Commercial Real Estate - Time to Buy? Part 1
There is a lot of buzz in the national media and among realtors and other real estate professionals that the commercial real estate market will be the next major "shoe to drop" in our nation's financial crisis.
While there is a lot of truth in that prediction it's also essential to remember that there is no such thing as THE commercial real estate market.
What really exists is a market of individual commercial properties each with their own unique characteristics.
The primary distinction this article will address involves a distinction between investment property and owner-occupied commercial property.
As you will see, now is NOT a good time to consider investing in commercial real estate UNLESS you will be running a business from the property.
For owner occupied commercial properties, however, now may be the single BEST buying opportunity we will see in decades.
When I refer to commercial real estate, I'm talking about any property that is owned for investment purposes.
These are properties that generated cash flow for the owner either as rental property (straight investment property) or in the case of owner-occupied property, where the owner runs a business.
Investment Property As a rule of thumb, investment properties are larger, require active management, and depend on high occupancy levels to achieve and maintain profitability.
A small office building, for example, many have 20 offices with 20 different tenants.
The market value of the office building is directly correlated to the cash flow generated from lease payments made by the tenants.
When the economy is expanding our office building may remain fully leased up and generate, for instance, $2500 per office per month.
Gross income would therefore be $50,000 a month.
During a recession however, vacancies in our building will rise.
Additionally tenants who remain may not be willing or able to renew their leases at the same price per square foot.
Our investor may find the office building to have only 15 tenants paying $2000 per month.
Gross income under these circumstances drops to only $30,000 a month.
The impact on net income, debt service coverage ratios and property value are equally devastating.
In today's unstable economy it is nearly impossible to predict future cash flows from a property with any degree of certainty.
Rapidly declining market fundamentals and a lack of appetite for risk on the part of both lenders and investors are creating a dearth of transactions for investment property.
Property values are clearly dropping and will likely fall further.
Check out Part 2 of this 3 article series for the short term outlook for investor owned property.
Part 3 will focus on Owner Occupied Commercial Property and why right now may be the best purchaing opportunity we will see in decades.
While there is a lot of truth in that prediction it's also essential to remember that there is no such thing as THE commercial real estate market.
What really exists is a market of individual commercial properties each with their own unique characteristics.
The primary distinction this article will address involves a distinction between investment property and owner-occupied commercial property.
As you will see, now is NOT a good time to consider investing in commercial real estate UNLESS you will be running a business from the property.
For owner occupied commercial properties, however, now may be the single BEST buying opportunity we will see in decades.
When I refer to commercial real estate, I'm talking about any property that is owned for investment purposes.
These are properties that generated cash flow for the owner either as rental property (straight investment property) or in the case of owner-occupied property, where the owner runs a business.
Investment Property As a rule of thumb, investment properties are larger, require active management, and depend on high occupancy levels to achieve and maintain profitability.
A small office building, for example, many have 20 offices with 20 different tenants.
The market value of the office building is directly correlated to the cash flow generated from lease payments made by the tenants.
When the economy is expanding our office building may remain fully leased up and generate, for instance, $2500 per office per month.
Gross income would therefore be $50,000 a month.
During a recession however, vacancies in our building will rise.
Additionally tenants who remain may not be willing or able to renew their leases at the same price per square foot.
Our investor may find the office building to have only 15 tenants paying $2000 per month.
Gross income under these circumstances drops to only $30,000 a month.
The impact on net income, debt service coverage ratios and property value are equally devastating.
In today's unstable economy it is nearly impossible to predict future cash flows from a property with any degree of certainty.
Rapidly declining market fundamentals and a lack of appetite for risk on the part of both lenders and investors are creating a dearth of transactions for investment property.
Property values are clearly dropping and will likely fall further.
Check out Part 2 of this 3 article series for the short term outlook for investor owned property.
Part 3 will focus on Owner Occupied Commercial Property and why right now may be the best purchaing opportunity we will see in decades.