Commercial Real Estate Investment Opportunities

Real Estate Investing Fundamentals

2011-12-09T06:42:00.000-08:00

Making the right choices is the key to success!

Growing up in Southern Indiana causes everyone to know Bob Knight, Gene Keady, Denny Crum and Rick Pitino. Of course all these individuals were college basketball coaches of the Indiana Hoosiers, Purdue Boilermakers, Louisville Cardinals and University of Kentucky Wildcats. Every week on Sunday morning, you could listen to these coaches purport: we didn’t focus on the fundamentals, we have got to work on the fundamentals, if we just focus on the fundamentals we will win more. So, keeping this in mind and knowing even Michael Jordan used to always show up for practice before playing basketball practicing the fundamentals; today, I want to focus upon helping you the reader understand the fundamentals of real estate investment.

Real Estate provides opportunity for investors to really grow their dollars through careful and strategic management. Real Estate allows an investor to own a direct investment versus stock providing independent control of their choices. Many individuals enjoy the autonomy of decision making versus being dependent upon the management decisions of others. There are a few things to consider when investing, and I wanted to outline those factors today for first-time investors or those working to streamline their portfolio.

The first step is deciding what property type are you most comfortable owning based on your management skills, ability and time availability. Most investors normally have a full-time career and time availability to oversee a real estate project may be very limited making a NNN investment a more common sense decision. However, there are other investors who rather make their real estate investments a part of their daily career choice purchasing multi-family projects which require more hands-on management dealing with tenants and overseeing the property. As part of the first step, I would include first choosing markets of which you are familiar rather than buying out-of-state. It is good to have a real grasp of the local demographics, consumer behavior, market knowledge, traffic patterns, physical features, site knowledge and physical characteristics of the trade area.

The second step before investing is to totally grasp cash flow is the lubricant of your real estate machine. This is why calculations like cash on cash return are so critical so you may realize the return of your dollars into your pocket to re-invest into another investment and continue to watch your dollars grow like children. It is important to have a full financial analysis prepared so you understand analytics of the project. It is good to always approach investment opportunities with eyes wide open and use a common sense approach to analyzing a purchase.

Make sure you are working with a real estate broker who can provide you with the financial details. You need to make sure you have enough cash flow to handle your mortgage payments, it is always good to figure cash flow before and after taxes.

Another point I would like to make, sometimes first-time investors take too much advice from those who really do not know a whole lot about real estate. Novice investors many times rely on their attorney, accountant, family members and friends who are not actively involved with real estate investment. This can cause them to be overly cautious not understanding the dynamics of commercial real estate financing which is much different than buying a single family home. These days fixed rate financing is a rarity and the finance term is more likely to be 5 or 10 years. It is important to be cautious, but also to grasp a realistic understanding of the marketplace before approaching investments in this arena. Also looking at the performance of the S & P 500 versus real estate, I would put my betting money on real estate.

Another factor to consider is “The Giant Engine” of real estate, and that is appreciation. Nowadays after suffering such a terrific recession over the past few years, appreciation seems of little consequence to some. However, economists are predicting in 2014, appreciation will be back on track. Appreciation is what has made real estate such a great investment as a long term hold investment. Each year the value continues to increase because of market factors, inflation, and cost of living increases.

The next factor to consider is income tax ramifications. There are many tax advantages to owning real estate including depreciation, and if you decide to sell an investment and purchase another, you may capitalize on a 1031 exchange to defer any immediate tax consequences.

The third step is to choose a great team to work with you to become more prosperous. This team will compromise a competent commercial real estate broker who understands the marketplace, financing options and has a grasp on preparing a financial analysis for you. It also includes a relationship with a attorney who really know real estate law, not every attorney has the everyday working knowledge to understand what are the mechanics of Letters of Intent and purchase agreements, reciprocal easement agreements and the like. Another partner should be your accountant to help you take advantage of favorable tax consequences. And finally, to choose lenders with specific knowledge of your property type and has intimate knowledge of the financing programs available through sources like Fannie Mae, private sources, hedge funds and insurance companies.

In this moment of history for most of our lives, this is the greatest opportunity to take advantage of the real estate market and position oneself financially for the future. I hope you find this information helpful as we all practice the fundamentals to propel our success.

Book Overview: "A Field Guide to Commercial Real Estate Evaluation"

2011-12-08T18:10:00.000-08:00

Location, Location, Location!!! We all have heard this old adage for decades upon decades, however in today’s complex retail environment there are many more factors to consider than only location. In this article, I would like to share with you some information found in Dr. Richard M. Fenker’s book, The Site Book also known as “A Field Guide to Commercial Real Estate Evaluation”. Dr. Fenker contends the following factors are critical when considering a site: site features, demographics, customer knowledge, competition, market knowledge and physical characteristics of the trade area.

