, the typical industrial building didn't contain enough office space or enough parking for additional office to be added. Developers of R and D buildings created the "mezzanine second story" which enabled a smaller lot to accommodate a larger building. The silicon valley in Northern California and the Irvine Spectrum in Irvine is populated with flex buildings. These buildings are locations - generally made of concrete and glass because they are modern and are occupied by a high technology manufacturing or assembly group and a large employee count - engineering, accounting, purchasing, sales, sales support, customer service, etc. Parking, power and office percentage and layout are the important features with these buildings. These structures are typically parked with 3 or 4 spaces per 1000 square feet of building and in some cases can accommodate a use that requires 100% office. Less important are loading, clear height in the warehouse and outside yard storage.
But, alas, our world is built on exceptions. True with locations as well. You may have some of the characteristics of all of the above in your location and it functions just fine. The above are true in the "classic" definition of the building types.

Allen C. Buchanan, SIOR, is a principal with Lee & Associates Commercial Real Estate Services in Orange. He can be reached at abuchanan@lee-associates.com or 714.564.7104. His website is allencbuchanan.blogspot.com.
 
 

Rain Over for the Season?

Image Attribution: www.dreamstime.com

Is our rain over with for the season? My guess is we’ll see one more soaking in May and then possibly during the monsoonal desert period in July and August. But what a wet one we experienced this year! The downside of so much moisture this year is owners throughout Orange County, California heard the collective screams of help from their occupants - as seemingly water tight roof membranes start to leak. 

 
One of the most common questions, we are asked by occupants of industrial/commercial real estate is, "who is responsible for the roof?" So if you’re leasing a new space or dealing with an existing one - this column should serve as a guide.
 
So let's dig in, shall we?
 
Before the water comes pouring into your office or warehouse from any future downpour, do yourself a favor, grab a copy of your lease (if you have one) and take a look at a couple of areas.
 
First, take a look at the heading across the top of the first page. There you should find reference to "Net" or "Gross". This is an important distinction, as the main difference between the two leases is the roof responsibility. The vast majority of leases in Southern California are on a form known as an AIR CRE form and could read something like this..."AIR Commercial Real Estate Association Standard Industrial/Commercial Single-Tenant Lease--Net". Generally, in a Gross lease the owner is responsible for the roof and in a Net lease the occupant is responsible. There are some specifics, however, that should be understood.
 
Next, take a look at a paragraph entitled Maintenance and Repairs. In the AIR leases, the paragraph is 7 on page 5 and 6.
 
Responsibility for the roof on an industrial/commercial building is specifically broken down into three categories - maintenance, repair, and replacement. You should read how your specific lease deals with each item.
 
Maintenance: Most leases (and definitely the AIR forms) specify which party maintains the roof and call for the maintainer to have a service contract for the maintenance. Many maintenance contracts include an annual visit for removing debris from the roof and making sure the downspouts are clear. Sometimes roof leaks occur when ponding builds at the downspouts because they are clogged. The puddle sits at the low point of the roof, weakens the membrane and leaks occur. Another culprit is the area around roof penetrations (such as HVAC units) that are not properly masticked. When the mastic becomes dry and cracked, the material loses it flexibility and water can seep through. A normal maintenance visit can shore up these issues and prevent leaks during the rainy season - like this year!
 
Repair: Once again, most leases outline which party is on the hook to repair a roof if fixes are needed. In the case of a Gross lease, the owner performs the repairs and in a Net lease the repairs are the occupants to perform except to the extent that the repairs exceed 50% of the price to replace the roof.
 
Replacement: In a Gross lease the owner is responsible to replace the roof at her sole cost and expense. In the case of a Net lease, the owner is generally also responsible but only when the cost of repair exceeds 50% of the cost to replace. Within the AIR language, the owner replaces the roof, at her expense, and then amortizes the cost over 12 years. 
 
So, in the case of a Gross lease, blow up your owner's phone. In a Net lease, HELP is all you. Call a roofer!

Allen C. Buchanan, SIOR, is a principal with Lee & Associates Commercial Real Estate Services in Orange. He can be reached at abuchanan@lee-associates.com or 714.564.7104. His website is allencbuchanan.blogspot.com.

