Spotlight On Commercial
A lot of residential investors don’t fully understand commercial property finance, writes Ben Pauley.
1 April 2019
Over the last 12 months there has been a radical shift in market sentiment across the investor market, particularly towards chasing yield. This has seen a huge influx of investors into the commercial property market, because it historically gives you better bang for your buck than residential property.
What I often find is that a lot of investors don’t fully understand commercial property finance and the key things to look out for when looking at properties, so here’s my advice.
Not All Commercial Is Created Equal
Are you purchasing a retail store? A warehouse? An industrial yard? A factory? Office space?
It’s vitally important to understand the type of property you are purchasing. Certain types of property will require full fit-outs for new tenants or will incur more wear and tear than others. Some will be more prone to seismic issues and others will be great, simple investments.
A warehouse may not generate you the highest yield, but it may provide a steady stream of income, little maintenance and great demand for tenants.
A restaurant or café may provide you a better yield, but you may have to fit-out the property for your tenant and have high maintenance costs. Your tenant may also move on after a short time leaving you with a vacancy period.
With office space, how many tenants do you have? Ever wondered about the environmental impact of a service station and the cost of that?
Banks can find retail units and cafés notoriously hard to fund. They aren’t a target market.
Not to mention the difficulty you may have in managing that premises and the cost you may incur if you need to find a new tenant (fit-outs).
Who Is Your Tenant?
Understanding your prospective tenants is vital. How often do you walk down the street and see a bar or restaurant with a name change or “under new ownership” sign. How often do you find a new store opening in your local shopping centre where another store used to be.
Blue chip tenants can be a goldmine for you and your lender. Think fast food joints, strong businesses. These tenants tend to sign longer term leases, their businesses are usually underpinned by a big corporate and there is a certainty around their ability to fulfil their lease obligations.
All of these things factor into your bank’s thinking and you can often find them more aggressive on rates and terms for the right tenant.
What Is The Location?
Don’t purchase the one retail store on an empty stretch of road. I recall a property in Auckland that was a standalone retail store and it seemed to have a new tenant every three months.
It’s also important to think about how the location will affect your tenant’s capacity to trade successfully. If they struggle, you struggle.
How will the location impact on your ability to tenant the building if needed? You don’t want to be servicing a commercial loan with a vacant property, or having to pay big incentives to get a tenant in.
It’s also worth considering what the future is for the location.
Commercial properties are valued based on rental income and cap rates, and both are largely driven by demand.
If the location you buy in is on the up and up, then expect square metre rates to go up and cap rates to go down. What does that mean for you? Capital gain.
The above are just some of the things to consider when looking at a commercial property, and things that you can bet your lender will also be looking at. If you’re thinking of making a purchase and want someone to bounce ideas around with, give Squirrel a call today.