When is a Commercial Real Estate Deal Most Vulnerable?

Akin to those toddlers who taught me lessons recently - a commercial real estate transaction is born and grows up. In effect, it has a life. Every stage is fraught with vulnerability. It starts as a need for more space, a downsize, a move out of state, a consolidation, or a sale where capital gains must be deferred. The end occurs when the new digs are occupied or the exchange is perfected. What happens in between - navigating the process - is column worthy - and where deals are most fragile.

Determining the need. All commercial real estate deals - leases, purchases, investments - begin with a need. If your company just acquired a competitor - chances are - excess locations must be considered - sold, subleased, or occupied. Exponential growth in your revenue may be handled with additional employees, new machinery, or a re-work of your plant’s layout. But - where praytell will the new hires sit if you’re out of space? A deal for another building may be spawned. However, many transactions are squashed at this stage because no move occurs. Another solution arises - additional offices are built in the existing location, new warehouse racking is installed, or a production mezzanine is added.

Deciding on a process. Testing the market of available space will require you to go it alone or engage a commercial real estate professional. If you search Loopnet for what’s available - you may quickly become jaded. The information isn’t as readily available to you as residential data published by Realtor.com or Redfin. Therefore, you’ll need a tour guide - AKA a commercial agent.

Searching. Touring a few vacant buildings may dissuade you from moving. You see - many times “there’s no place like home!” Will a cost savings occur? How about a better efficiency? Double the amount of square footage - is your increased revenue able to handle the bump in rent? Is your purchase down-payment better used in the business vs. buying a building?

Negotiating. Go in too hot - you’ll lose deals. In this owner tilted market - there aren’t that many to lose. If you fail to anticipate the needed time frames for securing financing, achieving city approvals, and checking out the roof, air conditioning, plumbing - and structure accordingly - you’re deal might crater when you request more days.

Executing. Once the paperwork is signed - the fun begins. You must now figure out if you can perform. You’ll have a decent idea - because you will have secured a pre-qualification letter from your bank - and your down payment funds are tucked away in a liquid account. But, unless the seller has provided you with a complete package of due diligence information - Enviro report, building inspection, zoning uses, plans, permits, and operating statements - you must create these reports. Countless deals die on the battlefield of due diligence as something untoward is discovered - the property once housed a landfill, the roof is porous, or the HVAC units are original.

Closing. Once contingencies are waived - a significant deposit is non-refundable. Simply, you cannot walk away without penalty. Do deals die at this stage? Sure - but rarely.

So, when is a commercial real estate deal most vulnerable? The easy answer? Before it closes! However - there is a bit more to dissect - as outlined above.

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

5 Ways to Close your Commercial Real Estate Deal Faster

Two weeks ago - in this space - I discussed the reasons your commercial real estate deal is taking so long to close. As promised - today I will discuss ways to close your commercial real estate deal faster. Our discussion two weeks ago focused upon several areas which I will use as a framework for today’s conversation.

Search. Before you search - give some real thought to all of the solutions to your space needs - staying put and re-working your layout, out sourcing a portion of your operation, taking an additional building from your current owner. Also, engage someone who can assist in zeroing in on precisely how much square footage you need.

Negotiations. In a word - Realistic! If you attempt to scalp an owner these days - you’ll be disappointed. Figure out why you are moving. Will you top line revenue increase by a large percentage? Will you be able to give a key employee a private office and thus increase her efficiency? Will a move translate into cost savings? Are you more proximate to labor or suppliers. When considered through this lens - a few cents per square foot or dollars on the purchase price pales.

Due diligence. As a commercial real estate owner - do yourself a huge favor and prepare your building for sale. Please don’t use your precious marketing time unwisely! Order an inspection so you know what repairs are needed. How’s the roof? Does the property have a rich environmental history? Make the necessary repairs. Disclose the others and price accordingly. Gather all of the pertinent documents a buyer will need to review such as - utility bills, leases, operating statements, insurance, plans, and permits. Stage your building as though it was appearing on an episode of Property Brothers. You’ll be grateful!

Financing. Buyers. Get yourself pre-qualified! I would also suggest choosing a lender, having them do a thorough underwriting of your package and know where your source of funds is originating. Many times in today’s competitive market - without a prequalification - your offer will simply be overlooked for one that is complete.

City approvals. Two suggestions here. The first would be to visit the municipality where you are considering relocating. Ask ask them where they would suggest you locate. The second suggestion would be to hire a person who can help you navigate the various city issues you will encounter.