What A Wedding Can Teach Us About Commercial Real Estate

Image Attribution:www.clipartix.com

For those three of you - thanks Rudy - that missed my column last week, I was on brief hiatus as lwe were celebrating the union of two souls. Our son Michael and his new wife Candice said I do to a bevy of friends, loved ones and a beautiful backdrop of Mother Nature. You see, the ceremony was officiated well off the Ortega Highway at a venue called Jewel of the Ortega. A bit of a haul to get there - but oh - quite worth it. The day dawned sunny, clear blue, and warm - ideal for the exchange of vows. So many years of happiness together is my wish for the couple.

What follows seemed quite fitting for the lessons learned from the event.

Selling a commercial real estate asset is akin to planning a wedding - sure, you can do it yourself but things go much more smoothly if you have a wedding planner - AKA a commercial real estate professional.

Certainly, you can do a quick Loopnet search, establish a price, purchase a For Sale sign at Home Depot and wait for the phone to ring - set the date, book the venue, buy some suits and order the cake - this is easy!

Vista Print will create a glossy brochure of your building, mail a few to the neighbors and the inquiries will start to flow - Wow! They do wedding invitations too? Cool! Invite aunt Marjorie and a few dozen friends and let’s do this!

Just got your first hit! They want to see the building next week. Oh wait, you’ve a day job and can only meet the buyers on weekends or evenings. Hmmm, this doesn’t work for the buyers- now what? I guess you could slip out during lunch - but what if the buyer is late or stiffs you? Time wasted - and on an empty stomach.

OK, you get them through. They like it. An offer will be forthcoming. I’ll bet you’re glad you’re saving that 6% you’d have paid the broker. Why don’t more folks do this themselves?

Your prospective buyers call. Do you have a recent appraisal? Does the roof leak? When will the tenant vacate? What will be left when the occupant leaves? I noticed the building doesn’t have central air. Do the cracks in the floor portend something serious? Would you consider seller financing as we have a small credit blip - a bankruptcy? Oh, by the way, my wife has her agent’s license - so we will be deducting 3% from our offer. Next!

Three different agents - who comb the area - call. We have qualified prospects who would like to see your building. Will you pay us a fee if we bring you a buyer? Can you forward to us any marketing collateral you have? Any idea how much electricity feeds the property? - as one of our buyers is a machine shop. One of our guys stacks products high in the warehouse. Will the sprinkler system handle high-piled storage? What is the zoning? Our buyer is a trade school. Will the city allow that occupancy without a conditional use permit? Hmmm. Feeling a bit overwhelmed?

Finally, your perfect buyer appears - dressed as Prince Charming. Let the wedding bells ring! After all, a commercial real estate deal is a union of sorts. You gloat a bit as your email buzzes with a full asking price offer. No financing required, quick close, as-is - alright! Done. But, not so fast. You see, this buyer has made three full price offers to three separate owners. His plan is to tie up all three - and jettison two of the three. Will you be saying I do? Or, I wish I had - hired that broker.

Allen C. Buchanan, SIOR, is a principal with Lee & Associates Commercial Real Estate Services in Orange. He can be reached at abuchanan@lee-associates.com or 714.564.7104. His website is allencbuchanan.blogspot.com.
 
 

Advice I’m giving these days

Image Attribution: www.clipart-library.com 

As I pen this, it’s Good Friday and Passover. Happy Easter and Zissen Pesach! Most of you have folks from whom you solicit advice. Those of you who own a business most likely get counsel from a banker, attorney, or a CPA. Others may seek wise words from priests, clergy or a sage family member. And finally, maybe you get direction from Tik Tok, Facebook or Instagram. Regardless, you rely upon a trusted advisor. I am such a source for many of my clients. Today, I’d like to review some of the advice I’ve given this week and the situation that preceded the request for counsel.
 
Lease renewal on preset terms. We originated a lease in 2017. We are the owner Included in the transaction were five years of term with an option to renew for an additional five. As we’ve discussed here before - options are “personal” to the tenant and must be exercised within a specific time window. Also known as “time is of the essence” - you fail to give your owner the proper notice and you no longer have the option. In this case, the tenant wanted to remain in the building but missed his option window. He also wanted the owner to contribute to some construction expenses and wanted the right to buy the building.
 
