The right time to go commercial

[younguns]

Afternoon all

I'm just starting to investigate adding a commercial property to our portfolio. Primarily because of the superior cash flow vs negatively geared resi property.

I'm a complete novice so apologise if this is a silly question.

From what I have read on SS it seems as though anything under $1mil is a waste of time? We should have access to $200K plus costs for a deposit in 12 months time. Would it be worth jumping in with a smaller commercial property sooner or continue building the resi portfolio and revisiting commercial when we have more equity?


Thanks in advance
younguns

 

[Xenia]

I would not advise commercial unless you have enough equity/wealth/ savings accumulated elsewhere so that you can fund any very long vacancy rates should they occur.

Cash flow can be better, the investment is riskier so you need to be sure you can mitigate that risk.

 

[Rolf Latham]

Hiya YG

with most comm, bank on 25 to 30 % deposit, plus costs and in some cases GST, so you need a little more than tghe 200 k for a 1 mill plus CIP

ta
rolf

 

[jaycee]

I would not advise commercial unless you have enough equity/wealth/ savings accumulated elsewhere so that you can fund any very long vacancy rates should they occur.

Cash flow can be better, the investment is riskier so you need to be sure you can mitigate that risk.

Xenia,

When you say this, what types of commercial properties are you inculuing / excluding in this ? any type of commercial ? Over / under a certain price bracket ?

Just trying to get more understanding of the point you've made as I've heard and seen it raised many times before. Hoping this is also in line with the original poster's intentions...

$1m mark "about right" as far as the starting price one ought ot be looking at ?

 

[Xenia]

JC

my post was relating to retail commercial property as I have no experience in any other areas.

My experience is that they tend to have a higher vacancy rate at the end of leases and I have had clients needing to sell desperately due to being unable to hold onto vacant premises. - this needs to be factored in at purchase.

all price ranges will experience a higher vacancy when compared to residential property and it is not a matter of reducing the rent to fill it in commercial - well not always.

 

[chilliblue]

JC

my post was relating to retail commercial property as I have no experience in any other areas.

My experience is that they tend to have a higher vacancy rate at the end of leases and I have had clients needing to sell desperately due to being unable to hold onto vacant premises. - this needs to be factored in at purchase.

all price ranges will experience a higher vacancy when compared to residential property and it is not a matter of reducing the rent to fill it in commercial - well not always.

This is not true.

Like any property purchase, if you buy well and choose your tenant carefully, the vacancy rates and risk will be low.

Further, if you have a decent lease with terms such as:

- 12 months notice of vacating by tenant

- tenant make good upon vacating

you should have nothing to fear about vacancy rates.

My recommendation for a newbie commercial investor is to take your time and investigate the markets you want to enter.

You can puchase smaller commercial sites/offices and the like for the price that you are looking for. It may not be in the areas that you original thought.

Spend the next few months looking around at different styles of commercial property in differing areas. Look at what is on the market, what is selling and what is renting.

Go and talk to the various levels of agents. From the street front to the nationals.

Read as much as you can and ask questions.

Best of luck.

 

[younguns]

Thanks everyone for your comments and advice. I really appreciate how many people on SS are prepared to share their knowledge and experience. Hopefully we will be able to pay back the favour one day!

I take on board your point Xenia about vacancy and a slush fund should this occur. We obviously need to do allot of research into what we could get for our budget and the returns vs risks involved.

Is there a particular area or property type we should be looking at given our budget? Perth has quite a few new industrial and commercial areas springing up...

Thanks again
Younguns

 

[Trogdor]

Afternoon all

I'm just starting to investigate adding a commercial property to our portfolio. Primarily because of the superior cash flow vs negatively geared resi property.

I'm a complete novice so apologise if this is a silly question.

From what I have read on SS it seems as though anything under $1mil is a waste of time? We should have access to $200K plus costs for a deposit in 12 months time. Would it be worth jumping in with a smaller commercial property sooner or continue building the resi portfolio and revisiting commercial when we have more equity?