He purports when considering the basic principles, site evaluation is a science not an art suggesting analysis must be objective and measured using scientific tools to make intelligent estimates of future potential. He describes in-depth in his book eight key principles. The first is the notion site evaluation is science, secondly, you must know the behavior of your customers to determine traffic patterns and demographic attributes. The third denominator is “predicting sales is not the same as evaluating site quality.” His fourth principle is understanding that “evaluating risk and estimating site quality are different problems.” He continues, “You can have a site of average quality with very high risk because of a few specific factors such as very high (or no) competition, poor visibility, or poor strategic position.” His fifth principle is “objectivity in real estate depends on context.” In a nutshell, parties have differing opinions for liking or disliking a site. Dr. Fenker writes, “Objective knowledge about the features that determine the success of a retail location is the heart of an effective evaluation strategy regardless of the perspective. Strategic decisions are strengthened when complemented by a comprehensive understanding of the factors that determine site quality.” Principle Six: “Site quality is an enduring, not momentary concept.” He believes good locations or site quality possess enduring features that will stand the test of time and most likely will not change. Principle Seven is very simply to invest your money wisely upfront with an intelligent site analysis process as dog sites are very expensive mistakes. And finally, principle eight is “develop a good process and good results will follow.” His contention is short term sales are rarely a trustworthy indicator of location quality adding there are many factors other than real estate quality that determines sales and factors vary greatly from market to market.

Dr. Fenker’s book is published by Mesa House publishing and provided a good in-depth discussion of major areas affecting site evaluation, including customer sources, usage patterns, demographics, drop-in features, image, trade area, growth strategies, competition and cannibalism. I recommend it as a good read for investors to better grasp factors beyond yield and capitalization rates to consider when purchasing retail properties.

Creating a Due Diligence Checklist...

2011-10-27T21:27:00.000-07:00

One of the best methods to become a sharper investor is to make your checklists your best friends. The focus of this post are topics to include in your due diligence checklist.

The first list to consider is the Financial Due Diligence Checklist.

Income and Expense Statements

These statements document the seller’s income from tenants and expenses to operate the property. Based on this information and the quality of the information, as a prospective buyer you should be able to determine if the performance of the property matches your yield requirements.

Rent Rolls

The rent roll has been described in some investment books as the attendance sheet for the tenants, when analyzing multi-tenant properties whether strip center or multi-family project, this should provide you with some essential information. Ask for move-in dates, expiration dates, current rents received, security deposits and then compare to the income statement to determine if the cash flow matches.

Lease Agreements

It is always good to review the lease documents, and important to have qualified professionals to review them. Estoppel Certificates are usually issued prior to closing and confirms the lease is accurate and the only one made between the tenant and the current owner.

Utility Bills

Obtain the past two year’s utility bills including water, sewer, electric, gas, phone, cable, internet and compare to the P&L for accuracy. By re-evaluating, you can determine if the deal is still worth pursuing.

Property Tax Bills

Verify the past two years of property tax bills and compare to the P&L and review for discrepancies. Also, contact the tax assessor’s office and find out if you become the new owner if a property tax reassessment may affect you. If an increase is anticipated then make adjustment to your calculations in your pro-forma.

The next list to consider is the Physical Due Diligence Checklist…

It may not always be possible or probable, but ask the seller for the following.

Site Plans and Specifications

This group of documents includes the building plans, schematics, floor plans, and land use documents when the building was first built and may prove helpful in better understanding the original purpose of the property and how modifications can fit your purpose.

Photos of the Property

Photos of the exterior, interior and all the surrounding land and structures should be taken. Also aerials are quite helpful to understand the placement of the property in proximity to area retail districts, competitors, residential neighborhoods and the entire vicinity. This may aide in assisting you in determining what obstacles you may be facing now or in the future.

Interior Systems Inspection

Inspection the interior of the property for wear and tear, inquire about the age of the roof, and building code violations and governmental compliance issues.

Mechanical and Electrical Inspection

Make sure every mechanical and electric system is inspected including the HVAC, plumbing, electrical power and gas equipment and systems.

Obtain a list of Capital Improvements

Any confirmation of improvements completed in the past five years to be provided from the seller would be helpful to assess the condition of the property. Also this documentation would serve as a guide for future maintenance or replacement costs to be incurred.

Pest Inspection

This may not be necessary for all structures, however may be a lender requirement, most multi-family properties would have records on hand, and if termites or other pests are found, then it is appropriate to have the property treated.

A final due diligence checklist to consider is your Legal Due Diligence Checklist. As a commercial investor, it is worthwhile to employ the services of a qualified attorney who has experience with real estate transactions.

An Environmental Inspection

In today’s lending environment, most lenders will require a Phase I Environmental Assessment and it is important to employ the services of a reputable environmental consultant, as well as having an attorney versed in understanding the basics of the issues related environmental issues and law. Although these reports are sometimes quite cumbersome, make sure you read through the report thoroughly, if you do not understand everything, make sure you find someone who can help you, usually your consultant is the best bet. You want to make sure the property is free of potential problems, find out now or pay later.

Survey and Title Inspection

Again, most lenders will require an up-to-date survey to be completed on the property. The title company will verify the legal description matches the survey, also they will check for liens, judgments, easements, encroachments on the property which could adversely affect the use or value of the property.

Check Building Code Violations

This is a matter of traveling to the city’s planning department and verifying with the local officials there are no issues of concern.

Zoning Code

Every property has a specific use permitted, you need to review the city’s zoning ordinances to make sure it complies with what it is legally zoned for. Most lenders will not extend a loan on a property unless they know it is properly zoned for the intended use.

