Everything is different in commercial real estate than it is in residential real estate. I highly recommend keeping a property management fee in your underwriting, regardless of whether or not you intend to hire a management company. Property managers will be able to walk through and assist you during your due diligence just like a contractor would.
They can help, along with your broker, point out the pros and cons for tenants and any issues that may arise during your acquisition of the property. Build Relationships With Commercial Lenders Commercial lenders will have specific underwriting criteria, as well, and can also help you determine if a deal makes sense.
Just like you need to do with your underwriting so you can become an expert at reviewing commercial investment opportunities. Yes, it can be a bear, I get it. Underwriting a project can be a very labor intensive process, especially if you do it correctly.
Every piece of commercial real estate that you buy takes away from the capital that you can invest into a deal that actually does fit your investment criteria. Commercial real estate investing is a numbers game and you may have to look at properties just to find 1 that works. General Vacancy This line item represents Potential Rental Income lost to spaces that are permanently vacant.
It would appear with a negative sign on the pro-forma since it represents a deduction. EGI represents the cash revenue that a property generates after the adjustments for temporary and permanent vacancy and free months of rent. It might also include adjustments for above or below-market leases, percentage rent for retail tenants, and other items.
Instead, they hire 3rd party management companies to deal with tenants, collect rent, resolve problems, and set up repairs and maintenance. The fees paid to these management companies are usually a percentage of EGI. Operating Expenses These include insurance, maintenance and repairs, utilities, and other miscellaneous items. These expenses are usually based on per-square-foot or per-square-meter amounts.
In places like Australia and the U. Capital Expenditures CapEx represent spending on items that are not specific to individual tenants. For example, CapEx might include spending on a new roof, elevator, or on the air conditioning or heating system in the building. Tenant Improvements TIs represent spending on items that are specific to individual tenants. Owners often pay for these items to customize the space and make it easier for tenants to move in.
Examples might include additional walls and doors in an office suite. Those TIs will not recur each year — only when a tenant renews a lease, or a new lease begins. Leasing Commissions LCs are payments made to commercial real estate brokerage and leasing companies to find new tenants and to get existing tenants to renew their leases as some negotiation may be required. LCs are almost always based on a percentage of the total lease value over the term of the lease.
As with TIs, LCs are incurred only when a new tenant moves in, or an existing one renews. When capital costs are owed, the owners draw on the Reserves to pay for them. There is significant disagreement over where the Reserve Allocations should be shown. Therefore, this group argues, the Reserves should be deducted after the NOI line item. Other people argue that you must deduct the Reserve Allocations before the NOI line item to reflect the true cost of owning the property.
We agree more with the second line of reasoning, so in this article and the case studies in our Real Estate Course , we assume that the Reserve Allocations reduce NOI. For example, if you deduct the Reserve Allocations, as we do, then NOI partially reflects capital costs. If your NOI figures are off, then your valuation will be off as well.
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With that in mind, we know that commercial real estate has been through a lot since the start of Covid shutdowns starting with office workers sent home to work remotely and online sales surging as retail stores suffered. As we settle into the new normal — with many offices implementing hybrid work schedules and surging e-commerce sales — this is a good time to take a look at current commercial real estate trends in our first blog post in the commercial real estate investing series.
Many commercial real estate investors are optimistic because of the ways the industry has been able to adapt to change, evidence of a post-Covid rebound, strong levels of infrastructure spending, and unexpected demand for industrial properties.
In addition, manufacturers are investing in distribution facilities closer to their manufacturing facilities in order to offset rising transportation costs and also investing in warehouse space as they increase the amount of inventory they keep onsite. Office space Demand for office space may be permanently reduced after changes to worker expectations mean more companies are being forced to offer work from home options to their office workers.
This reality means that office building supply may continue increasing in These developments will likely stabilize demand for office spaces this year. Retail stores E-commerce sales exploded during the pandemic as malls closed down and shoppers wanted to avoid crowds, putting a strain on once thriving retail and department stores.
In fact, several retail and department went bankrupt in and Now, despite an uptick in travel demand, hotels are not expected to experience a full recovery until Hotels in densely populated areas may continue to see lower guest rates as Covid-cautious people choose to take vacations in quieter spots while the drive-to-leisure segment may recover more quickly. There are a couple bright spots for hotels: Luxury hotels are expected to pick up renovation projects that may have stalled during the pandemic.
Some consumers are turning away from Airbnb rentals as they see the devastating impact they have had on local communities. While an architect will describe real estate from an aesthetic and functional perspective, an engineer will describe it from a physical structural perspective.
All of these answers would be correct, and a complete study of real estate requires a very comprehensive multidisciplinary approach. Yet this book, while not ignoring these various perspectives, is not intended to be a complete multidisciplinary text. The discipline we will be using is that of economics. Indeed, we need to be more precise even than that.
The former is the branch of economics that studies cities, including the spatial and social phenomena relevant to understanding real estate. These are the two major branches of economics we will be using in this text because they are the most relevant for understanding commercial property from an investment perspective. And capital assets trade in capital markets. Once again, we should be more precise. For example, most commercial property is not held by publicly traded, taxed corporations.
It may be held directly by taxed individuals or tax-exempt institutions, or it may be held by real estate investment trusts REITs , which are publicly traded corporations that are not taxed at the corporate level. But only relatively rarely is commercial property actually owned as opposed to rented or used by the taxed corporations that dominate the stock market. Commercial property assets themselves also differ from the underlying assets held by the typical publicly traded, taxed corporation in that there is almost always a well-functioning market for commercial property.
When was the last time you hired a broker to sell an operating semiconductor manufacturing or automobile assembly plant for you? Another fascinating difference between real estate and the mainstream corporate and securities environment is the simultaneous existence of two parallel asset markets in which real estate trades.
Imagine what it would be like if you could buy pharmaceutical laboratories both directly and indirectly through the purchase of drug company stocks. The real estate treatment we need must also present an intellectually coherent framework, rigorous from an academic perspective, built on a few solid underlying concepts and principles, not a hodgepodge of vaguely connected, ad hoc methodologies and rules of thumb.
Modern real estate is crying out for a framework of fundamental principles, rigorously grounded analytical tools. Yet such an elegant framework should include practical procedures and methodologies that can be applied directly to help answer typical real estate investment decision-making questions in the real world. The purpose of this book is to present such a framework, a corpus of principles, methods, and knowledge, at a level that the typical American graduate student can readily understand with a little time, effort, and study, of course.
The implication is that we can do no better than to support real estate decision making with purely ad hoc analytical techniques. But as time thrusts us into the new millennium, such an attitude truly is ignorance. Yes, real estate is complex, data is less than perfect, and decision making will always be somewhat of an art. Real estate is neither rocket science nor heart surgery, and we will never outgrow our need to always apply common sense.
They contain a very impressive corpus of knowledge and toolkit of methodology, as rigorous as any branch of the social sciences. Financial and urban economics are out there waiting to be applied to real estate investment decision making. Read this book and do it!
Organization of the Book This book is designed to be useful for several types of students, in several types of graduate courses. Part I. This is a brief two-chapter introductory overview designed to be especially useful to students who have little or no previous experience or exposure to the commercial real estate industry.
This is the urban economics part of the book: four chapters introducing the fundamental concepts and principles of that branch of economics as they relate to commercial property investment analysis. Students in urban studies programs may skim or even skip Part II and still be able to follow the remainder of the text. Part III. Such students can skip or skim Chapters 7 through 10 and still be able to follow the rest of the book.
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