Transition planning. Moving is expensive, disruptive, and inefficient. While considering your area of re-location – also have a moving and storage company give you a bid on the timing and cost of your move. Armed with the specifics - you’re now equipped to venture into the available space market.

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

What’s Taking So Long with my Deal?

Commercial real estate deals take time to complete - generally, a lot longer than buying your family’s residence. Best case - but rarely? The deal is completed in thirty to forty-five days. More typically? Seasons change with no conclusion to the transaction.

What begins with a simple framework of search, locate, negotiate, contract, execute, and close - many times morphs into a mire of minutiae. Layer in some professional advisors - lawyers, bankers, environmental engineers, accountants, appraisers, building inspectors, contractors and commercial real estate agents - who all must have their say - and the complexity begins.

What - you may ask - takes so long? Indulge me as I describe a few areas where transaction traffic gets pinched akin to your commute on the 405.

Search. Available inventory is at an all-time low. 98 of every 100 industrial buildings is occupied. This is great for owners - but if you’re looking for a place to re-locate your business - you are scrambling to find the right spot. So, if you could simply run out and check a half a dozen sites and choose the best - awesome! The reality is you may wait months for the right match to come along. The days are getting shorter and leaves beginning to turn.

Negotiations. Because of the historically low vacancy - owners are bullish. They understand occupants have very few - if any - choices. High asking prices follow. Motivation migrates. Concessions wane. Couple this with an occupant determined to find a “deal” and negotiations reach an impasse. The clock ticks.

Due diligence. Once you find that dream building and have struck an agreement - you now must figure out if you can buy it. Third party reports must be ordered to investigate all manner of details - appraised value, environmental history, condition of title, roof, air conditioning, structural, seismic, biological, zoning, permitting - to name a few. Normally, transactions are structured with a time-frame to complete these studies - but rarely are the time frames generous enough to allow proper ordering, investigating, reporting, reviewing and approving. One slip in scheduling can cause endless delays and the need to return to the bargaining table to beg for additional time.

Financing. Many small business owners employ the Small Business Administration - SBA - to finance their commercial real estate purchases. Depending upon the size of the loan and lender appetite - two approvals are necessary - one from the bank and the other from the Federal Government. When we experienced our government shutdown last December - SBA loan approvals screeched to a halt. Any loan package not in the approval queue before the hiatus suffered an interminable delay. Great scrutiny is placed upon the environmental health of the real estate and the value as determined by an appraisal. Unfortunately, you and your purchase operate on the loan’s timeframe.

City approvals. The use to which the property will be placed as well as any changes planned - office, power, warehouse racking, freezer cooler space - will need to be vetted and approved by the municipality. We once encountered a city approval process that eclipsed a year! This year - by the way - after leases were signed. Fortunately, we anticipated the approval timing and were able to negotiate a satisfactory structure.

Transition planning. Moving a manufacturing plant can be a bit more involved than packing your household belongings. Pair the complexity of the relocation with the inability to be “out of business” for any duration and planing becomes tantamount.

Please tune in next week as I’ll provide some suggestions to roll back Father Time and expedite your deals.

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.com.

5 Things to be a Commercial Real Estate Expert

I mentioned our summer intern in a previous column. Ahhh - the enthusiasm of youth! It’s a beautiful thing. Questions that emanate from the Cal State Fullerton senior are thought provoking and column worthy.

So here goes! What does it take to be an expert in commercial real estate? To respond - I’ll focus on the nuts and bolts vs things such as an agent license from the DRE, a Broker, empathy, professionalism, diligence, a wee bit of intellect, staying power, honesty, integrity, and the right mentor - sounds like a Boy Scout! Yeah all of those are critical - but can be said of most sales professions. To be an expert in commercial real estate you really need five things - which I’ll describe below.

Inventory. What is available for sale and for lease and more importantly - what exists at the baseline that is occupied. To determine buildings currently on the market - we use a combination of multiple listing services available to commercial agents (or those willing to pay a hefty monthly fee) - CoStar, Catylist, ILS. We supplement this information with Loopnet and our proprietary data. Baseline stats - standing stock or planned and under construction buildings are tracked using LandVision, Reonomy, CoStar, Catylist, or old school methods - such as saving brochures.

Transactions. You really must know what has leased or sold - also known as COMPS. Sale deals - because they are generally a matter of record - can be easily catalogued. Lease deals rely upon broker to broker sharing. But, the true experts understand the story behind each transaction - what caused the occupant to choose that building and the underlying motivation of the owner.