Thanks in advance
younguns

My thoughts only (and unlike Xena I own CIP):

* You can start with under $1m. Obviously depends on the type of property and area. My experience is that, although your options get better as the price increases, in the 600k - 1m mark you can get plenty of stuff which is better on many (all?) counts that resi. 600k in the area we bought in would be the absolute lower limit Id be comfortable with - but in different areas how long is a piece of string.

* Agree you need to have strong cashflow, but from your other post you do younguns. Why not just buy the first one in a unit trust or in your own names (held by the high income earner) so if the worst comes to the worst you can claim negative gearing during a vacancy (extended or otherwise). I'll tell you what, a vacant CIP with negative gearing won't yield much different to a leased capital city resi !! I'd suggest though if you can't fund a year vacancy in any (not all, but say one) of your IPs your flying too close to the wind. You also don;t need to leverage as much in your portfolio when running CIPs, so you can buy one, build a buffer and pay a bigger chunk down (in redraw so you can get it out if needed for liquidity), buy another, etc.. Rather than resi where you need a massive leveraged portfolio to get anywhere.

* Next time you go shopping on a retail strip pay close attention to the shops, how long they have been there, how often they change, etc.. You get some great strips and some awful ones. Same deal for other categories of CIP.

When we bought our first I (ashamed to admit it) almost didn't expect the rent cheque to come in each month or something bad to happen due to the "its so risky" mantra you hear on SS. About 17 months later cheques still come in blah blah blah. That said, if we had a vacancy we'd have no probs covering mortgage indefinitely. Once net rent and divs click over into a number you could easily live off if you had no debt, the urge to accumulate slows, and you're happy to expand more slowly and safely (as simply keeping up the amortisation schedule will lead to a *VERY* comfortable retirement).

Anyway - I know I wouldn't buy another resi again (unless its a PPOR) and we're not that far ahead of you guys.

 

[younguns]

My thoughts only (and unlike Xena I own CIP):

* You can start with under $1m. Obviously depends on the type of property and area. My experience is that, although your options get better as the price increases, in the 600k - 1m mark you can get plenty of stuff which is better on many (all?) counts that resi. 600k in the area we bought in would be the absolute lower limit Id be comfortable with - but in different areas how long is a piece of string.

* Agree you need to have strong cashflow, but from your other post you do younguns. Why not just buy the first one in a unit trust or in your own names (held by the high income earner) so if the worst comes to the worst you can claim negative gearing during a vacancy (extended or otherwise). I'll tell you what, a vacant CIP with negative gearing won't yield much different to a leased capital city resi !! I'd suggest though if you can't fund a year vacancy in any (not all, but say one) of your IPs your flying too close to the wind. You also don;t need to leverage as much in your portfolio when running CIPs, so you can buy one, build a buffer and pay a bigger chunk down (in redraw so you can get it out if needed for liquidity), buy another, etc.. Rather than resi where you need a massive leveraged portfolio to get anywhere.

* Next time you go shopping on a retail strip pay close attention to the shops, how long they have been there, how often they change, etc.. You get some great strips and some awful ones. Same deal for other categories of CIP.

When we bought our first I (ashamed to admit it) almost didn't expect the rent cheque to come in each month or something bad to happen due to the "its so risky" mantra you hear on SS. About 17 months later cheques still come in blah blah blah. That said, if we had a vacancy we'd have no probs covering mortgage indefinitely. Once net rent and divs click over into a number you could easily live off if you had no debt, the urge to accumulate slows, and you're happy to expand more slowly and safely (as simply keeping up the amortisation schedule will lead to a *VERY* comfortable retirement).

Anyway - I know I wouldn't buy another resi again (unless its a PPOR) and we're not that far ahead of you guys.

Hi Trogdor,

Thanks for the fab reply. Sorry for the delay in responding. It's amazing how hard it is to have time at the computer!

This is really encouraging! We do have a strong cash flow at the moment and the idea of getting a good quality CIP really appeals. We need to do ALLOT of research and forecasting! I have already started looking at commercial property websites, the different areas, prices etc and have realised how little I know about CIPs.