Insurance Policy

Ask to have a current copy of the property insurance and investigate the claim history. The property’s claim history serves as a report for prior issues, e.g. roof leaks, fires, flooding, lapse of coverage or policy cancellations.

Licenses, permits and certificates

Some of these items are necessary to operate a business, so make sure you get them from the seller. If not, check with the city officials and make sure you are in compliance with all local codes to avoid future fines.

Service and Vendor Contracts

Review all service and vendor contracts to make sure you have the right to choose, discontinue services if desired and review charges.

Personal Property Inventory

Obtain a list of all personal property such as tools, equipment, computers, furniture, supplies and appliances to remain, document all of them to ensure they stay. In most transactions, a bill of sale form is prepared to document the personal property transferred to the new owner. This should be addressed in the purchase agreement.

Police Reports

Finally, you want to check with the local authorities to determine if the property you are seeking to acquire has a quiet or active record. This is definitely something you want to know before you purchase. This is quite common when especially when evaluating multi-family projects.

I hope this list provides you a summary of what to consider when making your purchase. It is always good to work with a professional Realtor familiar with this process to assist you to make your transaction smooth and hassle free. The assistance of a professional will help guide you through the bumps and curves in the road to hopefully achieve a successful close and the beginning of a new venture. If you have questions or comments, please call me at (812) 528-3028.

Should I Invest in Small Town America?

2011-10-25T02:55:00.000-07:00

Is investing your money in small town America a good investment? This is a good question to ask and I would like to take the time to share the pros and cons with you today. Being a broker in small town America, I probably have better insight than brokers who are from large metropolitan districts. It is easier to see opportunities and also realize the pitfalls. As in any real estate investment, especially a commercial cash flow investment… location, location, location is key! If you choose a small town, it is probably best to consider national tenants who have a long history of stability in a community. For example, good picks are Dollar General, Family Dollar, CVS, Walgreens and the like. Usually, these retailers choose these towns because they have calculated the long term risk for the next twenty years and have chose to make their investment upon calculated risk. So, realizing these retailers do not blindly enter these markets without a certain amount of research, these opportunities make for the best investments.

The next consideration is to consider the stability of the local employment, where does everyone work, shop, play, educate themselves and live? If it happens to be in the same community add another positive checkmark to the list. Next step is to consider the actual location in the town, is the site located at Main & Main, or is it off the beaten path? Is there room to grow? Does the current site meet the most up-to-date store criteria for the retailer…e.g. store size, parking, visibility, accessibility and the like? As always, you have to consider any deferred maintenance issues for the facility, roof, HVAC, parking lot and the overall integrity of the facility.

The next step is the lease, of course, the first question normally asked is how many years remain on the lease. If the building is up-to-date and meets the current size requirement for the retailer, and the retailer has a long history in the same location the risk with a shorter term remaining on the original lease or option period is not as great as another site not meeting the required criteria. Yes, we would all rather purchase an investment with 10 years life in a lease or 20 would even be better, but many local investors have learned throughout the years, not to worry too much. I have met many investors who have gone five years at a time for over twenty-five years and realizing the safety of their investment. I sometimes think especially for out-of-town investors, too much weight is placed upon the initial length of the lease versus weighting out the extensions and when the dates when the extension agreements were executed.

Another great investment is small multi-tenant properties with national and regional tenants or medical offices. There are some very strong regional tenants which prefer to lease versus own property, and with good lease terms will make for a stable investment. Also, any medical office where the tenant has spent a significant amount of money in build-out is usually a good bet as well.

Opportunities where you should be more cautious include: companies in bankruptcy; retailers connecting to changing technologies have a higher risk; intensive management situations: e.g. multi-tenant properties with many local service providers, government offices, ect.; restaurants in some situations; and self-storage. Self-storage can be very management intensive and finding a good local manager can be tough, government related leases sometimes have clauses where the tenant can exit early out of the lease which is more risk than what some investors are willing to handle.

Bottomline, when evaluating opportunities in small town America, a great deal of the value proposition is based upon weighing out the risks. Usually there are fewer zoning laws which can be a double-edged sword; if demand is not great and the retailer moves, what is the real value of the property? Is there a retailer to replace the existing one, and what would be the fair market rent? On the other hand, less zoning if building a project is usually favorable, retailers as mentioned, do not make decisions in haste to move to small towns, and if they have chosen a site, it is normally with good reason and a fair bet they plan to stay for a long while.

The last point! Yes, you can always find investments that bring higher returns than others, however a 9% return on investment is not a bad return compared to 6.5%. The question is… are you okay acknowledging the investment for 9% is only guaranteed for 3-7 years in some cases versus a 6.5% return for twenty years. And how discriminating is the 20 year tenant versus a tenant who leases for five years at time? There are many variables to consider, and the length of the lease is only one factor.

There are many great opportunities in small town America and I hope this provides some insight as to how to evaluate investment decisions.