Trends. Most look in the rear view mirror of deals. But you must couple this with a look forward. Sure. Past performance can be an indicator of future success. But what if storm clouds are massing? Many of us missed the warning signs of impending doom in 2008. Using these predictions - of market direction - assist in advising our clients.

Ownership. Tricky - but crucial! Commercial real estate owners are one of two genres - owner occupants or owner investors. The former owns the premises and occupies the parcel with his business. If an owner relies upon the rent generated by the building - with no ties to the occupant - he’s an owner investor. Here’s where the expertise is needed - piercing the ownership entity. If High Dollar, LLC owns the real estate and ABC Manufacturing, Inc. is housed there - is the owner an occupant or investor? The only way to know is to research the common members of the LLC and corporation. See what I mean?

Occupancy. Easier! A simple canvass, phone call or door knock will yield this information - but its time consuming. Whether the resident leases or owns the site is another matter and relates to the ownership section.

So there you have it! Easy business. Hmmm. Not so much.

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.com.

Problems. Deal with Them!

“Solve all the problems or you won’t get paid!” Sage words from my mentor in 1984. Problems. Every deal has them - to the point if something is going too smoothly - you get a nagging feeling the apocalypse is brewing - just wait. I learned early in my career to expect issues as necessary in any business transaction.

Some of my faves. A buyer and seller who manage to entrench themselves exactly apart on the purchase price. Does 6% ring any bells? Yep. The amount of most real estate fees. An owner who refuses to approve a sublease because of the proposed use of the premises. A gaping hole in a parking lot during escrow - the buyer was convinced the site was a former landfill. A buyer 350 miles away and a document that needed his signature immediately - lest the time sensitive close couldn’t occur. A seller headed out of the country for three weeks - who insisted upon meeting with the buyer before departure.

I keep my sanity by recognizing there are five universal truths. 1. Problems are a fact. 2. There are two types - those that have and those that will occur. 3. Problems are the beginning and not the end. 4. ALL transactional problems can be solved. 5. Often the solution is rooted in the problem itself.

A word about the Code Blue Team. You know - that group of individuals - hair on fire - that race in with all manner of paraphernalia to save a patient who has coded. You need an advisory panel who can look at your situation objectively. This could be one person - your spouse or business partner. Or several people - from inside or outside your firm. If a tough knot is encountered - summon your team and follow the seven steps below.

So what should you do? Five things. 1. Embrace the problem. 2. Separate yourself from the emotion - this can take some time. 3. Pray about the solution. 4. Engage a code blue team. 5. Employ a seven step problem solving strategy.

Here’s how the strategy works.

Clearly identify the issue. Often our inability to find a solution lies with an improper definition. We recently got tangled up trying to resolve one problem. The real was - we weren’t dealing with the ultimate decision maker.

Understand everyone’s interest. With your code blue team - allow each member to ask as many questions as necessary to gain a complete understanding of the problem. Warning - this is not to offer solutions but to highlight the various stake holders, share holders, influencers, etc.

List possible solutions. Regardless of how unrealistic and with no judgements as to viability.

Select an option. You’re now ready to choose a course and go.

Deliver and document. Outline the proposed solution in writing.

Evaluate. How’d we do and how to we prevent forest fires in the future?

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.com.

Is a Commercial Building Worth More Vacant or Leased?

As we’ve discussed - commercial real estate is owned by those who occupy it with a business or investors who rely upon the rent the property produces. Therefore - a slice of commercial real estate is valued according to its utility - in the instance of an occupant or to an investor - in its ability to produce income. Occasionally the lines cross - which I will cover in the last section.

Utility varies. Think about it this way. If you’re a company that tools aerospace parts - the electricity feeding a property is critical because you use it in your operation. Without the amperage - the parcel is worthless to you. A logistics company that stacks products in a warehouse relies upon the number of truck doors and inside ceiling height. Therefore - utility is found in a property with such upgrades. An easy way to consider utility? Generally, an occupant considering a selection of buildings will place a greater emphasis on utility or use in its decision. Said occupant is willing to pay more if the commercial real estate has the features he seeks.

Income production. Rent. How much? How certain? How long? Easy. Let’s assume a building has market rents and is leased to a Fortune 500 tenant for ten years. So, there is very little risk. The valuation is simple - an investor will buy the income stream for a price. His price? Easy math. Annual rent divided by his desired return - also knows as a capitalization or “cap” rate. Thus, an annual lease payment of $12.00 at a 6% return yields a value of $200 per square foot. Consequently - your 20,000 square foot building is worth $4,000,000.

