Apply Efficient Frontier to Guide Property Returns

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Are you bringing spaces to market for re-let 1-3 months ahead of the lease expiration date?  Are you applying the same lead time for lease renewals?  (Even 6 months lead time puts your property cash flows [and relationship with tenants] at undue risk).  Do you know if market competitive lease terms, or transactional renewals and re-lets are good for property returns?    Consider viewing your multi-tenant property as a collection of investments (i.e. leases) that generate a portfolio return from the interaction of cash flows.

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Efficient Frontier

Apply Modern Portfolio Theory (MPT) and Efficient Frontier (EF) to your renewal and re-let efforts to curate preferred property returns consistently.  Investopedia.com defines EF as follows “The efficient frontier is the set of optimal portfolios that offer the highest expected return for a defined level of risk or the lowest risk for a given level of expected return.  Portfolios that lie below the efficient frontier are sub-optimal because they do not provide enough return for the level of risk.  The efficient frontier rates portfolios (investments) on a scale of return (y-axis) versus risk (x-axis). Compound Annual Growth Rate (CAGR) of an investment is commonly used as the return component while standard deviation (annualized) depicts the risk metric. The efficient frontier theory was introduced by Nobel Laureate Harry Markowitz in 1952 and is a cornerstone of modern portfolio theory.”

View the multi-tenant property of focus as one investment portfolio.  Identify the rate of return your organization would accept from alternative investments to earn on equity invested in the property (e.g. other properties, notes, equity or debt securities); that rate is the opportunity cost of capital (OCC) to discount cash flows of potential rents.  IRR is the annual return derived from the interaction of positive and negative cash flows, assuming profits are re-invested into the property.  As noted above, leases are individual investments whose cash flows generate a trend of IRRs that achieve EF for the property over a holding period.

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The EF can be realized from renewals and re-lets by determining the market value of: renewals, most likely uses of re-lets from basement to rooftop, optimal subdivisions of floors, and exterior signage on highly-visible exterior walls.  Give yourself enough lead time to evaluate whether to change tenants and lease terms to sharpen performance of the EF.  (The lead time enables social responsibility for the incumbent tenant to relocate within a reasonable period of time.)  Projecting the discounted cash flow (DCF) will enable you to identify the rent psf required from each lease over its term to achieve EF over a defined holding period.  The DCF is necessary to factor the rent roll, expense schedule, and debt service to identify equity returns, NPV, and IRR for each year of the investment’s holding period.  Discounting NPV annually at OCC will show EF trend per year from cash flows.

economic cycle

If your organization is a long-term holder of property (i.e. up to 30 years), I suggest viewing EF in cycles of microeconomics that factor lease terms of your anchors.  Lock-in lease terms ahead of declining microeconomic conditions to ride out the cycle until rents begin rising and concessions decline.  For example, storage, retail, loft, office, healthcare, and multifamily spaces each have different market values with different needs from leases.  If your anchor leases are 20 years and microeconomic cycles are 7-10 years, cash flows from anchors are a hedge against market cycles, improved by cash flows from mid-range leases (e.g. 7-10 year terms), and improved from volatility of transient leases (e.g. 3-5 years).

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Ensure lease templates match the needs of use categories, yet are fine-tuned to economic and legal terms negotiated with each tenant.  The sum of lease templates per space category contributes to posture the property with inherent strengths and residual risk to support its market value.  This posture plus accurate financial reports showing EF can attract capital markets or buyers, extracting the most market value from the property (to finance or sell).

Prior Planning Guides Efficient Frontier

Re-letting space at favorable market terms may not perpetuate the EF.  IRR can be negatively impacted if space is brought to market within a few months of becoming vacant, causing lost cash flows from systematic (e.g. uncontrollable) forces of supply and demand.  Months may pass when no lease terms or property sale can recover all lost cash flows from vacancy; that state could also bring DSCR too close to NOI, upsetting your investors and lender(s).  In contrast, if renewals or re-lets are planned to factor lead time and market timing to complete them at preferred lease terms, EF is maintained, optimizing returns derived from cash flows (e.g. rent roll, expense schedule, debt service).  (Note that EF helps to improve tax benefits derived from depreciation and interest expense.)

Therefore, factor microeconomic forces of supply and demand to restore cash flows from new leases; add lead time for construction permits, construction, and rent concessions.  Each expiring lease should be evaluated with 6-8 months lead time from tenant’s move-in date.  Add time to secure construction permits, building materials and labor, for lease negotiations, space tours, and space marketing; the lead time could become 18-24 months ahead of a lease expiration date.  Any tenant should know whether they’ll remain in a space two years ahead of lease expiration.  Marketing to re-let spaces should occur when rents are full and robust; tours of units to become vacant are carried out per notice terms in the lease.  The goal of re-let is to optimize cash flows from a synergistic rent roll at lease terms approved to realize EF for the property.