Real Estate Cycle

2011-10-11T18:43:00.000-07:00

There are a lot of great opportunities for investors to consider in real estate now. Personally, I think it is probably a good idea not to listen to CNBC, CNN or any other newscast for awhile. We are not going into a double dip recession, we are in the expansion phase of the real estate cycle and understanding this must realize, it is not always easy to snap back into place like a rubber band. In Phase I, there is very little new construction and vacancy is decreasing. So looking around the neighborhood, my neighborhood and yours, you will find that retailers and small business is becoming a little more adventurous and vacancy is decreasing. Rents may not be as robust as we like, however at least there is activity and business professionals are willing to take a certain amount of risks. In residential real estate, there are no specs under construction; however there is a limited amount of custom work and with jobs this area of the market will eventually improve.

In South Central Indiana, Cummins Engine has announced many new jobs nearly a thousand between Columbus and Seymour, Honda in Greensburg is hiring a thousand new workers, and companies like Valeo-Sylvania and Schwartz Pharma has also announced new job openings. So rather than spend all our time glaring at the television allowing our nervous system to develop acute panic, it is time to realize, this is happening throughout our country.

This recession and change in the global economy will also produce a change in the way employers do business. We have seen changes for a long period of time with increased automation and the need for a more sophisticated workforce. This is not all that bad and part of growth to make our nation smarter and stronger to compete and grow. So rather than resist growth, it appears to me, we should embrace it and realize this is part of our evolution as a country, not only economically, but socially.

Good things are happening in America, it should not be all gloom and doom. If anybody wants to beat anyone up, let’s beat up congress because they do need to reform themselves. But, no matter how disparaged we may think we are, truthfully compared to many places in the world, we are alright!

Now is a great time to consider the following property types: multi-family and truthfully retail. There are going to be many renters for awhile as many people have credit issues leaving them to this alternative versus home ownership. The vacancy rates are low and there are great opportunities in the marketplace. Retail has a bright spot, I realize many reports suggest consumer confidence is down and yes Black Friday is soon approaching and CBNC and CNN are going to report the pendulum of our economy looks one way or the other based upon how many people shop in one day… good grief! However, our economy is improving and spending is going to increase, it may not be at an all time high on Black Friday, however it is not like every American is going to weave their own clothes, grow their own food, and milk a cow or goat every day. So, investing in retail is a good long term strategy.

I always enjoy listening to the many viewpoints of my investors, as there is always something to be learned from others. Most everyone is positive, so thank you and based upon your optimism and my own viewpoint, let’s keep our personal economies moving forward with a little faith and belief. And by the way, I am proud to be a capitalist and hope you are too!

Cash-On-Cash Return

2011-08-25T19:50:00.000-07:00

Cash-on-Cash Return measures the velocity of your money. It can be described as how long an investment pays back your down payment. For example, if your down payment is $20,000, how soon would your monthly cash flow add up to $20,000. If you cash flow added up to $20,000 in one year, your cash-on-cash return would be 100%. If it takes two years, your cash-on-cash return would be 50 percent. If it takes three years, it would be 33%.

Commercial Real Estate Investing can produce amazing returns. Cash-on-cash returns of over 100% is not uncommon. Now, if you were to go to your local bank and deposit $20,000 into its most aggressive CD investment for one to three years, what type of a cash-on-cash return could you expect? Maybe 2% to 4%? As an investor, you place an emphasis on cash-on-cash return when you invest simply because you need to know how quickly you can get your down payment back, so you can reinvest it into another project.

Strategic Negotiation

2011-01-10T12:39:00.000-08:00

Commercial Real Estate Negotiations

Preface: There is more to negotiation than what I can write in this post, however feel there are key strategies to consider when negotiating and wanted to highlight some key points.

Real Estate Negotiations is much more than getting what you want. It is about making sure the interests of both parties are maintained. Sometimes negotiations may continue throughout the course of a transaction to the very close; it doesn’t necessarily indicate things are not going well, however there may be new developments which change the nature of the transaction. The real key is to become a strategic negotiator understanding the needs and interests of both parties.

Too many investors/brokers get caught up in only defining their own needs and desires and forget the other parties also has needs and desires. Thus, they create an adversarial relationship which will not lead down an easy path. Rather than being difficult, it would be more beneficial to determine the key interests of both parties and begin to create solutions which may involve some compromise to create a win/win opportunity for both.

I attended an advanced negotiating workshop led by John Shulman, an interest based negotiator and Harvard Law School graduate. In his two-day workshop, John shared many key points. He said in defining success, maximizing the satisfaction of your interests is different than winning. Other factors to consider were to create an overview of your desired outcome and the outcome of your counterparts, to avoid internal and external conflict, focus on long term versus short term interests and assess outcomes against internal goals.

John created a negotiation matrix consisting of stakeholders and their interests. He then created a criteria consisting of a three-tier assessment of importance for stakeholder interests: (1) Critical (2) Important and (3) Not Important. Critical interests are often deal breakers, Important interests are not deal-breakers to stakeholders, but create good opportunities to create value and Non Important interests can often be ignored.

I strongly feel a good strategic negotiation leads to a cooperative attitude between the parties. Obviously, the goal in most real estate transactions is to have two happy parties at closing getting basically what they want. Common Negotiation Examples to Consider: Buyers many times fuss about making earnest money hard when if they are confident the lender will get closed, it should not make a difference. Many sellers likewise are concerned about a quick due diligence period, when in reality in our new marketplace lenders are experiencing long delays with underwriters and securing secondary lenders is not a slam dunk. If the goal is to get closed, does 4-6 weeks additional time really make a difference?