Was your CIP cash flow positive from day 1? How long did it take until it was? What's your opinion on JV projects? Is your LVR quite high? The reason I ask is that ours is not 70% which seems to be the magic number...

I think we will spend the next few months researching and once we have finished the reno on our new place get it revalued and see how much $ we have to play with.

Thanks again,
Younguns

 

[willister]

Afternoon all

I'm just starting to investigate adding a commercial property to our portfolio. Primarily because of the superior cash flow vs negatively geared resi property.

I'm a complete novice so apologise if this is a silly question.

From what I have read on SS it seems as though anything under $1mil is a waste of time? We should have access to $200K plus costs for a deposit in 12 months time. Would it be worth jumping in with a smaller commercial property sooner or continue building the resi portfolio and revisiting commercial when we have more equity?


Thanks in advance
younguns

Hi Younguns,

Based on my experience and what I can share, in general point form:

* As others have mentioned, cash flow during vacant periods is the number one issue you must be comfortable with i.e. have sufficient cash flow.

* Location is much more critical than residential - doing business in a quiet, no man's land street will be "doomed from the start" and you'll have one hell of a time finding a tenant. A relative purchased a cp in the same subrub as me but two blocks further in and he found it almost impossible to find a tenant he nearly sold his property. With residential, even during quiet periods, a bad location can still get tenants if you have cheap rental.

* Whilst I agree with Chilliblue in terms of the "advance notice for vacating the premise" - in reality we had a 6 month agreement - i.e. having to inform us in writing to vacate 6 months before his option/term was up, finding a new tenant was also difficult - most who looked at the property needed the premise IMMEDIATELY...so it wasn't till he vacated that we found a tenant. I'm not sure if

* I must emphasise the "make good provision" on contracts. We had a mechanic many moons ago as a tenant (inherited lease when we purchased the property) who had done so much wear and tear and stained the tiles in the office that we had to fork out $6K worth of repairs. Addtionally another $1.5K for the removalists to remove all partitions (which I believe were prior to the mechanic)....We made sure that NEVER happened again with the new tenant by adding a "make good provision" clause.

* Returns are often much better, even at the worst end - it is around the 4.6-6% mark and that's extremely low. With my resi property even considering it was purchased many moons ago (2001) it could only yield 4.5%.

* Quality tenants are often much harder to find with commercial - you ride the economic wave with them....I've had 2 businesses go semi broke - they had to move to a smaller location with reduced rent because their business was going under due to bad times/increased competition.

* Size - Warehouse sizes have specific uses, unlike resi, it isn't the bigger block the better. It's more about land use, height of building and more or less how big the building is. Say if you had a block of 1,000m2 and the building itself was only 500m2, that empty 500m2 would be near usless to the tenant (unless he was planning to park a few containers there). Anything less than 200m2 would only be used for offices/tradesman/mechanics. Warehousing companies or stock trading companies need at the bare minimum 500m2 plus office space and a few car parks (e.g. 700m2). On the flip side of the coin, my neighbour (who owns 3 adjoining warehouses on the one block) found it difficult to keep all 3 properties tenanted constantly....so bigger is not always better.

Sorry I can't provide you much info about offices/shops etc. as my knowledge/experience is limited to warehouses.

 

[younguns]

Hi Younguns,

Based on my experience and what I can share, in general point form:

* As others have mentioned, cash flow during vacant periods is the number one issue you must be comfortable with i.e. have sufficient cash flow.

* Location is much more critical than residential - doing business in a quiet, no man's land street will be "doomed from the start" and you'll have one hell of a time finding a tenant. A relative purchased a cp in the same subrub as me but two blocks further in and he found it almost impossible to find a tenant he nearly sold his property. With residential, even during quiet periods, a bad location can still get tenants if you have cheap rental.