Summation

Commercial real estate has evolved into market consciousness as an institutional investment grade option among equity and debt choices available from primary (investment bankers) or secondary (stock exchange) investment markets.  Therefore, factor investment objectives for your multi-tenant property over the holding period, approaching economic management from an asset manager’s perspective.  Realize objectives by determining most-likely uses of space, fair market rent, cost-effective operating costs, low financing and re-let costs.  Model these attributes into a DCF projection, add sensitivity analysis to test tuning attributes.  Optimize your rent roll through anchor, mid-range, and transient leases as outlined above.  Discount annual NPV at the OCC to determine rent needed to achieve EF from the interaction of positive and negative cash flows.  EF is achieved when the rent roll (IRR from cash flows on x-axis) equals risk (lease years on y-axis).  Hold mindshare meetings with senior staff to agree on lease terms the leasing team will secure to achieve EF.  Hand an abstract of the approved lease terms to the managing agent or agency leasing rep to guide them to secure from renewal and re-let deals.  This is a spiral process of steps as renewals and re-lets come due within 30 months.  Re-model terms of the abstract within 12 months of each new microeconomic cycle; the results will position your property to achieve EF from its next holding period of cash flows.

I trust the approach outlined above has been helpful to shaping economic performance of your multi-tenant property.  BREG prefers to take leasing assignments by applying Modern Portfolio Theory to achieve the Efficient Frontier from stabilized cash flows.  BREG can create the Efficient Frontier for your property by applying template spreadsheets in MS-Excel; we will prepare an asset management plan for you to review and edit or approve.  Please click “Request A Consultation” link in the upper right of the screen.  Enter “MPT: Efficient Frontier” in the subject line; please include the name, email address and telephone number of you or your executive assistant in the message body; I reply within 24 hours to arrange an exploratory conference call.  Thanks for reading and listening.###

Portfolio Management: Position Commercial Property for Sale

A natural goal of property sale is to leverage market conditions to optimize value from equity, operating cash flows and/or capital appreciation.  A high-level business analysis of objectives can position the price to attract your target buyers.  Stabilized long-term future cash flows are likely to attract low-cap core buyers.  Expiring leases totaling 25-40% of GRA are likely to attract value-add buyers.  Vacancy of 41% or more or sale of surplus land is likely to attract opportunistic buyers (e.g. property reposition or land development).  Feasibility analysis should factor stakeholder interests of property ownership (e.g. equity invested), portfolio management (e.g. return on investment), and asset management (e.g. value of cash flows).  Analysis should produce 3-4 sale paths that meet yield objectives of equity invested.  The holding period should be limited to the asset’s ability to generate preferred yields.

Sale to a core buyer can occur from stabilized cash flows of moderate to high credit tenants lasting 7-10 years forward.  A peak selling price is likely; future returns are likened to a low-risk bond.

Sale to a value-add buyer can occur from 60-75% stabilized cash flows lasting 5-7 years forward.  The sale price will be a risk premium [over the core cap rate] that factors re-lets to occur within 5 years, costs of deferred maintenance, and economic conditions of the submarket.  A value-add sale could tap capital appreciation to place into an attractive investment opportunity.

Sale to an opportunistic buyer can occur from 59% or more upcoming vacancy, extensive capital improvements to bring the property to modern standards, or to sell banked land for development.  The sale price will be a risk premium [over the value-add cap rate] to factor hard and soft development costs.

The success of each sale choice is dependent on a feasibility study aligned to stakeholder objectives.  Fine points of the listing will shape marketing and closing terms of sale.  BREG can prepare a detailed feasibility study to present to stakeholders; it can also provide asset management services to prepare the asset for sale.  This post outlines that service.

CPA as Trusted Intermediary for Client’s Space Change

Agency Leasing

Users of commercial space need negotiating advantage and a level playing field to perpetuate and/or facilitate their competitive advantage.  Handling space change as a demand-driven commodity often leads to overpaying and gives up legal rights of space use; that can become a material encumbrance on future revenues and operations.  Commoditized space change (e.g. listings, business terms, legal, uses of cash) enters a deal’s lifecycle 2/3 of the way into the transaction.  It enables the landlord [or seller] to benefit well economically and legally over the lease term [or at sale closing].  As space costs rise, a planned space change is more likely to facilitate operating objectives during the occupancy period (e.g. sharp cost, legal flexibility of space use).

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Clients expect their CPA [and CFO] to advise how to keep more of the revenue they make.  Unbeknownst to [client-facing] the firm’s practice partners, the CPA team can be leveraged as trusted intermediary to help evaluate feasibility, prepare for, and complete space change.  The client-facing [practice] partner should offer preliminary due diligence services that includes projections of future space costs, occupancy term per trends in [client] revenue history, plus a budget for space change.  The result is Occupancy Cost Ratio (OCR).  OCR suggests revenue as consistent healthy multiple of space costs; what ratio is in the client’s best economic interests?  What do operating trends suggest the term of the lease to be, limiting the impact of space costs on revenue?  If a property purchase is considered, what size should the land and building be to meet operating and future growth needs?  Should a portion of the building be leased until needed to grow daily operations?