Gary Tharpe, CCIM wrote, “Salespeople know they should “always be closing.” Likewise, good negotiators test the progress of negotiations not by asking for the order, but by frequently testing how the other side currently feels. Are its interests being met? Does the other team buy into a particular solution? The Godfather's lawyer said his client “insists on hearing bad news immediately,” and so should you. If members of the other side aren't going down the same path you are headed, stop and find out where they are. Testing accomplishes that.”
Keeping the end in mind is the key factor in today’s negotiations as the marketplace is complex. Not every deal is the same, situations can change and make the simplest become the most complex. Flexibility of the parties and keeping the interests of the other party in balance is key. John Shulman stated, manipulation does not satisfy interests rather facilitation satisfies legitimate needs of both parties. The point I want to make is you must understand the needs of both sides in a transaction, create transparency built around trust, understand needs, satisfy needs and be clear on the consequences if needs of both parties are not met.

The bottomline to remember is to always stay strategic keeping the needs of both parties in mind to achieve a mutual ground of understanding which leads to a successful result.

Happy New Year!

2010-12-31T04:53:00.000-08:00

Happy New Year 2011!

This year will be a great year of opportunity for commercial real estate and your chance to become more prosperous. The brisk retail sales for this past holiday season has created renewed optimism among the all the news organizations which so unfairly influences the masses. As of late, I have been engaged in the placement of several new leases and there are signs of decreasing vacancy. This is definitely an indicator of renewed vitality in the marketplace. Obviously, most lenders are still skeptical and rightly so about speculative projects; however there is money out there available for the most assertive of investors.

Capitalization rates have been falling on some credit grade investments such as Walgreens from 8-8.5% earlier in 2010 to 6.5-7.3% late in the year. Many investors have sought shelter from the volatility of the stock market to a more qualified risk of guaranteed returns. This combined with no new construction of these types of projects has created compression in the marketplace to drive down CAP rates. Medical Office Building projects are becoming quite popular and I believe before the year 2011 ends, there will be a gradual return to the retail segment as a viable investment.

I recently attended a small group presentation led by Eugenio Aleman, a senior economist from Wells Fargo. Eugenio said, ‘during the recession, our country lost approximately 9 million jobs and the current rate of employment absorption is approximately 200,000 jobs per month.’ He calculated according to this estimate it will take approximately four years to achieve some sense of normalcy. He also related most likely we will not see a realistic return of new home construction until this time. Eugenio also indicated interest rates will most likely rise following the fluctuations of the treasury markets and those involved in the bond market might re-evaluate their positions.

For the savvy investor, there will be many more opportunities this year to find incredible buys on properties especially in major markets throughout the Midwest and Southeast. A recent auction in Indianapolis where a property sold for a fraction of the market value is a testament to this prediction. Opportunities will be popping up in many places, but only those who take heed will be the real winners. Now is the time to build relationships with new lenders and re-establish former relationships to position yourself for great opportunity. We are still in Phase I of the real estate cycle, the expansion phase and like the old adage says, “Buy Low – Sell High!” We are in the buy low timeframe.

In regard to multi-family housing opportunities, decreasing vacancy and improved stability in the economy makes these opportunities ripe for the picking.

So evaluate your position and set your goals for 2011 and take advantage of this moment in time.

Interest rates are still at all time lows, properties are everywhere, and economic growth has only way to go and that is up!

I look forward to discussing with you investment strategies and opportunities in 2011, so please contact me.

Have a Super 2011!

Rob

Book Recommendation: "The Millionaire Zone"

2010-12-17T05:00:00.000-08:00

A Memo to My Investors:
There is literally a multitude of literature in today's marketplace and articles all over the internet about how to get rich. Of course, we all want to be wealthy, and my goal in life is to help my clients shorten the distance between the results they desire and where they may stand today.
Therefore, in the spirit of empowering your goals, stop by the bookstore or get online and purchase the book, "The Millionaire Zone" by Jennifer Openshaw. She has great insight into how to become wealthy into today's environment, the book was published in 2007. She has an online questionaire to create a 'millionaire zone profile' for you. To answer the questions and get started today, go to http://www.familyfn.com/.

You will discover in her book she highlights we should stay in our comfort zones and utilize the network of connections we have to be successful. She makes a case that the rugged individualism we have witnessed in the past by successful millionaires is not necessarily the best or easiest way to reach your goal in today's environment. Jennifer writes, "trying to do everything yourself leads to cascading results... Individualism - Isolation - Inactivity." She also creates a wakeup call for people thinking saving money in your 401K or placing it into a a savings account will make you wealthy.

Obviously, I do not want to give away all the secrets of her book, and no this is not a paid endorsement, however I believe it may be worth your while to read.