If a building is vacant - is it of no value to an investor? If he is smart - certainly not! However, the analysis is more complex and the stars must align for the resulting price he can pay to compare to an occupant purchase. Here’s the way it works. Since an investor relies upon the income - rents - a property produces, he must calculate what those rents will be, how long it will take to achieve them, and at what cost. We refer to this as lease origination expense. If he’s looking at a vacant building and the seller wants $200 per square foot - the investor must factor in the origination expense. If an investor can pay the $200, absorb the origination expense, and still get his return - golden!

If a property is leased - is it worthless to an occupant? It depends. Keep in mind - an occupant looks at utility. And he must be able to occupy the building. So, if the PERFECT site - with all the bells and whistles - is available but leased for awhile - it might still work. Here is how. We recently represented a buyer. Obligated for two years in a lease - they wanted to pursue a purchase for their next move. So, if we located a building for sale with a short term lease in place - that was beneficial. We did! Plus. Because the lease on the building we bought was short term - the buyer got a better price. Because - most investors were turned off by the impending lease expiration and most occupants couldn’t wait two years to move. Boom!

When do the lines cross. We are seeing a fair number of investors buying vacant buildings these days. Recently - a high percentage of the structures in a new development in north Orange County were sold to investors - vacant! Their motivation? Money needed to be spent. Capital had to be deployed. It was costlier to wait than to buy vacant and incur the origination expense. A similar trend is occurring inland where new logistics boxes are trading without tenants in place. The reason? More occupants are seeking leases vs purchases. As an investor - if you can buy the right utility - your origination costs are reduced, you create the income, and the world is a happy place.

Negotiations are Stuck! Now What? _ Suggestions

Commercial real estate transactions require negotiation. Duh! But, candidly, the back and forth is my least favorite part of a deal. Many consider the volleying a sport - one that must be won or lost. Skillful negotiators realize - in order for there to be a successful outcome - both parties must win. I’ve witnessed sellers - down to their dying breath - decide they’d rather give the building back to the bank vs conclude a transaction with an over zealous buyer. 

Conversely - I’ve seen buyers - whose business growth depends upon buying a building walk away due to a minute tweak in the terms. The worst - however - is a stand-off. Akin to heads-of-state squared up in an intense disagreement - the mantra of “he who first blinks loses” is repeated. As commercial real estate professionals - we find ourselves between the warring factions - struggling to find common ground.

If your negotiations are mired - what can be done? Below are _ suggestions.

Why are you at an impasse. Price? Terms - such as the length of escrow or deposit structure? Maybe your issue is more esoteric - your seller has the impression the buyer can’t perform and therefore is holding firm. If the conversations have been many rounds - sometimes a party gets weary - enough already! Regardless - the solution is often contained in the reason for the roadblock.

What’s at stake. The owner I referenced above had to sell or the bank was going to foreclose. However, he had to salvage something - even if it was his dignity. Buyers came along sensing a fire sale! What the buyers failed to recognize? At a point - the seller would simply fold and allow the lender to take the premises - consequences be damned. Just when you believe a seller has no room to maneuver - in fact he does. Never underestimate a desperate seller.

What are your alternatives. Too often a buyer will confuse his operational goals with his purchase criteria. Early in the process - gain an understanding of the buyer’s motivation for the purchase. If the buy will allow him to hire more folks, generate more sales, carry more inventory, accommodate new machinery, or manufacture a new line of products - there is an economic motivation. If negotiations reach a standstill - we review the benefit and downside. Sometimes that difference in price becomes moot in light of the increase in business revenue - or loss if he doesn’t move forward.

Are there non-monetary solutions. Occasionally, parties will agree on price but stall for other reasons. Most common would be a closing date. You see, some sellers benefit from a quick conclusion while others would prefer to postpone the final bell. Sometimes a buyer requires a bit more time to process a loan or bridge a lease obligation. So hypothetically - a seller wants finality in 60 days but the buyer is adamant about 90. Maybe the buyer can beef up his deposit in return for the extra 30 days.

Time to say good bye. Once in a while - the best deal is the one you DON’T make. I’ve found if transactions are meant to be - motivations are aligned and transparent negotiations take place - a rhythm evolves between the parties. It’s a beautiful thing! However, if you find yourself working diligently to resolve minutiae - maybe the stars won’t align. Time to crank up that search for another building.

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.com.