Article published in the NNBW "How To Analyze, Buy Commercial Real Estate" special June 3, 2013. Contributed by the NAI Alliance Investment Services Group.
Successfully investing in commercial real estate has never been easy and today’s sophistication and tight margins make this as true as ever. This is true from both the investor and broker standpoint. Many potential investors have typically done quick search, perhaps through a commercial real estate search engine, to find properties that fit their spatial and/or return requirements, drive the properties and search a few comparables, and then try to get the best value based off of the information they were able to gather.
Is this really the best way to identify CRE opportunities? There are a number of approaches to determining value. A good broker can quickly acquire the same data using the aforementioned methods. In residential real estate, this can be a pretty reliable indicator of value and will typically satisfy the client. However, in commercial real estate, an experienced broker knows that this simplistic approach has its shortcomings as it oftentimes is akin to comparing apples to giraffes. Price per square foot isn’t the only barometer mark for achieving the best value, it’s just one component.
Savvy brokers know that the most important benefit they can provide a prospective investor is their knowledge of market conditions, their understanding of the client’s needs, and ultimately the ability to marry the two together to achieve the best possible deal. Specific to comps, a per square foot number on a land deal might get us in the ballpark but a per square foot on a leased asset may tell us virtually nothing as market strength, quality of tenant, lease type and length, age and quality of the asset, debt considerations and the seller’s cap rate all play predominantly in assessing an accurate value.
Capitalization rates are one of the primary metrics you hear about when comparing income producing properties. Quite simply, a capitalization rate represents a property’s annual net income divided by the purchase price. It is called a cap rate because the inverse of the percentage is how many years it will take to full capitalize the property based off of the first year’s net income. For example, an investor buys a property at a 10% cap rate, it will take (1/.10) 10 years to capitalize, or pay off, the property. The cap rate is a function of how much return an investor expects for their perceived risk associated with the property. By being active members in the commercial real estate market, good brokers not only know what cap rates have been paid on all current transactions but they are able to qualify the cap rates with an analysis of the physical asset and the asset’s existing and future income stream. This combined with a clear understanding of the client’s goals allow for the establishment of a proper cap rate target for a particular property.
A quality broker understands all of these aspects and is able to confidently and effectively convey to a client how a particular opportunity is priced against the competition and thus how it may perform in the market over time. Engaging a professional, experienced brokerage firm from the beginning is will best insure identifying the opportunity that best fits the investment goals of a particular buyer.
In our initial meetings with clients, it is paramount that we go over every aspect of their current and future real estate needs and goals in order to formulate a strategy. Understanding an investor’s profile is one of the key factors in determining what type of properties will be considered. Some example investor profiles are; owner/user, high net individuals, moderate sized investment companies, and institutions. Institutional investors are organizations that control large sums of money for diversified investment in securities, real property and a range of other investment vehicles. Institutional investors include banks, insurance companies, retirement or pension funds, private equity firms, hedge funds, investment advisors and mutual funds, just to name a few.
In the end, as commercial real estate brokers, we understand that today’s investors don’t select their broker solely by what we do but also because of why they do it. And in Northern Nevada, this is key. Commercial real estate brokerage these days is much more than just answering calls made off of listing signs but now requires a passion for the community and its growth, a real time knowledge of the market at all levels and a genuine and deep understanding of a client’s goals., In doing this, a quality broker can provide the services, options, and preparedness that the client demands. That’s the win-win all clients deserve.