Have a Super Day!
Rob Millman

CRE Investment Criteria

2010-12-09T10:23:00.000-08:00

Price range: most investors seek properties between $700K and $15M.
Property types: most if not all investors want to invest in retail properties and office buildings where tenants have long term low-risk NNN leases, i.e. tenants pay for property taxes, insurance and maintenance expenses, in favor of landlords. They prefer not to invest in apartments where leases are mostly riskier gross, i.e. landlords pay for taxes, insurance and unpredictable maintenance expenses. Besides, apartment tenants normally don’t have much money which may affect their ability to pay the rents in a timely fashion.
Cap rate: the return of investment must be “reasonable”, i.e. generally higher than the interest rate. The cap rate is typically lower in Western States like California and higher in other states. However cap rate is not everything.
Property condition: investors prefer properties with little deferred maintenance.
Demographics: the selected properties tend to be in growing, high income and bigger cities/metros as they have better chance to appreciate and easier to find tenants. Besides they are easier for disposition if required. It is best to stay away from geographic areas where the economy has been struggling. Properties in these locations are easy to purchase but much more difficult to sell. In addition, it’s hard to get attractive financing, if at all, for these properties. Properties in remote areas are tougher to finance and sell. These are also easy to buy but difficult to sell. Properties in cities where the average household income is way below the national average, e.g. $28,000/year, also will be screened out as these are most likely high-crime areas.
Occupancy: close to 100%.
Good Visibility: properties tend to have most if not all units facing the road to show case the tenant businesses. Tenants love visibility. What’s good for tenants is also good for investors.
Great locations: properties on a major artery with heavy traffic, near the freeway exit, on corner lot, near a mall, on an outparcel to a shopping center.
Land: if land is not included then it does matter how beautiful the property is, it will not be selected. This is the type of property that is easy to buy but difficult to sell.
Lease Type: most likely NNN leases.
Parking spaces: at least 4 spaces per 1000 SF of leasable space. It’s difficult to lease a retail property unless it has sufficient parking spaces.
Age: not over 20 yrs old unless the property is well-maintained or recently renovated.
Price per square foot: sometimes a property is selected because the price per SF is low. The main reason for the selection is appreciation potential.
Low rent: there is upside potential if the rent is below market. When the leases expire, the rent is adjusted to market rent which increases the value of the property.
Financing: sometimes a property may be selected because it offers attractive financing. For example, the seller is willing to carry 80% LTV at low interest rate or buyer can assume a loan at 5.5% interest, fixed for 10 years. This in turn may increase the overall return or cash on cash. On the other hand, a property may be screened out because it is difficult to get reasonable financing. For example, in this tight credit market it is extremely difficult to get financing for a single-tenant mom-and-pop restaurant.
Environmental: this is an obvious criteria, you want to purchase a property without environmental contamination or risks which could adversely affect the value of the property.

Buyers Guide

2010-11-06T07:17:00.000-07:00

What is a Fee Simple Triple Net (NNN) Lease?

Net Lease Properties are the traditional real estate investment with no management obligation for the owner. In its purest form (called a NNN - Triple Net Lease) the tenant manages the property, doing everything from paying all the operating expenses, property
taxes, utilities, insurance premiums, maintenance and repairs. The landlord gets to collect monthly net rental income just as he or she would with a traditional real estate investment.

NNN’s are typically purchased on a cap rate. A cap rate is essentially a yield which is determined by dividing the tenant’s annual rent by the purchase price. For example, if Walgreens is paying $350,000 annually and the purchase price is $4,375,000, the cap rate is 8% ($350,000/$4,375,000).

A NNN Property can either be a single or multi tenant investment like a shopping center, office building or a free standing building.

A NNN Leased investment gives you total (fee-simple) ownership of a commercial property, which is pre-leased to a high credit retail tenant – (Walgreens, Burger King, Lowe’s, or Dunkin Donuts, etc.) – on a long-term basis (usually between 10-25 years), providing you with a stable, long-term cash flow. NNN leased property can be an
excellent replacement property in completing a 1031 real estate exchange transaction.

Build-to-Suit: Lease form is designed for a single tenant build to suit transaction, where the landlord builds the entire premises for the tenant. The rent payable by the tenant is pegged to the total construction and financing costs of the project, and is usually subject to percentage increases in specified years. This basically allows the tenant to move in and occupy the property with zero costs up front. Once the tenant & developer execute a lease, the developer acquires the land and constructs the property
with his owns funds. This enables the tenant to have new construction, including the cost of the land acquisition, without actually using any of its own capital or credit in land and buildings. With no mortgage or other indebtedness to be carried as debt on the tenants balance
sheet, the book value of the company’s assets is effectively
understated — enhancing the company’s Return on Assets (ROA). The rent is fully deductible over the lease term, making the tenant's after-tax cost less than with alternative forms of asset-based financing. The owner of the property can depreciate the building because you own the building and the ground.

What is a Ground Lease?

A lease of land only on which the tenant usually constructs the building (usually required to build as specified in the lease) with their own funds and owns the building during the term of the lease. Such leases are usually long-term net leases; the tenant's right and obligations continue until the lease expires or is terminated through default. In its most basic terms,
a ground lease is a method for separating ownership of the improvements (building) from the ownership of the underlying fee (ground). If you own a ground lease, you own a fee simple interest in the ground (not the building). The owner cannot depreciate a ground lease because you don't own the
building, so you have nothing to depreciate.

The reason ground leases are desirable is because the tenant is only paying to rent the land and use their own funds for all of the improvements. If the tenant leaves, the owner of the land gets the improvements and since the rent is so low (because the tenant paid for all of the improvements and was only paying to rent the land) you should easily be able to increase your return on investment. So it could actually end up benefiting a buyer
if the tenant exits. Ground leases trade at a lower CAP Rate because they are usually lower price points and below market rent.

