Buying commercial real estate is a complex undertaking that is difficult even for experts to time right to maximize their investment value, let alone entrepreneurs or business executives whose areas of expertise are in different industries. It’s also a venture rife with risk, as buyers, sellers, agents, and renters alike can suffer the consequences of a dip or spike in demand. At the same time, for a business, on the upside the potential rewards can be substantial.
Why should a business buy? “To get a greater control over the cost of the real estate component of overhead, as opposed to leasing, where you can be victimized by the market if the lease rolls over when the market is tight and, as a result, you have higher rental costs,” says William Martin, chair of the real estate group in the Denver office at Kutak Rock LLP, a law firm with 400 attorneys and offices around the country. “The other benefit would be investment benefits, including depreciation of the property for tax purposes and, over the longer term, asset appreciation.”
There is no one-size-fits-all strategy for purchasing commercial real estate. That decision must be weighed by each business. The following guide will help a small business assemble a real estate search team, choose a location, and purchase property.
Purchasing Commercial Real Estate: Deciding to Buy Versus Lease
When deciding whether to buy commercial real estate, it’s important to understand the potential risks. The last thing you want is to buy property and realize a year or two later that you would have been better off renting. Here are some of the potential risks a business faces when buying:
- Location may backfire. Today’s “hot” neighborhood can become tomorrow’s “not” neighborhood. Locations are trendy. Gentrification may stall. The market may go bust. The area you choose one day may become undesirable the next. Of course, the reverse can be true, as well.
- Loss of liquidity. Businesses may tie up much of their liquidity buying real estate. It’s not always easy to sell real estate, particularly in a slump. At the same time, businesses that own real estate at least have something to sell if they need a cash influx to revive a lagging business.
- Tenuous cash flow. Tenants sometimes stop paying their rent. Other times, buildings are in need of unexpected — and expensive — repairs. Your cash flow can become compromised, especially if you are forced to simultaneously pay repairs and attorney fees to handle a tenant situation.
In order to be aware of risks, do your homework. Undertake extensive due diligence before signing any contract. You also need to be hands-on with your commercial property by overseeing every level of operation and making frequent on-site visits — otherwise, you may learn about problems after it’s too late to do anything to fix them.
The decision ultimately comes down to the economics. You may want to have a real estate expert help you undertake a rent versus own analysis, taking into account growth forecasts for your business and real estate market trends. “It’s really beneficial to sit down with an expert that can lay out options for you and discuss scenarios, such as in three years this is where business will be in terms of revenue, size, or people. This is how many locations we will have. This is what our space needs will be,” says Hessam Nadji, managing director of Marcus & Millichap, a national brokerage focused on real estate investment. A real estate expert can also help you figure out the costs of renting versus buying, factoring tax benefits such as depreciation.
Dig Deeper: How to Evaluate Your Office Leasing Strategy
Purchasing Commercial Real Estate: Assembling a Team of Experts
As a small business owner, you’re most likely not a commercial real estate expert. That’s why it’s important to surround yourself with the right team of experts. They can help you determine the right time to buy or sell, the right locations to consider, and the nuts and bolts of closing the deal. Here are some of the experts you may consider contacting:
- Accountant. An accountant can help you figure out what your business can afford and analyze the tax and operating budget benefits.
- Lawyer. A lawyer can help you complete the transaction, negotiating with the seller and lender on your behalf.
- Commercial broker. A real estate broker can help you identify potential properties and what you can afford.
- Mortgage broker. A lender or mortgage broker will help you sort through financing options, from bank loans to those guaranteed by the U.S. Small Business Administration, such as the Certified Development Company (CDC) 504 Program, used to finance primarily real estate or equipment.