So what advice did I give? I recommended the owner renew the tenant at the preset option terms and contribute a small amount of the construction expense. Additionally, I suggested not granting a right to purchase. But why? The family that owns the building relies upon the rent for their livelihood. The tenant wants to remain an keep paying. An interruption of this stream through a costly vacancy plus the expense of originating a new lease would not be offset by a small bump in rent that could be achieved with a new occupant. As to buy rights. These come in several flavors - option to purchase, right of first offer, and right of first refusal - and most favor the occupant. Vs limiting flexibility through a purchase right grant - I offered the owner approach their tenant first if they desire to sell. No commitment to the resident but they’re the most likely buyer anyway.
 
Lease term remaining. I was introduced to a light manufacturing company several years ago. They’ve not had a need for my services but we’ve kept in touch. Recently, the owner made a decision to exit the business she worked hard to build. Trouble was - time remained on her lease and the business buyer only wanted to occupy the premises for a short while - just enough time to relocate the business out of state. This is typical of a strategic buyer who purchases a competitor but has adequate physical plant to consume the operation - thus potentially creating redundancy. Consequently, some time would remain once the new owner of the enterprise vacated.
 
So what advice did I give? Fortunately, the lease rate she pays is dramatically below market - so she has a few paths forward. The easiest is to approach the owner and request a buyout of the remaining obligation. Sometimes a landlord will see a benefit if new tenant will pay more. The buyout is based upon the cost once downtime, broker fees, free rent and improvements are calculated. If that approach isn’t palpable, the tenant can sublease - in this case at more money than currently being paid. Some leases will ding you with a sharing if this profit - so beware.
  
Allen C. Buchanan, SIOR, is a principal with Lee & Associates Commercial Real Estate Services in Orange. He can be reached at abuchanan@lee-associates.com or 714.564.7104. His website is allencbuchanan.blogspot.com.
 

Will commercial real estate cause bank failures

Image Attribution: www.dreamstime.com

In March of 2008 Bear Stearns failed and was purchased by JP Morgan Chase for $10 per share. The stock had hit a 52 week high of $133 a share. According to Wilipedia - “By November 2006, the company had total capital of approximately $66.7 billion and total assets of $350.4 billion and according to the April 2005 issue of Institutional Investor magazine, Bear Stearns was the seventh-largest securities firm in terms of total capital.” Among other ventures such as wealth management, capital markets, and equities trading - Bear was in the business of underwriting and issuing mortgage backed securities or MBS. Packaged were a number of risky home loans with their blended interest rates serving as a return for the offerings. When borrowers stopped paying, the securities went bust and the whole house of cards collapsed. What followed six months later was the Great Recession - the largest economic downturn since the Great Depression of the early 1930s. Bear Stearns was the proverbial tip of the iceberg for the titanic sinking of all real estate markets for a good portion of the early 2010s.
 
This March, Silicon Valley Bank failed and was taken over by the Federal Deposit Insurance Corporation. By comparison, SVB is a bank with depositors vs Bear Stearns with brokerage accounts. Depositors place money needed for short term future operations such as payroll, rent, mortgage payments, and salaries. The expectation is the money will be there when needed. If depositors lose faith in their ability to draw down their accounts - a run on deposits occurs. In this case $40 Billion in just over two hours. Unlike the scene in “It’s a wonderful life” where depositors had to line up and wait their turn - a modern run happens across myriad smart phones with the click of a few keys.
 
So, what’s the tie to commercial real estate and how could the collapse of Signature Bank, Silicon Valley Bank, and the sale of Credit Suisse to UBS portend greater peril?
 
Simply. Banks make loans to commercial real estate borrowers. These borrowers run the gambit of those who own and occupy the buildings from which they operate to owners of high rise office buildings loaded with tenants. In the former - a borrower’s ability to make timely payments is conditioned upon the strength of the business and financial wherewithal of the mortgagee. Also, some owner occupied commercial real estate loans are guaranteed by the government through the small business administration. In the continuum of loans - these are relatively safe - which means a bank is not required to add additional dollars to its reserve account for default insurance. But what about the latter example of a high rise office building? Much has been written here about the flux office tenants have experienced with hybrid and virtual workforces. It’s been difficult to predict office occupancy. Versus a single entity - a business occupying a building - you now have multiple tenants - in uncertain times - responsible for paying rent to an owner who’s in turn paying the bank. Should a high rise title holder’s vacancy creep up to levels above 50% - she must resort to extreme measures to rent the vacant space. Such things as free rent, beneficial occupancy, tenant improvements, broker fee bonuses, and moving allowances are employed to attract paying customers. ALL of these things cost money. I recently experienced these items totaling 45% of the consideration of the lease! But the problem is compounded if the physical plant of the structure is aging and needs capital improvements such as a new roof, elevators, lobby improvements or collaborative outdoor space. Once again - very expensive. Now a catch 22 exists. Declining occupancy - high tenant acquisition costs - further vacancy - lack of dollars to renovate an aging structure - solution? Give the building back to the bank. Now a fire sale takes place to find a buyer of a distressed asset for which the lender must boost its reserve accounts.
 
