Commercial Real Estate Investment - Breaking it Down Further

The demand for commercial real estate is on the rise and, for those who wish to make a pretty penny, now is an excellent time to jump in the arena.

Nathan Daly
October 15, 2020

Commercial Real Estate Investment - Breaking it Down Further

Commercial mortgage lending has been a tough ask in recent years, with the Big Four traditional banks, being regulated in-extremis due to their reckless policies and money-driven antics post-Global Financial Crisis (GFC). The likes of construction finance and commercial property loans have become very difficult to obtain for small and medium-sized businesses, and many are turning to private lending solutions in an attempt to secure financial backing to realise their commercial property ownership aspirations.

Those who like to make a pretty-penny through a return on investment (ROI) have seen this development and, if you are looking to do the same, this is the perfect guide for you. Commercial property investment offers a far wider range of investment opportunities than its residential counterpart, with companies demanding a whole variety of different spaces for their day-to-day business operations. Some companies need a warehouse, while others need office-space, car parks or high-street storefronts; they’re smaller, more affordable, and potentially more profitable for investors than residential alternatives.

Why Choose Commercial Over Residential ─ the Value

Well, as we’ve already mentioned, commercial properties are potentially more profitable and, in general, when the economy is in a good place and business is thriving, tend to be in just as much demand as residential properties. Those who do enjoy a bit of property investment are finding that the current commercial property climate provides far more lucrative returns than traditional residential property yields, showing that now is an excellent time to switch sides.

ROI

Usually, the higher the return, the greater the risk ─ this is certainly the case with commercial property, which commands higher rental rates but could endanger an investors capital if the economy takes a steep downturn. However, in the right economic conditions, when the job market is booming and the economy soaring, there tends to be less vacant commercial property than residential and, with that in mind, you can assume it’s a pretty safe bet for a consistent and persistent income stream. All businesses need a home, and all investors are looking for a positive cash flow, after all. However, in times of economic strife, unless you have a particularly attractive offering, you may find that your commercial property remains empty for weeks, months, and even years at a time.

Just like with residential property investment, yields for commercial property in Australia vary depending on the location and the quality of tenant. They can go from anywhere as low as 3.5% for prime locations with excellent tenants to 10% in poorer locations with weaker tenants. The return through property investment in this market can also soar courtesy of potential capital growth, redevelopment, and tax-related factors.

Types of Commercial Real Estate

There are lots of different options when it comes to commercial real estate. The term itself is usually split up into five separate categories: office buildings, retail, leisure, healthcare, and multifamily (more than 5 units) buildings. These categories tend to be split up between organisations which focus on industrial, retail, and office sales or services.

The experts here at Acumen Finance are going to run you through the pros and cons of the three separate services, breaking them down and simplifying the thoughts surrounding them.

Office

The ‘office’ category is exactly what you’d assume it to be - single-tenant properties, small and medium-sized professional office buildings, serviced offices, scaled all the way up to the downtown skyscrapers which giant corporations tend to use in the city.

Office property tends to come in three different classifications:

Class A

-       These are the most popular offering, packing high-grade features and amenities for high-status occupants ─ you know, the fancy buildings that the Big Four, tech leaders, and government departments use in the city.

Class B

-       Class B buildings are usually a tad older and lacking in some of the modern enhancements and niceties that Class A brings to the fore. Usually, they’re the Class A of yesterday and command a slightly lesser rental yield, which tends to attract smaller tenants with less spending capacity.

Class C

-       These are the spaces that were grandiose once upon a time, but now they’re just outdated and tend to be in desperate need of a refurb and touch-up. If you put some hard cash into a Class C, you could return it to B or even A, to command a higher rental yield.

Pros & Cons

The Australian service sector is growing with haste and has been for a considerable amount of time, now. With no signs of slowing, there is a steadily growing demand for decent office space, which is providing a great opportunity for commercial property investors to profit.  