* Whilst I agree with Chilliblue in terms of the "advance notice for vacating the premise" - in reality we had a 6 month agreement - i.e. having to inform us in writing to vacate 6 months before his option/term was up, finding a new tenant was also difficult - most who looked at the property needed the premise IMMEDIATELY...so it wasn't till he vacated that we found a tenant. I'm not sure if

* I must emphasise the "make good provision" on contracts. We had a mechanic many moons ago as a tenant (inherited lease when we purchased the property) who had done so much wear and tear and stained the tiles in the office that we had to fork out $6K worth of repairs. Addtionally another $1.5K for the removalists to remove all partitions (which I believe were prior to the mechanic)....We made sure that NEVER happened again with the new tenant by adding a "make good provision" clause.

* Returns are often much better, even at the worst end - it is around the 4.6-6% mark and that's extremely low. With my resi property even considering it was purchased many moons ago (2001) it could only yield 4.5%.

* Quality tenants are often much harder to find with commercial - you ride the economic wave with them....I've had 2 businesses go semi broke - they had to move to a smaller location with reduced rent because their business was going under due to bad times/increased competition.

* Size - Warehouse sizes have specific uses, unlike resi, it isn't the bigger block the better. It's more about land use, height of building and more or less how big the building is. Say if you had a block of 1,000m2 and the building itself was only 500m2, that empty 500m2 would be near usless to the tenant (unless he was planning to park a few containers there). Anything less than 200m2 would only be used for offices/tradesman/mechanics. Warehousing companies or stock trading companies need at the bare minimum 500m2 plus office space and a few car parks (e.g. 700m2). On the flip side of the coin, my neighbour (who owns 3 adjoining warehouses on the one block) found it difficult to keep all 3 properties tenanted constantly....so bigger is not always better.

Sorry I can't provide you much info about offices/shops etc. as my knowledge/experience is limited to warehouses.

Hi Willister,

Thanks for the reply and your very useful information. Do you mind me asking how you started your research into CIP?

I like the idea of a CIP that has potential to improve it's value and tenantability (if that's a word!). So using your example above about the 1000 sqm block with just one building, perhaps we could add another?? Although rental yield is very important, I still would like to get as much capital growth/manufactured equity as possible to help leverage us into our next property. I don't even know if this is possible on our price range and I might be far to optimistic...

Thanks again,
Younguns

 

[willister]

Hi Willister,

Thanks for the reply and your very useful information. Do you mind me asking how you started your research into CIP?

I like the idea of a CIP that has potential to improve it's value and tenantability (if that's a word!). So using your example above about the 1000 sqm block with just one building, perhaps we could add another?? Although rental yield is very important, I still would like to get as much capital growth/manufactured equity as possible to help leverage us into our next property. I don't even know if this is possible on our price range and I might be far to optimistic...

Thanks again,
Younguns

Unless you can snap up a very cheap property, CP doesn't work in capital growth like the way RP does. Bear in mind to build any CP costs nearly 1.5-2 times more than RP. Say if you wanted to build a 500m2 building, I would say looking at Commercial property builder websites, it would cost about min $1,000/m2, which would be about $500K.

Weird thing is in CP, the bigger the land, the cheaper deal you seem to find. Additionally, I have seen a few cases whereby CPs were snapped up at ridiculously low per m2 prices even in good locations. Thing is, if you find a desperate seller (more common in CP than RP)...the better the deal!

Good Luck.

 

[Trogdor]

Was your CIP cash flow positive from day 1? How long did it take until it was?

We bought retail in a really low vacancy area so yield was a bit lower than if you went industrial or a warehouse. Yield for the first one was 6.35% net on purchase price, and now 18 months later is around 6.66% on purchase price. So negatively geared and will take a few more years to be neutral. After tax (incl depreciation) its not too bad. Compare with resi (c. 3% net) and its much, much better. We should be able to pay down loans pretty quickly.