This over simplified example shows how commercial real estate could in fact cause additional banks to fail. 
 
Allen C. Buchanan, SIOR, is a principal with Lee & Associates Commercial Real Estate Services in Orange. He can be reached at abuchanan@lee-associates.com or 714.564.7104. His website is allencbuchanan.blogspot.com.
 

What does April Fool’s day signal?

Image Attribution: www.hiclipart.com

Today is April Fool’s day. I wish I had a pithy prank to put forth however the reservoir is dry when it comes to when it that. However, with the dawning of spring, the crack of the opening baseball bat, Easter, the Masters golf tournament, and the NCAA final four - spring has officially sprung and the first quarter of 2023 is officially in the books. As I wrote about last week, there are some things to behold with respect to the economy for the balance of 2023 - however, today I will focus upon what you should have accomplished in the first quarter of this year. Don’t despair. If you didn’t get it done, there’s still time.
 
Review all of your lease agreements. Now would be a great time to put your hands on a fully executed copy of your lease and any extensions. Make sure all are signed by both parties. You don’t want to be scrambling around during a critical date with a half executed document. This is best done at the end of a year with a careful eye toward any upcoming expirations, options to extend, rent increases, options to purchase, etc. But what if you occupy a building you own. Should you have a lease agreement with your operating company? Absolutely! I could write an entire column on the horrors of handshake agreements between related entities.
 
Taxes. Normally, corporate returns should have been filed on March 15 and personal by April 15. But this year, thanks to our deluge, we get to sleep in until October 15th. Check with your tax professional as situations may vary. If your attempting to perfect a tax deferred exchange - according to PR Newswire - “The IRS has extended the 45-day and 180-day 1031 exchange deadlines for eligible taxpayers. Those who qualify will now have an extended General Postponement date of October 16, 2023 to find a replacement property and close on their 1031 exchange transaction.”
 
Reconciliation of your common area maintenance expenses. Your landlord may lump all of your operating expenses into an annual amount and bill you on a monthly basis. Normally, budgeting for this occurs in October so that invoicing may commence in January. Taken into account are things such as property taxes, insurance and maintenance. If you pay too much or too little during a calendar year - the amounts are reconciled in the first quarter. If you’ve not received a reconciliation - I’d suggest phoning your owner.
 
Make sure all of your entities are active. A good time to check this is during tax time. But since the window for taxes has moved - make sure you’ve paid the state for those corporate filings. Check on business licenses as well. We represented a seller a few years ago who hadn’t paid his LLC filing fees for 28 years! You can imagine the drama and expense to reactivate his entity so that we could transact.
 
Take a look at all of the physical elements of your commercial real estate. Now that the rain has - hopefully - subsided until fall - your roof may need more than a seasonal patch. With the crunch of repairs causing roofers sleepless nights - you may actually be able to hire one. Now is a great time to check on your air conditioning as the hot months will be here soon. The sump pump on your truck well got a good workout last quarter. Make sure he’s up for the next soaking.
 
Plans for the balance of the year. Is a move in your future? With industrial vacancies still at historic lows - don’t wait until ninety days prior to expiration to commence the search. Most will agree a year to eighteen months is appropriate for a proper search, negotiation, fit out and relocation. 
 
Allen C. Buchanan, SIOR, is a principal with Lee & Associates Commercial Real Estate Services in Orange. He can be reached at abuchanan@lee-associates.com or 714.564.7104. His website is allencbuchanan.blogspot.com.
 

What to expect for the balance of the year with commercial real estate.

Image Attribution: www.media4math.com

As I write this column there are approximately nine months remaining in 2023. Yes. The year is slipping by quickly. And now with the tax deadline postponed until October - the landmark signaling “it’s time to get rolling” each year has vanished. The first three months of 2023 have been curious. Overall, the amount of industrial activity has waned. Certainly compared to Q1 of 22 but also compared with the last half of the year as interest rate hikes, inflationary pressures, and global turmoil created uncertainty. So what am I watching and what should we expect for the last gestation period of 2023? 
 
