By Al Lewison and Cam McLellan
We purchased a block of land a few years ago, worked through the planning process, constructed a large commercial building (we were lucky enough to find a government tenant take a 10 years lease). But what we wanted to talk to you about today was the pros and cons of investing in commercial property.
Within the property spectrum there are many different types of investment, residential, commercial, land. You can invest for growth, you can invest for yield, it’s a whole Pandora’s Box of options.
Our building was a commercial property with a long term lease and fairly healthy rental returns. But as we’ve talked about in the past residential property (small fish being the sweetest) is the easiest for you to lease. When you’re looking at a 3,000 square metre building there is a lot more risk you won’t be able to fill it and a lot more risk you will be paying the interest payments for long periods while finding a tenant. There is definitely a higher risk that you should be aware of.
The two pros of owning commercial property is the growth and yield – you can get a good balance of both. The price on a commercial property is linked to the yield rather than just the general market conditions. The other is the make good – the tenant is responsible for the condition of the building when they vacate, meaning they will need to bring the building back to the original condition. This is unlike residential properties where the tenant has all the power.
The cons of owning commercial property is obviously a much larger equity requirement, it is not uncommon to have to put in 30% deposit plus costs. The other is the stability of the tenant, obviously people can get in to commercial buildings on a base level, but you don’t really want to go and buy a commercial building that is a corner milk bar – because the stability of the business going into your building holds a risk. But if you can get a large government tenant (for example) you will know they are going to pay the rent on time.
In commercial property you need to understand business first of all. You need to be able to assess the tenants’ stability. This means you need to be able to understand profit and loss statements, balance sheets, cash flow. Only then you can assess the tenant and decide whether they are worthy of having your building.
As previously stated, when starting out. Small fish are sweet. Build a portfolio of lots of little residential properties and only then consider the moved in to commercial.