A commercial ground lease is usually defined as a lease of land (typically the land is not improved), for a relatively long term (e.g., 25 to 99 years), where all expenses of the property are the obligation of the tenant (e.g., taxes, repair and maintenance expenses, insurance costs, and financing costs), and which allows for tenant financing for the construction of the project to be constructed on the land either by leasehold financing, and/or so called “fee subordination” financing. Ground leases, therefore, are not only leases in the traditional sense of the word but are also financing instruments. There are two major advantages for a tenant entering into a ground lease, as opposed to purchasing the land.

A ground lease substantially reduces the tenant’s front-end development costs because it eliminates land acquisition costs.
All rent payments made under a ground lease are deductible by the tenant for federal and state income tax purposes.

Typically ground leases are long term and include set rent escalations, foreclosure rights should the lessee default, and a reversionary right, which means improvements on the property revert to the landowner at the end of the lease term. While such lease terms do not particularly favor developers, ground leases offer some distinct advantages. Whichever is better depends on what the investing goals are for the property owner....both involve low maintenance, and low management; however, there are tax consequences which would effect the owner's bottom line.

Subordinated and Unsubordinated Ground Leases
The term “subordinated ground lease” refers to a ground lease in which the landowner has agreed to permit a lien to be placed against the owner’s fee simple interest in the land to secure the payment of the loan made by the construction lender or a subsequent lender to the tenant. The lender has a lien against both the fee simple interest of the landowner and the leasehold estate of the tenant. If there is a default under the loan, the lender may foreclose against both the fee title and the leasehold estate, in which case the owner loses its land.

In an unsubordinated ground lease, no lien is placed against the fee simple title to the land. Instead, the leasehold estate is the primary security for the loan.

Reasons Why a Landowner Might Agree to Subordination
It is not typical in current arms length transactions for the owner to subordinate its fee interest, but there may be instances in which an owner is willing to do so. For example, an owner may be willing to subordinate its fee in order to enable the tenant to obtain financing to develop the property, particularly if the financing will permit enhanced development of the property or development of the property in a manner that will enhance the value of the owner’s adjacent or nearby property. Or, the owner may be willing to mortgage its fee interest in exchange for participating in the project’s profits.

About 1031 Exchanges:

There are very specific 1031 exchange identification requirements for identifying potential like-kind replacement properties in your 1031 exchange transaction. The prospective like-kind replacement properties that you identify as part of your 1031 exchange do not need to be under contract or in escrow when you identify them.

Identification Period: A seller must identify another replacement property that he proposes to buy within 45-day period from the date he sold his relinquished property. The 45-day timeline is very rigid and does not allow any variances (even if the 45th day should fall on a weekend or holiday.) Note that during this period, the proceeds from the sale of the relinquished property are in the custody of the qualified intermediary.

Exchange Period: An individual has 180 days from the date of selling their property that was the basis for the 1031 to receipt of the newly-acquired property.

The period within which the person who has sold the relinquished property must receive the replacement property is referred to as the “Exchange Period” under 1031 of the IRC. This period ends at 180 days after the date on which the person transfers the property relinquished or the due date for the person's tax return for the taxable year in which the transfer of the relinquished property occurred, whichever is earlier. A word of caution: Many ill-advised or careless investors see the language referring to the due date for their tax return and assume they can wait until the last minute to purchase the new property. Remember – the deadline is the EARLIEST of the two scenarios. If an individual were to sell their 1031 property in May, the deadline for acquiring a new property (180 days) would fall well before their tax return in the spring of the following year.

While the utilization of 1031 exchanges can be an extremely valuable tool for maximizing tax savings, it is a very complex process and often difficult to navigate.

Identification Rules and Exceptions

1031 Exchange ID Rules

You must comply with at least one of the following identification rules or exceptions when completing the identification of your like-kind replacement properties:

It's advised that you get a purchase agreement set up and a replacement property in mind before starting the 1031 process. This is because "The three-property rule" (under 1031 tax exchange regulations) declares that the exchanger of a relinquished or replacement property may identify up to 3 replacement properties, regardless of their value.

Three (3) Property Identification Rule: The three (3) property identification rule limits the total (aggregate) number of like-kind replacement properties that you can identify to three (3) potential like-kind replacement properties. The vast majority of Investors today use this three (3) property identification rule.

You could acquire all three of the identified like-kind replacement properties as part of your 1031 exchange, but most Investors only acquire one of the three identified properties. The second and third identified properties are merely identified as back-up like-kind replacement properties in case you can not acquire the first property.

You will skip the three (3) property identification rule and use the 200% of Fair Market Value Rule if you are trying to diversify your investment portfolio and wish to identify more than three (3) like-kind replacement properties.

200% of Fair Market Value Identification : You can identify more than three (3) like-kind replacement properties as long as the total (aggregate) fair market value of all the identified like-kind replacement properties does not exceed 200% of the total (aggregate) net sales value of your relinquished property(ies) sold in your 1031 exchange. The limitation is only on the total (aggregate) identified value. There is no limitation on the total number of like-kind replacement properties.