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The CPA team projects a budget for space change, that plans for rent security [or down payment], tenant improvements, and moving costs, leaving room for unexpected nominal items.  Space change costs can be factored into the change year’s P&L to assess its impact and payback term.  Any tenant improvement costs may be depreciable over the lease term.  The CPA team also explains the tax advantages of property ownership when applicable.

Biz Partners

The firm’s business development executive should build a network of savvy commercial tenant reps to partner with when client’s require space change.  BREG’s 7-Point Service partners with CPA’s to process their client’s space change; the project partnership factors Occupancy Cost Ratio.  Click here to learn more.

Portfolio Mgt: Commercial Real Estate

Investments in CRE  are Affected by Two Factors

One.  Equity.  As equity allocations [for investment] compete with commercial real estate, stock and bond markets, investors are evaluating the returns they could obtain from investing equity into opportunities of interest that receive a larger net amount in the future (a/k/a investment returns).  Investors will compare the returns they could receive from investing in real estate vs. stocks or bonds, and the tradeoffs made to invest in illiquid real estate vs. more liquid stock ownership.   Liquidity enables the investor to end the holding period of an investment to reallocate the principal plus capital appreciation into a more lucrative investment opportunity.

Two.  Basket of Leases.  A large percentage of property value is derived from the discounted value of the lease-up.  Investing in new development could be a 3-7yr hold pending the value of the lease-up or could be likened to a bond by investing in a long-term lease.  Leases within the commercial building are likened to individual investments within a portfolio (the building).  As leases expire, the space may re-let at a higher rental rate, or a lease renewal is made to maintain the stream of cash flows.  Renewals are often made at discount to market value to attract the tenant to remain operating from the building.

Larger cap investors tend to match investment opportunities with the returns they set for equity or equity funds.  Portfolio returns are the result of how equity is placed into the project in relation to NOI derived from dynamics of the basket of leases.  Thanks for reading; please comment or write “Portfolio Management” into the “Request a Consultation” form at the base of “About Us” page.  I will reply to your inquiry within 24 hours. ###

Over-valued Property

If you received a notice of proposed market value for the next property tax year, that attempts to “mark your property to market”, overvaluing your property, it’s likely the proposed market value is based on comparable properties that are incomparable to yours.  You could retain legal services to contest the assessment to lower the market value.  However, if your property needs capital improvements, a cost approach is needed to convince the small claims judge and assessor that the market value of your property should be based on comparable properties less the aggregate value of construction bids to perform basic and reasonable capital improvements.  The following is a multi-point approach to contest your assessment to mark your property to market accurately.

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Preparing to Contest Your Assessment.  Schedule a meeting with a member of the assessor’s office to discuss the source of the proposed market value and discuss the procedure to contest the proposed assessment.  Take detailed notes; they will guide you to plan to file the grievance claim and how to present it well in small claims court.

Ppty Condit

Assess the condition of your property.  If it was sold, what capital improvements and remodeling would a reasonable buyer make to modernize the property?  (Note: the more reasonable your presentation, supported by fair documentation, the more likely it will be approved.)

Comp Anal

Comparables.  Make an earnest and diligent effort to source comparable properties to yours, whether listed or sold within the past 12 months.  An accurate comparison helps to make your grievance case more reasonable in court.

Const Bid

Cost Approach.  Evaluate your property thoroughly, from top to bottom.  What capital improvements would a buyer make to modernize the property with basic capital improvements.  It would be a good idea if you recruited the help of a friend who is a general contractor for the property type you own.  Spend an hour or so touring the property with them to evaluate what basic improvement would be reasonable to make upon closing on the property.  If it’s a home, what basic capital improvements would a new homeowner need to reside in the home with safety, efficiency, and low cost operations?  If it’s a commercial property, what basic capital improvements would be needed to make the property attractive to renew a lease or relocate to?  Examples are changing old inefficient windows, modernize the furnace, fix broken sidewalks, remodel where necessary, etc.  Some physical parts of your property could be functionally obsolete.

Biz Meeting

Prepare a detailed presentation of current property state, proposed market value, accurate comparables, formal written estimates for capital improvements, and clear pictures of each part of the property you plan to improve.  Pictures help to tell the story of why the market value of your property is less than the assessor’s office proposes.  Take the package to a local lender or mortgage broker to determine what loan would be offered to a buyer.  Those underwriting terms would help prove the market value you’re proposing for your property.

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Contesting the Assessment.  The goal of the paperwork you submit and the verbal presentation in small claims court is to prove, beyond a reasonable doubt, that your property would sell for less than the market value proposed by the assessor due its physical condition.  Be prepared to continue the contest through all phases of negotiation; you may need to provide additional information during that time to secure the market value you seek.  Also, be prepared to contest the assessment each year until you have won a market value that matches the value of your property; an annual contest may be necessary to maintain an accurate market value of your property.