Second one which settles this month is advertised for 7.0% net, don't know where it would land, could be high 6's when you do a bit of a deal. I've now learnt exactly what the last poster said, having a long period (I had 4 month settlement) doesn't help much as potential tenants skipped the property when they found out it wasn't ready for another 3 or 2 months!! Hopefully with 3 weeks to go we should find a tenant but we have no pressure to do so (could go indefinitely without a tenant) so no stress.

What's your opinion on JV projects?

Personally I'd stay away. Control means a lot to me.

Is your LVR quite high? The reason I ask is that ours is not 70% which seems to be the magic number...

After we settle on this new one we'll be around 70%, maybe a tad less across everything.

I think we will spend the next few months researching and once we have finished the reno on our new place get it revalued and see how much $ we have to play with.

Thanks again,
Younguns

Sounds like a plan. We looked at 20+ CIPs in every sector before we found ours. We even ate in a few restaraunts which were tenanted CIPs for sale!! Including what was probably the worst indian restaraunt I have every eaten at (and I've eaten at many!!) and probably the worst in the world. Had been a tenant there for 15 years, grossly under-rented. It was in a pretty bad location, but if you had bought it you would have had to have booted them (probably sending them under in the process), spent quite a bit on a refurb, and tried to relet at market in a B-grade location. So an interesting investigative experience (would have been painful for all involved) and onto the next one to check out!!

We're going to chill for a few years, and then maybe look at offices. Now that we are pretty sorted on the top line (rent / divs, pre-interest) happy to wait for a few more years and buy something bigger on lower LVR.

 

[PrimeCommercial]

There's no such figure as the magic $1mil or magic $2 mil, $5milfor commercial property. There's good property and not so good, good investments and not so good.

There's plenty of commercial property in your reach. Here's a couple I know of for example.

$635k showing 9% net
$235k showing 7.7% net
$335k retail shop in St Leonards
$165k vacant office in North Sydney

I'm not recommending these properties but they show good returns and/or well under $1mil.

Vacancy rates are dropping rather quickly and we'll be looking at rate close to 5%** soon which should provide investors with a little more confidence.

** Strata Market in North Sydney

 

[Dazz]

That's great news shady....I'll keep that under my hat.

 

[Trogdor]

There's no such figure as the magic $1mil or magic $2 mil, $5milfor commercial property. There's good property and not so good, good investments and not so good.

There's plenty of commercial property in your reach. Here's a couple I know of for example.

$635k showing 9% net
$235k showing 7.7% net
$335k retail shop in St Leonards
$165k vacant office in North Sydney

I'm not recommending these properties but they show good returns and/or well under $1mil.

Vacancy rates are dropping rather quickly and we'll be looking at rate close to 5%** soon which should provide investors with a little more confidence.

** Strata Market in North Sydney

Shady they look awful.

 

[jaycee]

I was curious as to how experienced people viewed the smaller end of the market.

I mentioned it before, but I remember a small place I stumbled across once, under 200k, leased to pathology company at about 10%+ Think it was around $165k

I wondered about it all weekened (not knowing enough to do naything) and then rang the agent Monday who said it ws under offer, so I never found out any more details to use as a learning opportunity

 

[willister]

I was curious as to how experienced people viewed the smaller end of the market.

I mentioned it before, but I remember a small place I stumbled across once, under 200k, leased to pathology company at about 10%+ Think it was around $165k

I wondered about it all weekened (not knowing enough to do naything) and then rang the agent Monday who said it ws under offer, so I never found out any more details to use as a learning opportunity

I'm not all that experienced, but from what I know, the smaller end again as always, depends on location. Stuff like small shops on shopping strips highly depends on exposure and how busy that street/mall is....

 

[jaycee]

I'm not all that experienced, but from what I know, the smaller end again as always, depends on location. Stuff like small shops on shopping strips highly depends on exposure and how busy that street/mall is....

I also wondered if there were any more inherent further differences etc for this lower end were negated against / different in the higher end which caused people to suggest the higer price bracket stuff..

 

[Telejazzer]

Some great info on this thread. The only thing in this forum is trying to read between the lines trying to distinguish what the real and 'sarcastic' comments are (a lesson in itself).