Commercial Real Estate for Beginners

Retail, industrial, office, warehouse, mixed-use, and apartment buildings are examples of commercial real estate properties. Did you know that commercial real estate investing has a plethora of advantages and possible benefits for the astute investor? Stable cash flow, readily available tenants, decreased vacancy risks, and better revenue potential are just a few of the benefits.

However, investors must conduct due investigation before purchasing any commercial property to ensure that it is compatible with their investment strategy.

Fundamental #1: Determine if Commercial Property Investing is the Right Strategy for You

Investing in commercial properties, like residential real estate, will necessitate your own due research. These complicated real estate transactions can help you determine if the potential property is a good fit for your financial needs and ambitions.

Cash Flow   

A cash flow strategy, as the name implies, entails identifying and controlling your expectations. Ask yourself the following kind of questions before moving forward with this method.

•  If the property has a lower monthly cash flow, does that mean it’s not as good of a deal?
•  If the property has a higher monthly cash flow, but has other risks, does this mean that it is a good choice for my portfolio?

Keep in mind that the tactics for each property will be different as you answer these questions. Determine whether the property will satisfy your expectations and hence help you achieve your financial goals by identifying and managing your expectations. Finally, the purpose of cash flow properties is to be a more passive investing strategy that requires less involvement on the part of the investor (especially when compared to a value add property).

Value Add

A property that is considered "value add" is one that requires some renovation before it can either a) obtain higher monthly rent values or b) be rented out to tenants. With this in mind, a value-added property usually fits the following requirements: 

• It needs renovation
• There is deferred maintenance
• The exterior / landscaping of the property needs to be improved

The most crucial aspect of a value add attribute is that it is an active strategy. It will also have a lot of moving elements, requiring you to rely on your local team to successfully finish each level. Finally, when you increase the value of the property, you should expect a decrease in cash flow. However, once the value has been added to the property, you will normally experience stronger cash flows as well as a better sale value when it comes time to sell the commercial property.

Holding Time     

When you're looking at a house, you need to figure out how long you're willing to wait. Cash flow properties, for example, are usually available to lease out right away, whereas value added properties will require renovation before leasing the apartments and/or the complete building. For any form of commercial investment strategy, there are some typical deadlines that can be expected.

• The average holding period for value-add properties is one to three years.
• Buying and selling within a year is commonly associated with a flipping approach (vs. a buy and hold strategy).
• Income-producing properties might be utilized to fund the purchase of another property.

Why Commercial properties in high-appreciation locations are more likely to be held onto since the potential for higher market rents is greater.

Appreciation

Consider the possibility for appreciation while looking at commercial properties. The following kind of inquiries will assist you in determining how long you want to keep the property before selling it.

•  Is there high demand for land / space to build in the local area?
•  Are more people (year over year) moving into the area?
•  Have rental prices continued to increase (or decrease)?
•  Are businesses flocking to the area?

These kinds of queries can help you figure out not only how long you'll keep a business property, but also how much it'll appreciate.

Fundamental #2: Determine if Multi-Family Investing is the Right Strategy for You

When buying multifamily buildings, you must first decide what kind of project you want to buy. With this in mind, most people gravitate towards multi-family properties because they are the most similar to residential houses.

Cash Flow Project

• A cash flow project will typically have the following features:
• A multi-family property's major motivation is this.
• High levels of occupancy (ideally coupled with low turnover rates, i.e. residents typically renew their leases year over year).
• The units are rented at or above market rental rates.
• Expenses are minimal and/or reimbursed by the rental rates received.

Value Add Project

• A value add project will typically have the following features:
• A decrease in occupancy rates (especially when compared with competitor properties in the local area).
• The flats are being rented at a lower rate than the current market rental prices.
• The exterior or interior of the building should be upgraded.
• Operational costs are really expensive (perhaps due to higher maintenance costs, increased expenses, or poor management).
• Managing a cash flow property is typically more complicated.

Hold Period Project         

For a hold period project, compare cash flow to the property's potential for value addition. The following types of questions might help you figure out if the multi-family property is a good fit for your cash flow demands and overall investment plan.

• How do the rents stack up against the existing rental market?
• How does the property's (and units') interior and exterior compare to other properties in the area?
• Is the occupancy rate high enough to generate a sufficient monthly cash flow?
• What can be done to a) raise monthly rentals, b) boost occupancy rates, or c) lower operating costs? 

Fundamental #3: Determine if Retail / Triple Net Lease is the Right Strategy for You

A triple net lease (also known as a NNN lease) is one in which the tenant is responsible for all real estate taxes, maintenance, and insurance on the commercial property. The tenant also pays the agreed-upon "regular fees," such as rent, utilities, and so on. For the following reasons, investors may wish to purchase a commercial property and adopt a triple net lease:

• A less hands-on approach (typically used with a retail client).
• Returns may be lower than those of other investment strategies, but this is a more passive approach.
• The risk is often lesser.

Simple to manage (usually, if a property manager is involved, the management cost is lower; nevertheless, most triple net leases do not have a property manager).