I have taken several continuing education courses in property valuation, that education has often enabled me to value a property within 7% of the closing price per sale.  An accurate market value keeps your property taxes fair and enables you to list the property for sale at a competitive price.  If you’re faced with an overvalued property from your assessor’s office, BREG can guide you to prepare to contest the assessment.  Please click “Request A Consultation” link in the upper right of the screen.  Enter “Over-valued Property” in the subject line; please include the name, email address and telephone number of you or your executive assistant in the message body; I reply within 24 hours to arrange an exploratory conference call.  Thanks for reading and listening.###

Real Estate for Health Care or BioTech

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Real Estate For Clinical Health Care or Biotech Use

Revenue for a healthcare practice can be uneven, pending results of billing vs collections.

% cash per visit

% private pay

% Insurance collections

% from medicare or medicaid collections; if applicable.

If space changes are planned for your practice, how will your revenue fit with space costs?  Analyze to make the right choice.  Apply Occupancy Cost Ratio, some principles from CAHIMS, and project management via CAPM.  Occupancy alternatives are Lease, Buy, Like-Kind Exchange or Sale-Leaseback.

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Lease

Leasing space affords relatively (predictable) fixed costs, includes outsourced management (from the landlord); most of the architectural services, fees and construction costs are borne by the landlord, yet amortized over the life of your lease.  Rent (that often includes electricity) is a business expense, reducing income subject to tax.  The business terms of lease (and renewal) should match the occupancy needs of your practice.

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Own

Pros: Owning has deductible tax advantages: i) mortgage interest, ii) depreciation, iii) property maintenance and groundscape expenses.  Investment advantages: I) equity appreciation, ii) asset appreciation, iii) adds financial value to your practice.

Cons: I) office space is fixed unless you lease extra space until ready to use, ii) you pay/manage construction/rehab to ready the property for use, iii) unexpected repairs [needing funding and project management] lower profits, iv) months to sell vs move at lease expiration.

Other important space expenses are I.T., phones, furniture, fixtures & equipment (their financing rent, maintenance), gas, electric, water/sewer and trash.

If its cost-effective, property management duties can be outsourced to a fee-based vendor.  The vendor typically explains the terms of their engagement in a Service Level Agreement (SLA). SLAs should be more specific about remediating disputes and what service are not included.  Your business manager should manage the performance of that relationship.

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Like-kind Exchange

If moving to sell / buy is preferred, you can defer the capital gains taxes by making a Like-kind exchange; I review the activities necessary to complete this type of transaction.  In general, you must invest all proceeds of sale into the exchanged property within six months of closing on your existing one to defer capital gains taxes from sale.  There are business rules, tax rules and procedures to comply with.

Sale Leaseback

Remaining in your location may be the best choice, yet you want to exit property management to focus on patient care (and practice operations).  A sale-leaseback sells your property to an investor in exchange for a long term lease (7 years or more); business terms of the lease will be negotiated.  You get a big check for your property and flip property management to the investor.  Some doctors have chosen this route over others in 2011 because loans are available for properties supported by reliable rent from creditworthy tenants.

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Real Estate Analysis

How would you know which choice is best for your medical practice?  Applying Occupancy Cost Ratio and vendor analysis methods from CAHIMS helps to sharpen your short list of choices.  BREG Health Care (with transactional contributors to the 7-Point Service) offers an unbiased neutral perspective of your real estate costs, free from fees of a transaction.  We review your space operating costs to produce a complete, cogent report to suggest tangible ways to operate lean and efficiently.  The team reviews market conditions, runs draft analysis to present a rough idea of market conditions to consider.  You get a financial picture of your options with strategic advice of which option to choose.  (You decide how to apply the net proceeds of sale to your medical practice.)

BREG has brokered 19,000rsf of long-term leases on behalf of health care providers and landlords.  If BREG Health Care and Biotech can be of help to your business, please click “Request A Consultation” at the upper right of the screen, write “Health Care of Biotech” in the subject line; add your comments, name, email address and direct dial number to reach you; I reply within 24 hours.  Thanks for reading, perhaps we’ll talk with each other soon. ###

Portfolio Management: Commercial Multi-Tenant Portfolio

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Whether you’re an investor and/or developer of a local or mid-tier commercial multi-tenant property portfolio, portfolio management is a critical first step towards realizing return objectives for equity of the firm and for investors.  How will NOI, financing and depreciation contribute to generating preferred returns from the asset?  What holding period and reversion is needed to generate preferred IRR/MIRR?  These objectives will be factored into your Asset Management plan; your asset manager will advise your portfolio manager and owner how market conditions will impact portfolio management objectives.  Leases for each property are independent investments [with staggered lease expiration dates] that shape the cumulative IRR for the asset and shape the exit cap rate used for reversion.  The asset manager relies on the property management staff to maintain the integrity of the property, and a skilled agency leasing team to lease-up vacancies and renew leases consistent with the asset management plan.  Roles of key team members are as follows:

Owner.  Sets objectives for portfolio returns, secures locations, sources and secures the lead architect, construction manager, financing, and anchor tenants; evaluates leased properties to invest in.