The Federal Reserve. Our central bank is in a real quandary. On the one hand, inflation has proved stubborn - due primarily to consumer spending, the cost of shelter, and services. On the other hand, if the Fed resumes its aggressive rate march up the ladder, it risks causing other bank failures. As well, a pause could be an indication they’re concerned about breaking something else which could further shake confidence. Two weeks ago, I was in the camp expecting a 50 basis point bump. Now, I believe we’ll see a 25 basis points. This will increase the Fed Funds Rate 4.83%. In January of last year it was .58%. Will we reach a 6% target as anticipated this year? Unlikely at the point. But with the fluidity with which we saw events unfold over the past week - it wouldn’t shock me.
 
Class A industrial leasing activity. Our market is delivering more class A industrial inventory than ever since we began tracking such things in 1990. Fueled by a low cost of money, large global manufacturers making a decision to sell their aging campuses, and rabid developer appetites with an institutional credit card and desire for returns - we saw such name brands as Kimberly Clark, Boeing, Beckman, Kraft Heinz, National Oilwell Varco, Schneider Foods, Ricoh, and others hit the exit ramp. Resulting has been an array of beautiful new logistics spaces with all the new amenities of upgraded warehouse fire suppression, super high stacking capabilities, and marvelous truck maneuvering. Just over 2,700,000 square feet of new addresses are open for business and seeking residents. Goodman’s development in Fullerton - on the old Kimberly Clark site and been noteworthy. Delivering first in an otherwise crowded waiting room and with size ranges not normally found in North Orange County - 100% of the 1,600,000 square feet have been leased with recognized names such as Sprouts, Samsung, and Bandai. Very successful! What remains to be born are a number of buildings of essentially the same size range - 120,000-200,000 square feet. I believe we’ll see some lease rate softening in order to get all the buildings absorbed.
 
Office building defaults. A perfect storm is brewing. First, our hybrid working environment has cratered high rise occupancy. Second, office deals are expensive to originate. Once downtime, rent concessions, beneficial occupancy, tenant improvements, and broker commission bonuses are computed - roughly half the income an owner will receive is pre-spent. Next, our stock of office buildings in Orange County is aging and many don’t provide the modern experience many office tenants are seeking. In order to retrofit these vintage spaces is extremely expensive. Plus, the investment doesn’t guarantee a higher level of occupancy or higher rent. Finally, we’re in an unfavorable interest rate environment that is filled with lenders unwilling to loan on office space. My sense is some owners will opt to hand over the keys to the lender vs investing a ton of money to bolster leasing activity.
 
Allen C. Buchanan, SIOR, is a principal with Lee & Associates Commercial Real Estate Services in Orange. He can be reached at abuchanan@lee-associates.com or 714.564.7104. His website is allencbuchanan.blogspot.com.
 

Does the demise of Silicon Valley Bank portend bad news for commercial real estate.

Image Attribution: www.investopedia.com 

As we dawned 2022, yield on ten year treasuries was 1.73%. Also referred to as T-bills - the rate today is 3.4%. Last week the rate eclipsed 4% for the first time since last October. But prior to that, rates had stubbornly refused to budge north of 4%. During the Federal Reserve’s loosening in the pandemic - rates on ten year treasuries were below single digits. That’s right! In mid 2020, if you agreed to tie up your money for ten years - until maturity - you’d receive a paltry .52%. Let’s say you were quite cautious, risk averse, but wanted some return on your cash and bought a pile of these government issues. If you planned to redeem the bonds in 2030 - no problem. The return would be there, along with your principal amount. Let’s say for example you parked $100,000 in this manner. You could expect your investment to yield $520 per year for its duration. But. What would happen if you needed the principal before the maturity date of 2030? You could sell the bonds on the market. But at a steep discount. How much, you may be wondering? Using the yield of 3.4% today, your principal would be worth $15,294! That’s a hit of close to 85%. This very over simplified example is partially what caused Silicon Valley Bank to fail and be seized by federal regulators. When the run on deposits occurred last week - the bank was forced to take a loss on its bond portfolio in order to cash out investors. Bonds move inversely. As the price of a bond increases its yield decreases and vice versa. Capitalization rates on real estate behave in a similar fashion. As cap rates increase - the value of the underlying property decreases.
 
So. To the question above - what impact a bank failure might have on commercial real estate - here goes.
 
