Everything You Need to Know About Commercial Real Estate

“Ninety percent of all millionaires become so through owning real estate. More money has been made in real estate than in all industrial investments combined. The wise young [person] or wage earner of today invests [their] money in real estate.” -Andrew Carnegie

I do not know if this is as true today or if it was when Andrew Carnegie said it circa 1900, but I believe it. I have met a number of millionaires and most of them have confided that real estate has been a critical part of their personal fortunes. My name is Brett Pyka and I am a real estate investor and commercial real estate agent.

When anyone (myself included) is considering a real estate investment purchase, I always ask that they detail out their investment and financial goals.  Real Estate is often a large purchase and potentially a huge percentage of a person’s financial portfolio. I find it critical to incorporate it into a larger financial plan and investment discussion.

Before you look for a commercial investment, decide what your investment goals are. Is this a long term buy and hold strategy? Are you looking for a quick flip to generate short term gains?  Are you trying to maximize todays cashflow? Or passing on cashflow to focus on total return and paying off the note?

Commercial property is not all the same, some commercial investments address certain goals better than others.  For this reason, it is important to set your goals first then look for the property.

I often get asked, “How do you find good deals?”  This is a somewhat loaded question, a “good” building for one person may not fit the goals of another.  That being said, there are some things to look for:

• Properties that have existing tenants and are paying well below market rate.  Investment properties are generally valued based on the income they are producing, so this is a potential opportunity

• If you have available cash to rehab a property, then properties that are in a solid rental market but need renovation or repair can be a strong opportunity.

• Properties in old rundown areas that are actively being revitalized are often overlooked.  These can be risky, but they can also be a potential great buy.

Real Estate like any market has its ups and downs, but there are some common mistakes that new investors make.  Here are a few to avoid:

• Do not buy a building that you cannot cover the cost if it becomes vacant.

• Do not depend on appreciation or optimistic rental increases to make up for a questionable purchase.

• This is a financial decision, not an emotional purchase of a dream home.  Commercial investment is a calculated investment process.

• Missing a few months’ rent holding out for a higher lease price can often cost you more money in the long run.

What makes a good investment and what are some signs of a bad investment? 

When first inspecting a property, I am most concerned with the existing leases and the roof condition.  One roof replacement can potentially set you back years on your investment.  Be wary of leases that do not have set increases or are locked in for a long time below market rates.

In commercial investment property you are purchasing the building, but the money is in the lease and lease terms.  Review every word of the leases and evaluate the area for desirability.

Signs of a bad investment are:

• zero or negative cashflow

• long term fixed leases with no set increases

• poorly maintained buildings that would require higher than market rates to repair and maintain

When is the right time to sell? 

There is never a set time to sell.  Selling should be considered as part of your overall financial plan.  What is the opportunity cost of holding vs selling?  How does this fit with your plan?  Should you be looking at a 1031 like kind exchange or are you trying to cash out?  This can be highly dependent your financial goals and plan.

Selling should always be a benefit not a need.  If you need to sell a building, then the plan broke down somewhere, and this happens, but it should not be the norm.  Sell only when the opportunity cost of holding no longer fits your plan.

What type of return on your money can you expect with real estate?

Real estate is an amazing investment vehicle with a remarkable ability to forecast returns, but that is based on specific buyers/sellers with specific goals reviewing a particular property.  As a general question this is all over the board. A general tool to compare different investment properties is Cap rate (capitalization rate). Cap rate is the ratio of net operating income to purchase price. (example: a $1,000,000 property that has a net yearly income of $100,000 has a 10% CAP rate). Cap rate is a quick and easy, rough way, to compare very different properties.

Keep in mind that it is not the end all be all, it is just an easy initial way to check the efficiency of money. There are properties with high Cap rates that are not always a good buy, and there are properties with lower Cap rates that certain individuals should consider. It should be noted that Cap rate does not determine return on investment. I have sold a property that was had a high projected Cap rate of 11.20% (property was vacant). The buyer was leveraging his position and only put 20% of the purchase price down. The loan rate was 4.5%.  So, the net income and equity build (from principal payments) had this property delivering 38.25% in year 1.  This did not include cash returns from depreciation (or accelerated depreciation). Yes, real estate can deliver high returns.

But do not be fooled, it can also domino negatively. This is why I strongly encourage you to have a well thought out financial plan on how to incorporate real estate into your portfolio.

While Brett hopes you found this post helpful, he prefers to have a conversation when someone is considering investing in real estate. Visit supremerealestategroup.com to learn more about the right real estate investments for your specific financial situation