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Portfolio Manager.  Is in-tune with investment philosophies and methods, has relationships with private equity investors and commercial lenders in capital markets, and is well-versed with returns generated from alternative investments.  Provides owner with advice about fair market value of assets considered for purchase, advises how equity placement can produce desired returns based upon internal competencies and market conditions.

Asset Manager.  Akin to a COO who creates an asset management plan to realize owner’s objectives, which may include how economic performance of the asset contributes to returns from the portfolio.  Some asset managers specialize at turning around troubled assets within a timed project.  Direct reports are from the Property Manager, portfolio controller, marketing director, leasing team, and property attorney; the Asset Manager manages scheduled audits of property economics by outside auditors.  The asset management plan is the result of extensive analysis of the current state of the property (e.g. physical, economic, and staffing), its SWOT analysis, and how market conditions influence shaping of the asset management plan.  The plan typically includes most-likely uses for vacancies, a capital improvement project, a marketing plan to lease-up the vacancies, a tenant improvement allowance, rent concessions, a tenant retention plan, costs for marketing and brokerage commissions.  The asset management plan is measured for performance at scheduled intervals to identify strengths to maintain or sharpen, and gaps to close.  The asset manager maintains a consistent relationship with the portfolio manager, yet as needed with the [busy] owner.

Property Manager. Manages all physical operating activities of the property to maintain the physical integrity of the property and its daily economics.  They follow the asset management plan to reach owner’s objectives for the property.  Is hired by and reports to the Asset Manager.

Marketing Director.  Responsible to create a marketing plan and materials to market vacancies, promote promotional lease transactions, and property messaging to retain tenants.  Assists the Asset Manager as internal service provider.

Leasing Team.  Responsible for sharp and current knowledge of the local space market, where to look for prospective tenants, and handles lease renewals.  The team leader is a public-facing, approachable personality, bridges owner’s objectives with tenant’s needs for space via lease negotiations, and coordinates space planning services with the building space planner.  Is hired by and reports to the Asset Manager.

 

Asset performance occurs by buying at a mid to high cap rate for the current 12 months of income, identify a plan to improve the property physically and economically, secure financing at terms favorable to the cash flow, upgrade and relet the property, choose to keep it, or sell in the future at a lower cap rate of NOI to realize yield goals.  (Stabilized income is reflected in a lower risk cap rate (e.g. exit cap rate).  Some developers sell a percentage of the accumulated equity in the project a few years after the cash flow is stabilized to re-start the process with a new project.

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The success of each asset is dependent upon aligning owner’s objectives with market conditions, interpreted by the portfolio manager and asset manager.  Mutual agreement about asset goals facilitates economic success.  Holding periods exceeding 7 years may require the asset management plan to be revised to re-align SWOT of the asset with market conditions.

Whether your investment house is considering acquiring new assets, upgrade owned assets, or exchange an asset for a different one, BREG can assist as portfolio manager, asset manager, investment sale agent, or team leader of your leasing team.  Please click “Request A Consultation” link in the upper right of the screen.  Enter “Portfolio Management” in the subject line; please include the name, email address and telephone number of your executive assistant in the message body; I reply within 24 hours to arrange an exploratory conference call.  Thanks for reading and listening.###

Economic or Operational Changes Prompt Changes in Space Use

Your company is enduring changes to its economics (good or bad), and/or real estate costs have escalated to be too costly; either are affecting operations. The business is either growing or retracting and margins are flat or thinning too much. Payroll, FF&E, and real estate costs are being reviewed. If change could be required, now is the time to determine how, when, and how much it will cost to implement. This is the best time to take a detailed financial and qualitative review of your business operations for the next 12, 36 and 60 months. Assess the occupancy cost ratio and identify options to accommodate the changes you’re enduring.

MF global teamStaffing. If your staffing needs are changing, will you have too much or too little space to seat them? Approx 100sf per person is ample (executives may need a bit more), plus 20-25% for people movement. Lease office space so you reach your occupancy limit at about 2/3 or 3/4 of the way through the term (Smith, 2017, Feb. 27). Leasing too much space and cash flow can be hobbled by an excessive rent payment and under-utilized space, too little space and staffing growth will be limited (Fennie, 2005, Jan). Space issues affecting 20 or more permanent staff are cause to re-evaluate space needs. Your COO should be guided by a space planner about the carpetable space optimal to meet staffing and workflow needs.

finan-modelingOccupancy Cost Ratio (OCR): Ratio of Real Estate Costs to Revenue. The rent to sales (revenue) ratio (a/k/a Occupancy Cost Ratio) measures the impact of the cost of leasing commercial real estate space (Smith, 2015, April 23). Measure with gross space costs in mind (e.g. rent, additional rent, utilities, CAM). Space too small could inhibit production capacity and revenue growth. Space too big could be cutting margins enough to prompt cost cutting. Your COO and CFO should be collaborating to identify the correct amount of space to foster productivity, at a defined OCR.