For example, if you sold relinquished property(ies) in the amount of $2,000,000 you would be able to identify as many like-kind replacement properties as you want as long as the total (aggregate) value of the identified like-kind replacement properties does not exceed $4,000,000 (200% of $2,000,000).

95% Identification Exception: If more than three properties have been identified, and their total fair market value exceeds 200% of the value of what was sold, the exchange may still be valid if 95 % of the total cost of all properties on the list are purchased. This means if there are properties costing $100,000 on your list, then you must purchase at least $95,000 of them.

At Solid Investments we can assist you in locating a like-kind property for a 1031 exchange and ensure a smooth and successful transaction.

What is a Sale Leaseback?

A Real estate sale leaseback is when a business sells its commercial property for current market value and then instantly leases it back. They sell it to gain built up equity which frees up capital which can be used to invest back into the business. There are many other benefits to this transaction as well.

The balance sheet of your business is improved greatly and you retain control of the property. Since you will be leasing the property you can defer a good portion of the tax liability. With a lease you can write off the full payment each month whereas with a regular loan only the interest payment can be written off. When you complete this transaction you are always guaranteed the full market value of your property, so you don’t risk losing any money in equity.

The other benefit is that you can get a lease for commercial property for up to 25 years, which can lower your monthly payments considerably. This gives you more operating capital each month since your monthly payments will go back down some.

Real estate sale leaseback transactions are becoming more popular because they generate capital for immediate use within your business. It unlocks the value in your real estate. With real estate you can get more capital because of how fast it grows. Some businesses do sale and leaseback transactions for equipment as well.

What is a Zero Cash Flow Deal?

A Zero Cash Flow Deal is ownership of real estate structured as a “Bond” and, then, highly financed due to the credit worthiness of your Credit Tenant. It’s called a Zero Cash Flow Deal because all of the rent goes to the institutional lender.

What kind of property can be made into a Zero Cash Flow Deal?
A Zero Cash Flow Deal is constructed like a bond. It must be backed by investment grade rated credit (AAA to BBB+), a very long-term lease (generally at least 20 years); and have tightly drawn lease provisions making the tenant responsible for effectively everything relating to the leasehold.

Why would I ever do a Zero Cash Flow Deal?You are concerned that Cap Rates may go back to historic levels and want to protect your equity. If Cap Rates just go back to 8% from current 6% levels that will represent a 33% reduction in property values. If you own property and have a loan of 67% or greater, you will be wiped out. To repeat, YOUR EQUITY WILL BE WIPED OUT. By contrast, in a Zero Cash Flow Deal the income is “pre-sold” to the lender in the current low rate environment. Cap Rate and interest rate changes do not impact the value of Zero Cash Flow Deals. Why not let a willing lender take this risk?

You want to grow your portfolio in the safest, most riskaverse possible way. A Zero Cash Flow Deal let’s you leverage your tenant’s investment grade rating; and the Zero Cash Flow Deal structure to buy property worth 10 times your equity without personal recourse; with debt structures that generally don’t balloon for at least 20 years; and often are fully amortized by the tenant’s rental payments over the lease term.

When was the last time an investment involving a “zero cash flow” sounded appealing?
For most of us, that time would be never. However, there are times when “Zero Cash Flow” property can be of the most instrumental use. If used properly, they can allow someone to leverage a property with (if you can believe it) 90% debt. Of course that debt comes at a cost, namely all those rent checks that would normally be going to you, instead go to your lender (hence zero cash flow). However, after you are done paying off the debt, you would be left with a property completely paid off, most likely highly appreciated in value, and a deferment of the impending capital gains taxes.

Cons to a Zero Cash Flow Deal
Phantom Income: Phantom income is any income that is reportable as taxable income but that does not generate cash flow for the investor. In other words, the investor does not actually receive phantom income, but is taxed on it nevertheless. Earnings from limited partnerships often arrive in the form of phantom income. Phantom income can also come from zero coupon bonds, which do not pay interest but are instead sold at a discount and accrue “income” over the course of their lives. Phantom income can also occur in the form of a loan that was forgiven, whether by a business (such as a credit card company) or by a private party. The borrower is thus liable for tax on this phantom income.

Explosion of Opportunities

2010-11-04T20:03:00.000-07:00

Dear Investor,
Now is a great time to take advantage of the market as we are in the expansion phase of the real estate cycle. There are many opportunities throughout the U.S. and other countries to consider. I would like to work with you in the pursuit of your real estate goals to make your portfolio profitable and more valuable.

The Real Estate Cycle is currently in Phase I which is a buyer's market and there are many attractive investment opportunities. If you are thinking of moving your money from the stock or bond market for greater returns, real estate offers this opportunity. Currently there are many investors purchasing net lease opportunities i.e. Walgreens, CVS, Rite-Aid and other similar S&P Rated Retailers. These investments typically offer a return of 6-7.5% with the security of initial (20) year lease options. In the past several weeks there has been an influx of eager investors seeking these opportunities. If you too are interested, please contact me so we can discuss your investment strategy, desired returns and initiate the hunt to find your next investment. Please contact me so we can personally introduce ourselves to one another and take the next step to growing your financial returns and build your wealth