The Federal Reserve may not raise rates as aggressively as it planned. When the federal reserve started its march toward a federal funds rate target of 6% - in an effort to lower inflation to 2% - a series of .75% rate hikes ensued. These .75% rate increases morphed into .25% rate increases early this year as inflation showed signs of easing. We’ve now experienced a couple of months of strong jobs numbers paired with increased wages and a resilient consumer who refuses to stop spending. Before the bank shenanigans of last week, many believed a .5% increase was in the works for the March Federal Reserve meeting. However, because of the rapid increase in the Fed Funds rate - remember we’ve gone from a half a percent to 4.5% in less than a year - some believe we could avoid an increase altogether.
 
Borrowing costs may increase. If depositors believe certain banks are riskier than others, they’ll demand a greater return on their money for the added risk. Read. Higher depository costs. If failures cause a revamp of banking regulations - similar to what we experienced in 2008 - reserve requirements might increase. The impact of these two mean fewer, more expensive dollars to lend.
 
Investor activity may slow. We saw a dramatic decline in institutional investor activity in the second half of 2022. Left were private capital investors. Historically, this investor genre will pay less than institutions. Primarily because they borrow money to affect the buy. A classic disconnect is now occurring between buyers and sellers. Unless there is distress on behalf of a seller and/or tax motivation on behalf of buyers the dance ends before the band tunes up. I don’t see this ending soon.
 
Cap rates may be higher. Expect higher cap rates because of all of the above. Keep in mind. A year ago 3.75%-4.25% cap rates were the norm. Traditionally reserved for the bondable absolute net investments - such as Amazon on a ten year lease with 4% annual rent hikes - capital, seeking return, was pouring in to anything with a truck door. Many eschewed long term leases in favor of shorter terms where a rent pop could be sooner realized. Now. The government will pay you 4.2% for a two year treasury backed by the full faith an credit of the United States. Sure. You don’t get the appreciation or depreciation of a real property investment but the risk is minimal. 
 
Allen C. Buchanan, SIOR, is a principal with Lee & Associates Commercial Real Estate Services in Orange. He can be reached at abuchanan@lee-associates.com or 714.564.7104. His website is allencbuchanan.blogspot.com.
 

Is NOW a good time to sell?

Image Attribution: www.dreamstime.com

With the uncertainty that permeates the media these days, many may be wondering if now is a good time to sell their commercial real estate. After all, interest rates are roughly double what they were just a year ago, rabid investor appetites have moderated, world turmoil persists and there is in again some rumbling we could recede later this year? Remember, you heard it here first in January - I believe we’ll avoid a recession - but I digress. To the question de jure. Is now a good time to sell? My answer is - it depends. Allow me to expand. 
 
In the universe of sellers there exist three types - equity, non-equity, and distress. Daylight appears between the market price  of a property and any debt owed in an equity situation. The reverse is the case in a non-equity circumstance. However, not all non-equity sellers are in distress and some distress sellers still have equity. 
 
Equity seller. A property owner with equity views their situation as a “I don’t have to sell”. But. Is their equity earning the type of return it should? I spoke to a private investor last week. He’s owned and operated an industrial property since he bought it in 1998. He owes very little - which means a large pool of equity resides. He’s facing a maturing mortgage. He can refi the underlying debt, pull out some cash and the property will still cash flow - provide income after the mortgage is serviced. But is that the right move? With the rampant appreciation experienced since he acquired the property and only moderate rent growth - the return on his equity is skimpy. When I explained what sort of return could be achieved by selling today and redeploying his equity via a tax deferred exchange - he was intrigued. He can’t sell for early 2022 pricing but won’t have to buy at 2022 pricing either. There is a trade off. Sellers who occupy buildings with their companies generally are guided by business motivations - vs real estate market conditions. Specifically, if more space is needed and the residence will become excess - a selling decision might be made. Because the proceeds will be funneled into the next buy - less emphasis is placed on extracting the highest dollar amount - and more on certainty of close. 
 
Non-equity seller. Those that purchased in late 2021 and early 2022 with 90% small business administration financing could presently be a non-equity owner. With the price softening this year coupled with maximum leverage from last year - chances are no equity remains. An aggressive loan repayment or a rampant run up in pricing can remedy the imbalance. Given this scenario - I’d suggest holding unless some distress appeared.  
 