Cmcl Leasereal-estate-deedHolding Period (Lease or Owned). How are business cycles affecting the holding period for space taken? Holding period is affected by the location needed to operate from, projected annual revenue, staffing costs, and the FF&E needed for production. Ensure your tenant rep and real estate attorney collaborate to negotiable acceptable exit clauses from leased space. Owned property should include space to rent until needed or vacant land to expand the building footprint and height as needed.

Ofc Flr PlanFlexibility of Space. The three items above will affect how flexible your space should be. The office landscape as we know it is changing and the mobile working revolution is helping third spaces race to the top of wish lists (Moufarrige, 2018, Jan 30). Flexibility translates into expansion or contraction clauses in your lease, buying a building larger than is needed to expand into, or buying the right size building with extra land to build on later. Expansion space can be delineated and rented until recapture is needed. Commercial real estate landlords should already be thinking about offering more flexibility, more amenity, more community and a customer service experience to avoid empty or underused real estate (Moufarrige, 2018, Jan 30). In general, technology companies, that are often open long hours, are pushing the collaborative, flexible and sustainable work environment into other industries rapidly. It’s decreasing the amount of space per person and how flexible space design is.

Obs Ofc SpOpenSpace-crop-1600-900Condition of Space. If the business is operating from a space for more than 10 years, it may be becoming obsolete (design, function, technical, aesthetics) because workflow, market dynamics and work culture have matured. It’s not uncommon for established companies to move to position productivity for the next 10-15 years ahead.

 

 

Corp AdvisorSteering Committee. The COO should call a meeting of department heads or managers to identify how space and its costs are affecting daily operations. A lead time of two weeks or so should be sent out for the meeting to enable participants to assemble facts and qualitative content of the meeting’s agenda. The meeting should be substantive, honest, reveal facts and subtle chatter about space use. Once facts are shaped to paint a tangible picture of space status, it’s recommended to hire a space planner to assess the space, then draft a 3D plan of what new space could look like; a timeline to build and buildout costs should be estimated. Decision support for your COO, CFO, and CEO should come from the steering committee. The space secured for use is decided upon and signed for by the CEO and COO. The CFO guides them how occupancy costs and expenses will affect financial statements and tax returns.

 

To recap, successful space changes occur through careful evaluation and preparation to begin a space search. You’re likely to get the acquisition terms your business needs by guiding your endeavor with objectives for the space change. If your COO is interested in evaluating options to change the commercial space for the business, please ask your COO to fill out “Request a Consultation” at the base of About Us in this website. Enter “Considering Change” in the subject line, then paste the email signature of their executive assistant the message body. I reply within 24hrs to arrange an exploratory conference call within their calendar. ###

References

Fennie, N. (2005, Jan). Space Planning: How Much Space Do You Really Need?, The Space

Place, Retrieved from https://www.thespaceplace.net/articles/fennie200501a.php


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Smith, N. (2017, Feb. 27). What is the average square footage of office space per person?,

Austin Tenant Advisors, Retrieved from

https://www.austintenantadvisors.com/blog/what-is-the-average-square-footage-of-

office-space-per-person/

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Smith, N. (2015, April 23). What Should Your Annual Rent to Annual Sales Ratio be When

Leasing Commercial Real Estate?, Austin Tenant Advisors, Retrieved from

https://www.austintenantadvisors.com/blog/what-should-your-annual-rent-to-annual-

sales-ratio-be-when-leasing-commercial-real-estate/

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Moufarrige, M. (2018, Jan 30). Changes In Commercial Real Estate Are Rewriting Landlord

Rules For The 21st Century, Forbes, Retrieved from

https://www.forbes.com/sites/forbesrealestatecouncil/2018/01/30/changes-in-

commercial-real-estate-are-rewriting-landlord-rules-for-the-21st-

century/#1e2ee32441ad

Leverage Real Estate to Grow Business

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The space your business operates from represents an investment to bring a product or service to market to generate a return on investments through business profits. Founders and leaders of growing companies often begin looking for space alternatives as the business outgrows its present space. Merely looking for space within a budget leaves the business vulnerable to taking ill-fitted space you may regret using and enduring. How to change this efficiently and effectively??? This post can help guide a decision about leasing, purchasing, or committing to a long-term sale-leaseback; focus on the section most relevant to the needs of your business.

View real estate as a fixed, yet flexible tool to operate your business. It must be flexible in use and marketable to vacate, relet, or sell when its no longer useful for your business. (Vacating an attractive space that’s no longer useful for your business (e.g. location in building/on floor, wiring, finishes, cosmetics) could be attractive to your landlord.)

