By T Taylor May 19 Sep 2015
Alternative Investments, Real Estate Investing, Sector – Real Estate Rental
There’s an old joke in commercial real estate: If you think nobody cares you’re alive, just miss a few mortgage payments.
Unfortunately, there was a lot of that going on during the credit crisis that started in 2008, as commercial real estate values went into a free fall. According to the Spanish National Statistics Office real estate & commercial property values fell by 10.6% in the fourth quarter of 2008, alone – the biggest price drop since 1984.
But to savvy real estate investors, times of lower prices typically reveal genuine investment opportunities. For instance, according to a survey by Marcus & Millichap Real Estate Investment Services, of 1,129 commercial property investors, 51% planned to increase commercial real estate allocations during the 2008 credit crisis.
So, despite the significant drop-off in acquisition plans from the peak in 2005, more than half of investors still planned to increase their commercial real estate holdings. A mere 11% planned to reduce their real estate portfolios post 2014 as the market recovers.
Finding a Good Commercial Real Estate Deal:
Ask H&G or any other real estate professional about the benefits of investing in commercial property and you’ll likely trigger a monologue on how such properties are a better deal than residential real estate. Commercial property owners love the additional cash flow, the beneficial economies of scale, the relatively open playing field, and the abundant market for good, affordable property management companies and the bigger payoff from commercial real estate.
But how do you evaluate the best properties? And what separates the great deals from the rubbish.
Like most real estate properties, success starts with a good blueprint. Here’s one to help you evaluate a good commercial property deal.
There is one keys factor which separates the winners from the losers:
Learn What the Insiders Know:
In order to be a real player in commercial real estate business, you must learn to think like a professional. For example, know that commercial property is valued differently than residential property. Income on commercial real estate is directly related to its usable square footage. That’s not the case with individual homes. You’ll also see a bigger cash flow with commercial property.
The math is simple: you’ll earn more income on multifamily dwellings, for instance, than on a single-family home. Know also that commercial property leases are longer than on single-family residences. That paves the way for greater cash flow. Lastly, if you’re in a tighter credit environment, make sure to come knocking with cash in hand. Commercial property lenders like to see at least 30% down before they’ll give a loan the green light.
Here are our 11 steps to finding the best deals:
- Map out a plan of action – setting parameters is a top priority in a commercial real estate deal.
- How much can you afford to pay?
- How much do you expect to make on the deal?
- Who are the key players?
- How many tenants are already on board and paying rent?
- How much rental space do you need to fill?
- Learn to recognise a good deal!
- Get familiar with key commercial real estate metrics.
- Look for motivated sellers.
- Discover the fine art of neighbourhood “Farming”
- Use a “Three-Pronged” approach to evaluate properties.
Recognising A Good Deal
The top real estate pros know a good deal when they see one. What’s their secret?
- First, they have an exit strategy – the best deals are the ones where you know how to walk away.
- It helps to have a sharp, landowner’s eye – always be looking for damage that requires repairs.
- Know how to assess risk and make sure to break out the calculator to ensure that the property meets your financial goals.
The common key metrics to use for when assessing real estate include:
Net Operating Income (NOI).
The NOI of a commercial real estate property is calculated by valuating the property’s first year gross operating income and then subtracting the operating expenses for the first year. You want to have positive NOI.
A real estate property’s “cap” – or capitalisation – rate, is used to calculate the value of income producing properties. For example, an apartment complex of five units or more, commercial office buildings, and smaller strip Shops are all good candidates for a cap rate determination. Cap rates are used to estimate the net present value of future profits or cash flow; the process is also called capitalisation of earnings.
Cash on Cash.
Commercial real estate investors who rely on financing to purchase their properties often adhere to the cash-on-cash formula to compare first-year performance of competing properties. Cash-on-cash takes the fact that the investor in question doesn’t require 100% cash to buy the property into account, but also accounts for the fact that the investor will not keep all of the NOI because he or she must use some of it to make mortgage payments. To uncover cash on cash, real estate investors must determine the amount required to invest to purchase the property, or their initial investment.
Finding A Motivated Seller
Like any business, customers drive real estate. Your job is to find them – specifically those who are ready and eager to sell BMV (Below Market Value). The fact is that nothing happens – or even matters – in real estate until you find a deal, which is usually accompanied by a motivated seller. This is someone with a pressing reason to sell BMV. If your seller isn’t motivated, he or she won’t be as willing to negotiate.
Discovering the Fine Art of Neighbourhood “Farming.”
A great way to evaluate a commercial property is to study the neighbourhood it’s located in by going to open houses, talking to other neighbourhood owners, and looking for vacancies.
Using a “Three-Pronged” Approach to Evaluate Properties.
Be adaptable when searching for great deals. Use the internet, read the classified ads and hire bird dogs to find you the best properties. H&G can help you find valuable investment leads in exchange for a referral fee.
The Bottom Line
By and large, finding and evaluating commercial properties is not just about farming neighbourhoods, getting a great price, or sending out smoke signals to bring sellers to you. At the heart of taking action is basic human communication. It’s about building relationships and rapport with property owners so they feel comfortable talking about the good deals – and doing business with you.
If you are struggling to make sense of the noise simply pick up the phone and talk to us. We are happy to be of service to you.