A seller in distress - equity or non-equity. In the non-equity example above, should loan repayment be required, distress emerges. Now this owner may find his only recourse is to sell - at the best price attainable. Certainly, refinancing the debt could be an option but with no equity - lender alternatives will be limited to non-existent. Because this is a forced sale of sorts - market conditions are secondary. The seller must do the best he can under the circumstances. 
 
Allen C. Buchanan, SIOR, is a principal with Lee & Associates Commercial Real Estate Services in Orange. He can be reached at abuchanan@lee-associates.com or 714.564.7104. His website is allencbuchanan.blogspot.com.
 
 

Are Sale-Leasebacks still viable?

Image Attribution: www.shutterstock.com 

Our practice centers around family owned and operated manufacturing and logistics businesses experiencing a transition. Recently, I wrote about common transitions small businesses experience. Included among these were - dissolution of a partnership, sale of a business, acquiring a competitor, or the unfortunate circumstances of the death of a principal, divorce or some other distress within the enterprise. 
 
As reviewed, all of these transitions come with their own brand of commercial real estate solution. As an example, when a competing company is acquired - two cultures must be forged into one - akin to a blended household. As you can appreciate, this can cause some drama. As the operations are morphed - so must the locations from which they occur. Frequently, redundancy is experienced. Specifically, two buildings within the same submarket - where only one is needed. Consequently, one must be jettisoned. 
 
But, let’s examine the flip side - the seller of the acquired competitor. When the sale of a business happens, the addresses from which the trades are plyed are either owned by the principal selling or leased by said principal. In the circumstance mentioned above where two facilities are within the same geography, two different strategies are employed. If the redundancy is leased and a decision is made to abandon the building - we can sublease, pay double rent until the term boils off, or default - never recommended. If owned - now without an occupant - we can sell the empty building or lease it and hold on or possibly sell the leased location to an investor. 
 
But how about the chosen building - the one selected to carry forth the business of the company and not deemed excess. Then what? A building owner finds herself in position to assign the lease agreement if appropriate, or sell or lease the building to the acquiring group. 
 
All of the above scenarios contemplate the moves made AFTER the business sale. But are there maneuvers before such a liquidation? Certainly. And I’ll spend the balance of my words describing one such arrangement - the sale-leaseback. If you’re unfamiliar, a sale-leaseback allows the owner of the location to liquidate the real estate while allowing the occupying company to remain in residence under a long term lease arrangement. 
 
We were fortunate last year to complete five sale-leasebacks. Four of the five were done in anticipation of a sale of the occupying companies. In one case a principal’s death caused disruption and the need to quickly restructure and liquidate for the heirs - who had no desire to own a company or the real estate it occupied. In the other three - the principal was in his late seventies, had experienced a business downturn from the pandemic, but wanted to capture the appreciation of the real estate today in anticipation of a business sale in a couple of years. 
 
So, why do this prior to a company’s sale? After all, rent will no longer be received by the seller. In our experience, the reasons that follow are typical. 
 
A market rent is established from which a company’s value is derived. 
 
Real estate values ebb and flow. Taking advantage of a hot market can make sense. 
 
A marketable lease can be structured - with appropriate lease rate, terms, increases, and maintenance responsibilities. 
 
You may be wondering. Does selling real estate prior to a company sale affect the company buyer pool? It indeed can and this should be carefully considered before such a strategy is completed. How you may wonder? As mentioned above - a buyer with similar locations my view a long term lease as a liability. This occurs frequently when a strategic player emerges - a group in the same industry. 
 
Allen C. Buchanan, SIOR, is a principal with Lee & Associates Commercial Real Estate Services in Orange. He can be reached at abuchanan@lee-associates.com or 714.564.7104. His website is allencbuchanan.blogspot.com.
 

CRE Brokers Defined

Image Attribution: www.clipart-library.com 

I delivered a presentation to a sales team of material handling specialists last week. Why you may wonder? I would share with you two reasons. First, I’ve transacted nineteen deals with the president since 2009 all over the western United States - we’ve grown together. This was one way of giving back to an organization that’s  been very kind to me. Secondly, we work closely with their sales team in assisting us execute deals. The better they understand our world - we both benefit. 
 
Some of you reading this column are commercial real estate practitioners. Others of you own or lease commercial real estate and pick up tidbits along the way. Still others  may be considering the field as a career or a way to supplement your income. Regardless, of your vantage point, I believe you’ll find value in todays topic. 
 