In-lieu of “finding your next space”, “match your next space, investment, or land acquisition to the purpose of your endeavor”. You’ll get an entirely different result; a space used at terms favorable to your business.

Space size and price do not offer enough of a means to compare options to choose from. A savvy Tenant Rep will show you the qualitative and quantitative modeling of how to look at your space options to decide which deal meets your operating needs.

Steering Committee

Corp AdvisorCreate a steering committee to manage the search and secure process from start to finish. They are tasked to establish/shape the criteria for facilities, location and economic planning via a bottom-up approach for the CXO team to craft and fine tune. Steering committee members include the COO, business unit managers, a line manager, exceptional team leaders, your Tenant Rep; other key company members can be copied on minutes of steering committee meetings. Ingredients for space criteria include:

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These physical and financial plans keeps space needs known, predictable and costs low. Space criteria can be fine tuned with the help of a space planner from an architectural firm versed with permitting, and a relocation project manager. Search/secure planning is as important as preparing the space for use. The physical and financial aspects of each space considered can be plugged into real estate transaction modeling applications (spreadsheets from MS-Excel or affordable modeling software such as PlanEASe or ProCalc). A comparative quantitative analysis helps to reveal your cost of occupancy. The final transaction model will serve as a guide to negotiate the business terms for the space. The end goal is keeping space costs known, predictable and low while adding functional operating value to your business.

Comp AnalComparing lease, buy, or sale-leaseback options shows your cash outlays, cost of capital, productivity of staff from space design and location, and shows tax impact. Your Tenant Rep should help you identify alternatives if no space is found, or deal terms negotiated, to match your operating needs. BREG’s review of options with you include how we’ll respond if the seller (and other players) cannot meet your transaction or development needs.

Compare benefits of leasing vs. buying, and sale-leaseback. All rent costs are operating expenses; subletting must follow the legal subsection outlined in your lease. As a lease is the legal right to use a space for rent, TI spent by the Tenant to last the duration of the lease could qualify for depreciation in financial statements. Owned real estate, plus capital improvement expenditures are subject to depreciation. Paid mortgage interest and property taxes are deductible on business income tax returns; interest is higher in the early years of the loan. A sale-leaseback taps the equity and capital appreciation of your owned property, that may need some capital improvements to continue operations. Delegate your CFO to discuss these issues in detail with the real estate specialist of your CPA provider.

Lease

Cmcl LeaseYou can choose to exercise an option to renew, expand within your building, move within your building at new terms, or relocate to another property. Give your business 24 months lead time from 3500sf and up of office space to conduct this search/secure project at a leisurely pace, relative to market conditions; construction (from drawings to move-in) will take six months to complete. Each space considered should be presented in column format, side-by-side, to facilitate a decision of accept, fine tune terms, or drop the space from consideration. This format enables preparing fighting alternatives to secure the deal you need. Overall, this method of comparison uncovers fine points of options to root out the right option for you. Key business term of leasing include rent security, billing of utilities, building rules on HVAC after-hours, building access before/after business hours, expansion or contraction rights, sublets/assigns, terms of early exit. Signing the term sheet of the deal testifies that the choice made from the search process is renew, expand or contract space, relocate within the building, relocate; the outcome is planned and predictible.

Sale-Leaseback

If you own your property and are considering to unlock its cash value from a sale-leaseback, a financial model will show the discounted market value of the property, rent, operating expenses, and how investor’s holding period may affect your rent responsibilities. Tax impact influences your consideration to complete a sale-leaseback transaction (capital gains, rent). An investor specializing in sale-leasebacks can facilitate the process; your Tenant Rep or investment sale broker can connect you and negotiate the transaction terms. Sale-leaseback is an attractive way to remain in your current location long-term, get capital improvements made to the property by an experienced real estate investor, and re-capitalize your business with the strength of your company’s credit and net proceeds of sale.

Buy

real-estate-deedPurchasing calls for placing available cash into acquisition costs, construction costs (soft, hard, wiring), property management, mortgage and property taxes; all other costs being equal if leasing. Considering to buy a property requires quantitative and qualitative analysis. Analysis performed by your Tenant Rep or investment sale broker shows how your investment will perform as compared to placing the money in other investments and how the real estate adds value to the business. Owning a larger building with a tenant(s) could limit fixed costs, allowing for on-site space expansion when prudent. Your investment sale broker prepares a financial model about how the net profit from Tenant(s) could be invested to enhance investment yield. The financial model shows how your cash will work for you, plus net proceeds of sale, projected over a holding period. Factors to consider include physical space, price, acquisition costs, holding costs / benefits, tax effect, return on investment. The financial and physical outcome of acquiring commercial property requires some degree of predictability to focus on operating and improving the performance of your business. BREG shows how a mortgage, tax, utility and economic development benefits will help lower your acquisition, development and operating costs of the property. Each scenario is reviewed to the extent you need to create options to focus on. The report is discussed in layman’s terms to make a choice, giving a predictable outcome.

return on investmentFive (5) Key Factors affect a property purchase:

  1. Physical building and location. What kind of building and layout does your business need? Where should it be located?
  2. Development. Does the building need retrofitting, rehab or is land development your best option?
  3. Financing (including IDA financing). Your credit status will dictate the lending terms you can secure.
  4. Economic Development benefits from utilities, job creation, construction. Location of the business, employees relocated, new hires and how you power/light your property will all help identify the economic development benefits available to you to lower your cost of occupancy.
  5. Tax benefits (mortgage interest, depreciation, property tax abatements, effective tax rate). Property tax abatements, plus tax deductions for interest will be factored into the transaction to show its financial effects on your cost of occupancy.