Leases for office space tend to span from periods of 3 to 5 years with the tenant fronting the cost of the usual monthly outgoings, which often includes a fee for the managing agent. For the first three years, rent can be fixed to a rate, or you can include an annual Consumer Price Index (CPI) increase clause, which quantifies the aggregate price level in any given economy, to ensure maximum profitability from your investment ─ if the market price rises.

Retail

The ‘retail’ category is one of the most popular forms of commercial property and makes for an excellent, in-demand investment opportunity. It includes single-tenant retail buildings, ‘local’, smaller shopping centres, larger centres with additional food services, and ‘power centres’ which host the global retail giants.

Pros & Cons

If you fancy investing in the retail sector, you need to consider the current climate of the ‘shopping centre’ bubble. Take a look at where the world is spending its money ─ eCommerce, primarily. And, where it isn’t, the retail giants have scooped up the majority share of the retail market and the commercial property with it. The big names have the wealth and the capability to combat the internet wave and, as it stands, they are increasing the sizes of their shopping centres to accommodate a fast-growing consumer-base.

The ‘Joe Bloggs’ of investment is more likely to find that they could purchase a shopfront or a strip retail centre which they can rent out to small and medium-sized business owners. The only problem with that is, roughly 33% of small businesses reach the 10-year mark and live to tell the tale ─ so, do try to attract a notable, established small business if you choose to go down this route.

In essence, investments in the retail sector should be taken with caution with plenty of research ahead of time, as retail tenancies could pack a lot more risk than the other sectors if you aren’t in a position to buy larger premises that the bigger retail chains need.

Industrial

Industrial properties allow organisations to keep the country running. They tend to be factories and warehouses, and many are used for storage, distribution, manufacturing, and even office space. If you’ve jumped into the industrial property investment game or you’re tempted by it, you could find that your property, depending on size, can become anything from a small factory to a multi-hectare distribution centre. Of course, it’s worth noting that the bigger the premises, the higher the cost of your initial investment.

Pros & Cons

Investing in smaller factories presents an excellent opportunity for new or first-time investors to get into the market, with their relatively low purchase cost and potential sky-high rental yield.

Worth noting is that, with the change in the job market and the way that the industrial sector is moving, investors will likely have to adapt the traditional industrial spaces to suit the modern necessity of high-tech research areas and computer facilities, as well as office space within traditional factories ─ if they want to attract bigger tenants.

That would be ideal for the bigger national and multinational clientele, but if you’re looking to attract small and medium-sized business owners as tenants, you will likely get away with investing in older, and subsequently, cheaper properties which do not feature the state-of-the-art benefits.

The bigger the operation, the higher the return; the smaller, the lesser, but always ensure that you are prepared with a flexible facility that you can reconfigure to accommodate to suit the needs of potential growth that your upcoming tenants’ business operations may need.

Funding Commercial Property Investment

When it comes to getting in on the commercial property market, the majority of investors don’t start with a pot of gold. Rather, they rely on capital investment and, traditionally, the banks were the best option for accessing commercial mortgage lending solutions. Unfortunately, this isn’t the case anymore.

Post-Global Financial Crisis (GFC), the Big Four have been less forthcoming with development finance, construction finance, and all things ‘helpful’ for small and medium-sized businesses, as well as investors. And, the riskiest prospect for the banks is the commercial market ─ it can very quickly go sour with a simple fluctuation of the economy, and oftentimes suffer from higher vacancy rates than residential property alternatives.

However, if you are truly ambitious and ready to face the risks in an effort to expand your portfolio and revenue stream, you do have a number of options which will ease you into the commercial property market in any of the given sectors. Bank loans will command steep interest rates, but you may find that Tier 2 non-banks, or better yet, Tier 3 private lending firms can provide financing options that provide far greater flexibility than the traditional banks.

If you’re planning on jumping into the commercial investment arena and you need somebody to connect you with the right sources for financial backing, whether it be for the sake of interest-only loans, development finance or construction finance, Acumen Finance is here to help. Contact one of our professionals today, and we’ll ensure that you get the opportunity to tap into our exclusive pool of sophisticated investors, where you’ll be matched with lenders and borrowers based on the goals and merits of the given project.