I am considering a NNN commercial property in a prime location which is ~6000 sq ft. and houses 4 retail businesses. All are in first year of 5 year leases with no annual rent increase (which I don’t like and the current rental rate is slightly higher than the market right now). I can get is for ~$1M or less. Considering a 10% vacancy factor, the NOI is ~$90K. Seems like a reasonable deal to consider?
Also, I talked to 2 banks who I have long-term relationships with – one said they staying away from lending for retail centers, the other said they would look at the deal only if I was prepared for 50% LTV. The two questions I have are:
Apart from the nos. what else do I need to consider in terms of risks (half of the space is Cleaners, are there any environmental issues to look at)?
Are there lenders who will do 30-35% LTV? I am willing to do up to 35% down.
Almost everyone I talk to says stay away right now from commercial particularly retail, things are bad and they are going to get worse. I tend to think this is typically when money is made. What is your opinion?
Money is made in due diligence not in whether the markets are good or bad. As investors we just approach each period of time by using our heads.
Some of the things that I’d look for are how economically solid is the neighborhood. People losing jobs means businesses don’t have as much customer base. How long has each business been operating? Brand new businesses are very likely to fail in the first couple of years and the current economy will increase that. What are the kinds of businesses and how much risk does each have to being affected by the economy in the area? How many businesses are there and what effect does each one have to your rent base? More importantly what is the weighted risk of each one?
Basically you are buying the building based on the numbers but if half of the businesses fold within the year what will you do. In your area is there a shortage of retail space or an excess? Indicates how quickly you can get a space refilled. Do the businesses have a lot of competition in the area?
Is there easy access, good visibility, public transportation nearby, and schools (HS and College students often are not as affected as parents to money issues)?
These are just looking at some of the issues facing your customer base (and therefore you). Then there are structural concerns, adaquate parking, water drainage, zoning issues, etc. etc.
There are also legal issues. Do the tenants have any on-going complaint or possibly a suit that could be carried to you after purchasing. There is a legal document you can get current owner to have signed by all tenants to cover yourself. Don’t recall name at moment but it is worth the little extra cost to have a real estate lawyer review things for you.
Guess that is all that comes to mind at the moment. Good luck.
With no opportunity to force appreciation, you are basically buying the cash flow in this deal. If you are happy with that, fine. At best, your return will remain constant throughout this period because you cannot increase rents and the tenants are already paying your expenses. At worst, you could lose tenants, income, and have to pay their share of the expenses. Can you do this? Leverage in this case is not necessarily your friend and a 50% LTV (or less) might make sense. Do you know how long will it take to rent a dark unit? How is the economy and what is is the retail vacancy rate locally?
Understand, that unless cap rates drop for some reason in your area, with fixed rents and few expenses, your net operating income is essentially fixed and therefore, so is the value of your building over the entire 5 years. Worse yet, if cap rates increase, as they are doing nationwide for most every class of commercial property, you will lose value. What is your exit strategy in this case? Sell at a loss? I hope you are at least buying substantially above the prevailing cap rate.
I tend to think this is typically when money is made.
Money is made in all markets. Don’t think you have to buck the trend. Just because the retail property market is bad now, doesn’t make this property a good deal.
Some cleaners use environmentally friendly processes and/or have off-site plants. Others can be EPA superfund sites. If these cleaners have an off-site plant, make sure it stays that way.
If it’s 50% LTV ask for a seller carry initially…if he or she declines offer a tad more…you can do appreciation approvements other than increasing rents. Look at what are the expenses…decrease your expenses which increases the value because that’s more income…dose the area need a cell phone tower…yes cell companies will pay you rent to for placing attenas/towers on your property, have tenants if they not already pay for utilities which is common if they’re not already…decreases expenses increases income. Can the retail location add a fast food mini store inside…more income. Can the location be used for the local news channel with a camera tower to look at traffic/ weather. This is just increasing the value of the property…however this combined with the market on your side is absolutely powerful. If you can’t raise rents and they are the highest that’s a good sign that you are at the peak or high and steady not neccessary but more than likely -this cycle is a good cycle to flip -but can change just by companies moving into town increasing jobs so you need to know your market and it depends on who are your tenants. Hope to be of help