If a change of the real estate for your business is on your horizon of projects, I encourage you to contact me to talk it out. Test-fits of space and transaction modeling have worked well for BREG clients since the late 1990’s. Please click “Request A Consultation” link in the upper right of the screen. Enter “Real Estate on My Horizon” in the subject line; please include your name, email address and telephone number in the message body; I reply within 24 hours.  Thanks for reading and listening.###

Multi-tenant Commercial Investment Portfolio

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Asset management of your multi-tenant property can be more than managing income and expenses for new leases, renewals and relets. Consider shifting your perspective to view each asset property as a portfolio of investments. (The economic performance of each property will contribute to the returns and profits of the collection of owned assets (your core portfolio)). This will shape asset management and improve IRR, annually and over the holding period. Take these simple eight steps to carry out this shift for you.

1 Establish Your Basis. A portfolio of equity investments needs its basis to calculate a return over the holding period, so should your real estate investment. Your basis includes all costs associated with buying the property and readying it for tenant use. Each block of capital improvements updates the basis to calculate returns from (e.g. upgrades to lobby, common areas, elevator, sprinkler system, air handling systems, etc). The completed updates have created a new building ready to accept new tenants.

return on investment2 Establish Expected Returns. What returns are expected from the property? I recommend using MIRR vs. IRR to get a truer perspective of returns on investment. (MIRR factors your borrowing costs and returns from alternative investments; IRR assumes profits are reinvested into the property, which is often unrealistic.) This step requires a discounted cash flow (DCF) analysis to drive the leasing and financing terms to realize expected returns. Keep projections in the DCF as close to signed lease terms as possible; it will guide and expedite your leasing effort.

3 Bid Financing Terms. With your DCF nearly complete, put your financing terms out for bid to source the terms you’re looking for. Sensitivity analysis of the DCF can be performed to select the loan terms that meet your financing needs.

xls-anal4 Rent Roll. View leases as investments contributing to the returns of your property. The rent roll within the completed DCF serves as guide for negotiations of each lease. Collaborate DCF analysis with your investment analyst and your leasing team to ensure leasing efforts are guided by expectations of ROI. Leasing results should produce deals that contribute to the property’s expected returns, yet flexible enough to meet field conditions of leasing.

5 Operating Expenses. Use your DCF to shape efficiencies of expenses during the holding period. Trimming expenses without an end goal will likely produce marginal economic benefit. For example, negotiating property management issues and reducing property taxes should be guided by the DCF.

6 Lower Taxable Income. Remember to factor how depreciation, loan interest, and SALT payments can lower the taxable income for the property, raising its investment returns.

pm-icon7 Property Repositioning. Building systems and equipment nearing functional obsolescence (i.e. air handling, windows, elevator cabs) could be cause to vacate a percentage of the property to install capital upgrades. This should be approached as a redevelopment project that is economically evaluated to justify the investment, carrying costs during construction, and new revenue. Follow steps to plan the project.

8 Resale. Multi-tenant properties are bought based on income, expenses and sale projection; some more established landlord hold their properties for tens of years, improving returns from relets and capital improvements. A resale should be planned about 36 months before closing is needed to source a buyer at or very near to establishing expected returns. Use a copy of the completed old DCF to test it under project sale terms. That DCF will drive sourcing of a buyer to meet expected returns from re-sale.

Closing Comments. Ensure you have established all key points to making your multi-tenant property perform as a portfolio of investments; the return of each multi-tenant property contributes to the aggregate return of all properties your enterprise owns. Ensure your real estate analyst is nicely versed with Excel, Argus Enterprise, or PlanEASe to run the DCF, that includes running sensitivity analysis to test fine tuning of the DCF. Consider setting a company policy about handling each property this way, operationalizing the steps with your staff through a few test runs. Apply a project management framework to carry out the change in asset focus (Initiate, Plan, Execute, Monitor & Control, Close.)

If you agree that making this change is sensible for your asset portfolio, request a free 45 minute consultation with me by filling out the “Request a Consultation” form in the About Us web page. Please put “Asset Portfolio” in the subject line, paste the contact information of your executive assistant or COO into the message body. I will reply within 24 hours to schedule an exploratory call with your CEO or COO to assess your specific needs. Thanks for reading, perhaps I’ll hear from you soon. ###