Let’s center the column on three of the four topics discussed - CRE brokers defined, how we’re paid, why you should care. 
 
CRE brokers defined. Said simply, commercial real estate brokers assist owners and occupants of commercial real estate in finding buyers or tenants for vacant buildings in the case of owners, or finding a place to relocate in the case of occupants. Commercial real estate companies are generally local, regional, national, or global, determined by the reach of their brokerage. These firms service a geography through their network of agents. Additionally, most firms find their agents on either or both sides of the transaction - representing the owner and/or the occupant. “Dual representation” describes an agent on both sides of the deal and is a much larger subject I’ll reserve for another day. However, there are companies who specialize in tenant or buyer rep. As a service provider seeking relationships with us - all of these elements are important to understand. 
 
How we’re paid. Full commission, no salaries or bonuses and only when we transact. Yep. We can spend days, weeks, months or years on initiatives that never pay us. Unlike those with salaries or hourly service providers such as CPAs or attorneys - our profession “eats what it grows” so they say. 
 
So what, you may be wondering. We enter through the C suite in many cases deal with the president, CEO, CFO, or the COO. This gives commercial real estate practitioners a view from the top, as opposed to some service providers who must begin with a warehouse manager, or a purchasing agent. Because we start in the C-Suite, our engagement is recommended from the boss, and in most instances we don’t have to compete.
 
We are the arbiters of change. Generally, the involvement of a commercial real estate broker is preceded by some sort of a transition. Whether it’s a death, a divorce, a massive debt that must be repaid, some distress, a dissolution of a partnership, or a disposition of the company - our job is to assist a company navigating these transitions. 
 
We are upstream from most relocation decisions. By this I mean, we must network with trusted advisers, so that we are in proper position once a transition occurs. Business attorneys, CPAs, commercial, insurance, brokers, investment, bankers, business, bankers, and wealth advisors are all professions. That will see a transaction before we do. But, we are in front of all those that must rely upon a transaction to occur such as contractors, escrow, agents, architects, and the like. 
 
Allen C. Buchanan, SIOR, is a principal with Lee & Associates Commercial Real Estate Services in Orange. He can be reached at abuchanan@lee-associates.com or 714.564.7104. His website is allencbuchanan.blogspot.com.
  

Advice if you’re considering selling your leased building

Image Attribution: www.dreamstime.com 

Occasionally, I’m asked how I get column inspiration. For me it’s a combination of reporting on macro trends in our industrial real estate market, advice I give my clients, issues that have arisen in transactions, and happenings with the business owners I counsel. Sometimes, a column idea falls from the sky - which happened today. 
 
Allow me to set the stage. I received an email from a client who recently relocated his business to a smaller leased location. The previous business address is owned. Upon my client’s vacation of the premises - he leased it to a neighbor. His plans - near term - are to move to a bordering state. Continuing to OEM real estate in California would create a undo tax burden on the income received vs selling the California asset and redeploying the proceeds into a leased building in a tax friendlier state. This, his motivation to sell. My client asked what considerations should be given for the framework of the lease agreement - allowing marketability and security. 
 
Below is the advice I offered. 
 
The lease should reflect a market lease rate - or as close as you can get. Value is a return on this rent. Consider swapping a couple of months free to get a higher rent figure. 
 
Build in sufficient annual rent increases. Most are written with 4% annual bumps these days
 
All “purchase rights” - options, rights of first refusal, rights of first offer should be eliminated. 
 
Make sure the tenant is responsible for all property tax increases when the property is reassessed after sale. 
 
The AIR Single Tenant Net Lease is widely used to document the deal. It’s common and most investors are familiar. 
 
Most investors want a relatively new roof and hvac units. Under a NNN lease, your tenant is responsible for maintenance and repair of these items but replacement is the owner’s responsibility - which can then be billed to the tenant monthly over twelve years. So, consider replacing these before sale. 
 
These days a five year lease is a minimum. 7-10 is much better - especially if you have the 4% kickers. 
 
Finally, credit of the tenant is huge. You’ll want to have two years of P and Ls, balance sheets, and corporate tax returns on hand. I’d see if you could get the principals to personally guarantee the lease to add a layer of security. 
 
Allen C. Buchanan, SIOR, is a principal with Lee & Associates Commercial Real Estate Services in Orange. He can be reached at abuchanan@lee-associates.com or 714.564.7104. His website is allencbuchanan.blogspot.com.